- Apple's 7-to-1 Split will increase the likelihood of it becoming a Dow component.
- What is the financial advantage for Apple to become a Dow component?
- The Dow Jones will become a better indicator of the U.S. economy with the addition of Apple.
For several years investors have been speculating and demanding that Apple (AAPL) become a member of the Dow. Because of the way the Dow operates, Apple previously had issues that would not allow the company to be considered by the Dow Jones board. The reason is that the Dow is a price-weighted measure, which means the bigger the stock price, the larger the impact it has on the Dow. Visa (NYSE:V) is currently the only stock in the Dow with a price over $200/share. However, Apple's split will occur June 2nd, and the 7-to-1 split, as of today's value, would bring the shares price to $87 per share. This price would allow Apple, a company that had the largest market cap in 2012, to make a play for the Dow, becoming one of the 30 companies that make up the Dow Jones Industrial Average.
Besides the prestige of being added to the Dow, there is a much more definitive and technical impact that investors must understand. The big question is, will Apple investors benefit from the Dow 30 bringing in the tech industry giant? Steven Russolillo from the Wall Street Journal discusses whether the move to the Dow would be a benefit or not;
Some $1.6 trillion in mutual funds and ETFs track the S&P 500, according to S&P Dow Jones Indices' calculations as of the end of 2013. That compares with just $30 billion that follows the Dow. Put another way, the S&P 500 ties up more than $50 for every $1 that chases the Dow, meaning it matters more to a company's share price to get included in the S&P 500 than the Dow.
So while some incremental gains could come to Apple through a Dow affiliation, evidence shows that the ETFs and mutual funds that have to track and invest in Dow Components is far less. For every $1 that is tied to Dow components, there is $50 that follows S&P 500. Thus proving that investors benefit more for having a company in the S&P than the Dow, from an ETF and mutual fund investment perspective.
So now that we realize there is a small, if not incremental, financial advantage for Apple being added to the Dow, the question turns to whether the keepers of the Dow Jones Industrial average need apple more than Apple needs them. It's important to note that the function of the Dow is be an excellent indicator of the U.S. economy and adding Apple, which earned $38 billion over the past 12 months would increase the Dow's ability to gauge the U.S. economy in a much more efficient way.
The Dow has 30 components already, and deciding which should be dropped has been of much discussion lately as it is an integral move in order to add Apple to the index. Manuel Schiffres, Executive Editor of Kiplinger, discusses which companies will most likely see the chopping block;
Dropping Cisco would make some sense because of its low price and because replacing it with Apple would be sector-neutral. But with a market cap of $119 billion, Cisco is not exactly an inconsequential company. Another candidate for removal is drug giant Pfizer (NYSE:PFE), which trades at just $29 but boasts a hefty market cap of $205 billion.
So while Cisco and Pfizer enter the conversation, they have strong indicators that would keep them in the Dow. Among the most widely discussed company that would be kicked out is Travelers (NYSE:TRV). Is has a current market cap of $32 billion, making it the smallest company in the Dow. But the company trades $92/share, which is ideal for the way the Dow functions, as discussed earlier.
One final note that perks the ears of Apple investors who want to see it enter the Dow Jones, is how past companies have performed, in the short term, upon being inducted. Bernstein Research analyst, Toni Sacconaghi conducted a study in 2012 in which it was found that companies that are added to the Dow outperform the S&P 500 by 3% during the 30-day period following the announcement into the Dow.
That suggests that there is some "incremental demand" for a stock once it gets included in the blue-chip average.
Apple investors should be keen to the numbers that show that the cash flow into Apple's stock will not be as large as many assume. However, the prestige and intangible assets of being a Dow component would give a small, yet short-term rise for Apple investors. In conclusion the Dow Jones Industrial Average needs Apple more than Apple needs the Dow. If Apple joins the Dow then not only will investors see possible short-term gains, but further the Dow will increase its efficiency to gauge the U.S. economy, so all investors will benefit from this outcome.
Disclosure: I am long AAPL. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.