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RE: Market!!

What on Earth is going on these last few days??

The email I received from a client two weeks ago above did a great job of summing up the feelings of many people who have watched the movement of the Dow Jones Industrial Average over the past several weeks.

The Dow Jones Industrial Average (DJIA) has been imprinted on investors’ minds as the key measurement for the US stock market since it was created in 1896 by Charles Dow.  Even though it consists of just 30 large companies, it’s hard for investors to shake the mental habit of using it as a benchmark for the entire US market performance – and how their own portfolios are performing – regardless of how they’re invested.

Most people would be surprised to learn the largest component of the DJIA as of November 30, 2014 is Visa, Inc., with a 9.3% weight, followed by Goldman Sachs at 6.79%.  Overall, the index has a 25% weighting to financials, higher than the 19% weighting to industrial stocks that are included in the Dow’s name.   If the stocks that make up these two sectors in the index do well, it can give a false sense that the broader stock market is up significantly.  Alternatively, a drop in financial industry stocks will dampen the DJIA gains, while companies in other industries may be doing well.

This quarter, the index has taken us on a wild ride.

On October 16, the DJIA was 16,177, down 2.77% from its January 2 level.  If you had walked away and spent November and December focused on other things, you would be pleased to learn the index stands at 18,037 as I type this blog; an 8.86% gain for the year.

But between December 5th and December 16th we had 100, 200, and 300+ point drops that left people feeling more than a little concerned; and last week a 736 point jump between Wednesday and Friday that made people feel their portfolios should be way up, when in fact we are only 79 points over the DJIA high of 17,958 on December 5th.  Within the month of December, there’s been little change.

The point of all this?

The DJIA is not a perfect representation of the US stock universe, even though we have been indoctrinated to think that it is.  The index is too narrow in its scope to provide an accurate representation of the entire US market.  With over 4,100 companies traded on US stock exchanges, 30 companies are not able to reflect the investment returns of a well diversified portfolio that holds small cap through large cap companies in a variety of market segments.

An investor with a globally invested portfolio, whose investment plan recognizes over 50% of the world’s investable stocks are located outside the US; will not track the performance swings of the Dow Jones Industrial Average – either good or bad.  The 5% climb in the Dow over the last 5 trading days may make investors wish they were more concentrated in those 30 companies, but you don’t have to think back too far to remember how the 53% drop in the Dow from 14,093 on October 12, 2007 to 6,547 on March 9, 2009 made us feel.   A diversified portfolio provides a much more stable investment experience.