MARKET BEAT TOM PETRUNO : Should IBM Be Booted Off the Dow Jones?
One by one, Dow Jones & Co. has pulled increasingly irrelevant companies out of its famed Dow industrial average.
Should IBM Corp. be next--to be replaced, perhaps, by Microsoft Corp.?
The thought may seem heretical, given that IBM remains the world’s largest computer company in sales ($64 billion last year), despite its many woes and nearly $8 billion in net losses since 1991.
But if mainframe computers are to the ‘90s what horse-drawn buggies were to the ‘20s--yesterday’s technology--one can make an argument that IBM no longer deserves to be the bellwether tech stock in the Dow.
Dow Jones & Co. never discusses in advance which stocks might be dumped from the index and which are possible replacements. But at the very least, the pace and nature of Dow-stock changes since 1979 suggest that IBM’s position in the index isn’t necessarily secure.
Before 1979, substitutions in the Dow were rare; at that point, most of the stocks on the list had been on the original 1928 roster. And most appeared safely ensconced.
Consider: It would have been virtually inconceivable even in the 1970s to imagine that steel behemoth U.S. Steel would ever lose its Dow slot. Through most of the ‘50s, ‘60s and ‘70s, Big Steel was viewed as the very backbone of the American economy.
But by 1991, Dow Jones decided that the fading importance of the steel industry no longer warranted the inclusion of both U.S. Steel (then USX Corp.) and Bethlehem Steel in the Dow. So USX was booted in favor of Walt Disney Co.--whose fantasy-based business could hardly be more removed from the smokestack world of steel.
In fact, the 10 substitutions made in the Dow 30 since 1979 have mostly been service companies and consumer-products firms--illustrating Dow Jones’ desire to have the index change with the relative significance of key industries in the economy. And in the stock market, for that matter.
Hence, American Express took over for building-products maker Manville Corp. in 1982, McDonald’s replaced cigarette giant American Brands in 1985, and Coca-Cola kicked out nickel miner Inco in 1987.
“The Dow is intended to be reflective of the equity marketplace, and if the marketplace is changing faster than ever, the index should change faster,” argues Michael O’Higgins, an Albany, N. Y., money manager and author of the book “Beating the Dow.”
Beyond the new economic realities, Dow Jones has a more selfish reason to add to its index stocks that represent increasingly important (and thus growing) industries: Those stocks are likely to rise much faster than issues of withering industries, thus boosting the odds that the Dow will advance in line with broader market indexes.
After all, if the Dow were to lag the rest of the market for too long, investors might stop paying so much attention to it.
Even now, the surge in the NASDAQ market of mostly smaller stocks--heavily influenced by the presence of many fast-growing young technology companies--has relegated the Dow to a back-seat position in this bull market.
At 3,256.81 Friday, the Dow is up just 4% from mid-October, when the market began its latest run. In contrast, the NASDAQ composite index, at a record 701.63 Friday, is up 21% in the same period.
David Dreman, a veteran New York-based money manager, says that even with the substitutions in the Dow over the last 12 years, it may still contain too many dinosaurs.
“It’s fair to ask, does IBM or Bethlehem Steel or even Westinghouse really represent what’s going on anymore?” Dreman says.
While the Dow has three oil stocks (Chevron, Exxon and Texaco) and three aerospace stocks (Allied-Signal, Boeing and United Technologies), except for IBM and perhaps AT&T; Corp. there is no other representative of the desktop-technology revolution that is changing how the world works.
But if IBM should go, which tech stock would make more sense in the Dow? Most Wall Street pros’ votes go to Microsoft, the company that has become synonymous with the explosion of personal computer software over the last 10 years--a boom that has redefined technology and how people use it.
Though Microsoft’s sales are running at a $4-billion annual pace--about one-fifteenth of IBM’s sales--Wall Street now views the two firms as equals in one important sense: As IBM’s stock price has tumbled over the last year while Microsoft’s has rocketed (IBM was at $48.625 Friday, Microsoft at $89.375), the total market value of the two companies now is about even, at slightly less than $27 billion apiece.
Apart from the argument that Microsoft better represents the future of technology, including it in the Dow would also allow Dow Jones to acknowledge the ascendance of the NASDAQ market in the ‘90s.
Microsoft would be the first NASDAQ stock in the index; all Dow stocks now are New York Stock Exchange-listed issues.
William Dodge, chief investment strategist at Dean Witter Reynolds in New York, offers an alternative solution: Put Microsoft and computer-chip titan Intel Corp. into the Dow, losing IBM and another laggard.
Software is only part of the equation in the new technology, Dodge notes. The incredibly powerful chips that Intel and other semiconductor firms have developed have also been critical in boosting the power of small computers at the expense of mainframe machines.
“Intel and Microsoft both might make sense in the Dow, but not one or the other,” Dodge says.
In any case, he doesn’t necessarily buy the idea that IBM deserves to be booted.
Noting that many other huge companies have gone through wrenching change and still emerged in excellent competitive shape, Dodge says it’s far too early to assume that IBM can’t recast itself for the new world order in technology.
O’Higgins agrees. He hasn’t owned IBM since February, 1991, he says, but he adds that “I’m on the edge of my seat waiting to buy it back. . . . There’s a profit there, somewhere” with the stock at mid-1970s prices, he says.
He also notes that Dow Jones & Co. underestimated IBM once before, to the index’s detriment: Though on the original Dow list, IBM was bumped in 1939 in favor of AT&T.; IBM wasn’t returned to the Dow until 1979.
Between 1939 and 1979, IBM’s stock price increased exponentially, while AT&T; was mostly just a utility dividend play. Had IBM been left in for those 40 years, the Dow today might be closer to 6,000 than 3,300, some Wall Streeters have estimated.
The Dow 30
Here are the companies in the Dow Jones industrial average, and the year each was added.
Year Company added Allied-Signal 1928 Alcoa 1959 American Express 1982 AT&T; 1939 Bethlehem Steel 1928 Boeing 1987 Caterpillar 1991 Chevron 1930 Coca-Cola 1987 Disney 1991 DuPont 1935 Eastman Kodak 1930 Exxon 1928 General Electric 1928 General Motors 1928 Goodyear 1930 IBM 1979 Intl. Paper 1956 McDonald’s 1985 Merck 1979 3M Co. 1976 J.P. Morgan 1991 Philip Morris 1985 Procter & Gamble 1928 Sears 1928 Texaco 1928 Union Carbide 1928 Utd. Technologies 1928 Westinghouse 1928 Woolworth 1928
