Question

In: Finance

The S&P 500 and the Dow Jones Industrial Average indices are proxies for the broader US...

The S&P 500 and the Dow Jones Industrial Average indices are proxies for the broader US stock market. You notice one day that the S&P 500 closed UP by 0.20%, while the DJIA closed DOWN by 0.20%.

Explain how it is possible for one proxy (S&P 500) to have a positive return while the other (DJIA) has a negative return on any given day. Include in your explanation some names that could have caused this discrepancy. Which return (S&P 500 or DJIA) is more indicative of the 'true market return'?

To facilitate your analysis, please refer to the link below that shows the components of the S&P 500 and DJIA.  Hint: Recall the S&P 500 contains the largest 500 US companies where the weight of each name is proportional to its market value. The DJIA is a price-weighted index comprised of select 30 names representing certain industries.

Solutions

Expert Solution

It is is possible.

Let us first understand in short what are Dow Jones and S&P 500

Dow Jones and S&P500 are two indexes that have different basis for their overall representation. Dow Jones index is made up of 30 companies representing different industries in US. However, S&P is a consoritum of 500 companies in US.

how it is possible for one proxy (S&P 500) to have a positive return while the other (DJIA) has a negative return on any given day.

DJIA is an weighted average of just 30 companies representing various industrices in US market. However S&P 500 is "value" weighted average of the 500 companies in the US market. Note that value is added while calculating S&P 500. Hence, there is difference in the indexes of both on a given day.

The blue chip share are part of dow jones and dow jones movement depends on these stock. Some of the example are Apple, Boeing etc. However performace of these companies on a certain day do not decide the index of S&P 500.

Since S&P 500 is value weigthed and has more companies, it indicates true market situation.

If you have any doubt, ask me in the comment section.


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