Change the Oil Every 3000 Points?

The Dow index is changed this week, as MO and HON have been replaced by BAC and CVX.

Mark Hulbert has written an interesting article outlining the Dow's historical under-performance as a result of previous company deletions and additions:

Ironically, one of the companies being added to the Dow - Chevron - has been in the index before. It was deleted on Nov. 1, 1999, with three other companies, in favor of four new companies that largely reflected the Internet bubble that was at the time alive and well: Intel Corp. (INTC), Microsoft Corp. (MSFT), SBC Communications (which has since been renamed AT&T (T), and Home Depot Inc. (HD) .

Since then, the four deleted stocks have gained an average of 27%, while the four stocks that were added have produced an average loss of 40%. The Dow itself over this period has gained 14%. (These calculations do not take dividends into account; the difference between the average addition and deletion would be even greater if dividends were included.)

Ouch.

In other words, the Dow would be higher today if the list of companies making up the Dow had not been changed in 1999.

This isn’t the only example of this pattern, either. Consider the changes made to the Dow on April 8, 2004, the only other occasion since 1999 in which companies have been added or deleted to the list that make up the Dow. (There have been other changes, but they involved new names for companies already in the index.)

The three companies that were deleted in April 2004 were Eastman Kodak Co. (EK) , International Paper Company (IP) , and AT&T. (Note that the AT&T that was deleted from the Dow that month was not the AT&T that exists today; that earlier AT&T was acquired by SBC Communications in 2005, and the combined company was renamed the new AT&T.)

The three companies that replaced these deleted firms were: American International Group, Inc. (AIG) , Pfizer Inc. (PFE) , and Verizon Communications (VZ) .

Since the date of these changes, the three stocks that were added have, on average, lost 23%; the three deletions on average have lost just 2%. The Dow over the same period has gained 17%. (As before, these calculations don’t take dividends into account.)

Once again, ouch.

Similar under-performance is seen in the historical changes of the S&P 500 as well. more...