The Equity Market Recently Emulates a 1978 Event. Historical Trends Suggest the Following Sequence of Events.
The DJI or Dow Jones Industrial Average, one of the significant U.S. stock market indexes, showed a decline in nine consecutive trading sessions as of December 17. This was last seen in February 1978. During these nine trading days, the index plummeted over 4%. However, it quickly recovered, rising 14% within the next three months and surging 20% over the next six months. Investors seeking similar outcomes can consider the SPDR Dow Jones Industrial Average ETF Trust (DIA).
Let's weigh the pros and cons of investing in a Dow Jones ETF right now.
The bull case: The DJIA represents prominent companies
The DJIA is the pioneer among the most popular U.S. stock market indexes, introduced in May 1896, tracking only 12 industrial stocks initially. Today, it includes 30 companies from nine market sectors, excluding utilities and real estate. The index's selection committee chooses stocks that have strong reputations, consistent earnings growth, and high investor interest. Consequently, the DJIA is often regarded as a benchmark for blue-chip (high-quality) value stocks.
The SPDR Dow Jones Industrial Average ETF Trust mirrors the DJIA's performance, providing investors with the opportunity to diversify investments across 30 high-quality stocks influencing the U.S. economy. The top 10 holdings are listed below:
- Goldman Sachs: 8.2%
- UnitedHealth Group: 6.9%
- Microsoft: 6.3%
- Home Depot: 5.7%
- Caterpillar: 5.3%
- Sherwin-Williams: 5.1%
- Salesforce: 5%
- Visa: 4.4%
- American Express: 4.2%
- McDonald's: 4.1%
An important aspect to consider is the expense ratio. The SPDR Dow Jones Industrial Average ETF Trust has a minimal expense ratio of 0.16%. This equates to $16 per year in fees for every $10,000 invested in the ETF.
The bear case: The DJIA lags behind the S&P 500
Over the past decade, the DJIA posted a return of 151%, or approximately 9.6% annually. In contrast, the S&P 500 recorded a significantly higher return of 200%, equating to an annual growth rate of 11.6%. This pattern persists over periods of one, three, and five years, indicating that the DJIA consistently falls short of the S&P 500's performance.
Furthermore, the DJIA's current valuation is relatively high considering its projected growth. Its constituent companies are forecasted to grow earnings by 11.3% annually over the next three to five years. With an existing valuation of 21.1 times earnings, this results in a PEG ratio of 1.9, indicating an expensive valuation.
On the other hand, the S&P 500's companies are projected to report annual earnings growth of 15.1% during the same period. Their current valuation of 24.7 times earnings translates to a PEG ratio of 1.6. Although this is not cheap, it is cheaper compared to the DJIA's PEG ratio.
In conclusion, history suggests that the DJIA may recover strongly in the near future. However, its track record of underperforming the S&P 500 and its expensive valuation are factors to consider. As a result, I am hesitant to include a Dow Jones ETF in my portfolio at this time. Instead, before considering a Dow Jones ETF, I would opt for an S&P 500 ETF.
If you're interested in maximizing potential returns, you might want to consider the lower expense ratio of an S&P 500 ETF.
Despite the DJIA's high performance in recovering from previous declines, its current valuation and underperformance compared to the S&P 500 are points to ponder when making investment decisions. In light of this, strategically allocating your finance towards an S&P 500 ETF could be a wiser choice, offering both diversification and potential higher returns.
