Category: Investment

The Dow, S&P 500, and Their Relevance – Part 1

In the 21st century access to information is more readily available than ever before.  When it comes to the “markets” the Dow and the S&P 500 seem to be the most seen, talked about, and followed indexes in the United States.  But very few people know what they are looking at or stop to ask if what they are looking at is relevant to their situation.

So, what is the Dow and what is the S&P 500 and are they relevant to my portfolio? Over the course of the next three posts I will give a brief explanation of the two indexes and then finish up with the, “are they relevant to me” question.

Each of these indicators, the Dow and the S&P 500, is an index*.  The purpose of the index is to give a general idea of the movement of “the market” over a given period.   They are also often used either on their own or paired with other indexes to create a benchmark for an investor to measure their portfolio against.

“The Dow”

The Dow Jones Industrial Average is arguably the most popular and well known of the indexes in the market place.  It is made up of 30 large, well-known US stocks that are traded on the New York Stock Exchange.  The Dow was created in 1896 by Charles Dow and was originally 12 US corporations.  It was expanded to 20 corporations in 1916 and then moved to the current count of 30 in 1928.  It is owned and maintained by the Wall Street Journal. The 30 stocks that compose the Dow must satisfy a list of criteria to be added and included in the index.  If a stock that is in the Dow does not meet one of the criteria, over time it may be removed and replaced by another stock.

Though the Dow is popular among investors and the media, it has two weaknesses when it comes to using it as a benchmark for measuring your portfolio.  One, the way its return is calculated.  The Dow uses a price-weighted average for calculating its return which gives more importance to a stock’s price rather than its actual size in the portfolio.  Two, the Dow only represents 30 stocks in the US market which is a very small portion 4300 stocks that are traded on the US markets.

With the price weighted calculation and a small number of stocks, the Dow can vary widely day to day if one of its stocks has a volatile day.  This is why you may notice the variance in the Dow’s daily results compared the results of the other indexes or even your own portfolio.

In the next post I will discuss the S&P 500, looking at its pros and cons in the return calculation and the makeup of the index.  We will finish up the following week with the question of relevance as a portfolio benchmark.


*An index is not managed and cannot be invested into directly.

5 Long Term Investment Building Blocks

It is all too easy to lose your cool when the markets are rising or falling. When markets are rising we wonder if it can last forever, often times believing that it will go bad soon. When it is falling, it feels like things will never turn around and we worry about how much more it could drop.  Markets are volatile, and volatility on the up or down side can be scary.  If you can’t stay calm and make rational investment decisions in the face of this volatility you will almost certainly see the value of your investments suffer.  Legendary investor Shelby Davis once said, “you make most of your money in a bear (down) market, you just don’t realize it at the time”.  Because volatile markets are ripe with opportunity to either lose or make money it is important to have a strategy in place ahead of time, so you can make rational decisions while others around you are panicking.

Below are five fundamental blocks that you can build your investment philosophy on to help prepare you for the next round of volatility in the markets.

  1. Plan to live a long time – According to the Center for Disease Control a 65 year-old woman has a 20.3 year life expectancy, and a 65 year-old man has a 17.7 year life expectancy. This information might cause you some confusion if you’ve read that the average life expectancy in the U.S. is currently 81.1 for women and 76.1 for men. But these life expectancies are from birth — they don’t apply to someone who’s already reached age 65. If you are healthy and 65, don’t talk yourself into moving all your money into cash or CD’s.  If you are counting on income from these investments now and into your future, you will want to take some level of risk to make sure you don’t run out of money. Inflation is a big threat to your money and it is not easy to see it coming.  Plan for it.
  2. Diversification works – The old saying goes, “don’t put all of your eggs in one basket”.  This is fine for most things but when investing, the saying should probably be more like, “don’t just own eggs”. No one knows what the future for markets will hold. Even when one sector does well others can suffer, so own multiple classes of investments and multiple investments.  This will give you a more consistent return and help to reduce the volatility of the general market.  Although it is tempting to buy into whatever did well last year, don’t do it.  This is the equivalent of driving down the road looking through your rear-view mirror. Do this and you might find yourself in the ditch at the side of the road.
  3. Don’t follow the crowd – The crowd is often terrible at investing. Don’t get caught up in the hype of a stock or particular sector.  The average investor tends to buy high, sell low, and make decisions about their investing based on their gut reaction to a single piece of news.  We all know that is an easy way to lose money in the market, but we often forget that making money in the markets can be just as simple. Warren Buffet has said that he only invests in companies that he is comfortable holding for 30 years.  Buy investments that you believe will still be successful over the long term because of their fundamentals and don’t make decisions based on fear, greed, or hype.
  4. Block out the noise – 24-hour news and the internet are the wrong places to spend your time if you are trying to make good investment decisions. Don’t get me wrong, they are a wealth of knowledge and can add lots of value to your decision-making process but for most people, they are just NOISE. By the way, that is what they are designed to be, they are designed to catch your attention, keep your attention, and move you to action.  That is how their paying customers, advertisers, make money. When things look bad and you feel yourself getting nervous, turn it off!
  5. It’s about time IN the market, not TIMING the market –  We all want to make money in the market without losing any money in the market. That is a good strategy, for a fortune teller, but you’re not one.  If you were you wouldn’t be reading my blog on investing strategies. The cost of missing days in the market can be enormous and almost impossible to make back up.  If you missed the 25 best trading days (out of 11620) from 1970 to 2015 your return dropped from 1,910% to 371%. Ouch… Market investors should not be focused on day to day returns but instead on their long-term investment goals.  Stay invested in bad times or you might just miss out on the good times.