Journey of the Dow Jones Industrial Average

Introduction 

 

The Dow Jones Industrial Average, Dow Jones, or simply the Dow, is a price-weighted measurement stock market index of 30 prominent companies listed on stock exchanges in the United States. The DJIA is the most important index in the world as it depicts the financial movement of the world’s largest economies on the world’s largest stock exchange.

 

This blog seeks to explore the previous price movement of the DJIA and establish essential characteristics of the stock markets by exploring four of the biggest financial crises faced by the US markets in the past.

 

This blog concentrates on the long term upward trend of the stock markets and points out the generic pullbacks on the more extended time frames, which may look like severe crashes in the shorter terms. All the analysis is done to depict the dynamic nature of the stock markets and instil the same in the decision-making process of serious investors and speculators.

 

Before moving forward, it is critical to understand that the United States’ stock markets or financial markets tend to dominate the financial markets worldwide due to the pivotal role of the United States government and the Federal Reserve in maintaining an equilibrium in the financial markets worldwide. The dominance of the United States stock markets can also be attributed to the involvement of foreign or US investors, both institutional and private, in the stock markets worldwide.

 

Thus, in essence, the US stock markets form the absolute standard for the stock markets worldwide primarily due to their enormous size. Therefore, any drastic price movement in the Dow Jones Industrial Average is almost certain to be mirrored in the other indices worldwide. So even though this blog focuses on the DJIA, an almost identical analysis for any different index worldwide can be done.

 

Note: All the technical data including the charts have been taken from the TradingView website. (https://www.tradingview.com/)

 

 

Long Term Trend of the DJIA

 

As can be seen from the graph below, the Dow Jones Industrial Average (DJIA) has seen an uptrend all its life. From May 26, 1896 (the date of Dow’s listing), the Dow has been on a bull run, and undoubtedly, the bull run still survives. 

---

DJIA price movement

---

Even though the long term upward trend can be clearly established in hindsight, the periods of correction in this long term trend have made a lot of undisciplined and unlucky investors and traders lose a substantial amount of their wealth.

 

It is often said that the stock markets move in the upward direction over longer periods and this otherwise generic statement can be easily verified from the graphs above. Still, only a select few are able to consistently profit from the markets over a longer period of time. This attribute of the markets to benefit only a certain pool of disciplined traders is attributed to the dynamic nature of the markets.

 

Even after getting in on the long term secrets of the stock markets, a majority of traders fail to profit over long terms because they are either focused on the short term gains wherein it is much more difficult to capitalize from the markets due to the volatile nature of the markets or because they fail to invest in a disciplined and incremental manner over long periods of time.

 

It is, therefore, a well-established fact that most of the self-acclaimed investors and popular firms are not able to outperform even the indices, in this case, it would be the DJIA.

 

(Also read: Pros and cons of stock market)

 

Notable Crashes of the Past

 

Since the long term nature of the stock markets is established, it should be noted that the movement in the markets over any time frame is not linear in nature as can be seen from the graphs above.

 

What this means is that the markets tend to retrace before going forward anymore and don’t just keep moving in a continuous upward fashion. 

Retracements on the longer time frames seem like crashes in the shorter time frames. In times of crashes, the markets just get rid of the weak and undisciplined investors who seek to maximize their profits in the shorter time frames by relying heavily on leverage. 

 

It is the same story in all the crashes and this blog seeks to explore the 4 most impactful crises in the history of the DJIA. Even though later on, all the losses in the 4 crises were completely regained, the impatient investors lost a substantial amount of their net worth in these crises, some even being damaged irreparably.

 

(Must read: Benefits of stock market)

---

DJIA correction in 1929

---

1. Wall Street Crash of 1929: 

 

The Wall Street Crash of 1929, also known as the Great Crash, is one of the most devastating stock market crashes in the history of the United States of America. 

 

During the 1920s, the U.S. stock market underwent rapid expansion, reaching its peak in August 1929, after a period of intense speculation during the roaring twenties. By the time the stocks peaked in August 1929, the production had declined and unemployment had risen, leaving the stocks in great excess of their real value and the stock markets in the favour of the bears.

 

Eventually, the stocks started declining in September 1929 and declined till November 1929, after which they saw some recovery. From a high of 386.10 in September first week to a low of 195.35 in November second week, the DJIA witnessed an approximate 190 point or a 50 per cent decline. The most dreadful part of this fall was witnessed on October 24- Black Thursday, October 28- Black Monday and October 29- Black Tuesday.

 

The prices continued to drop even after the coveted crash and plummeted to as low as 80% of their value in the summer of 1929 by 1932. The stock market crash of 1929 accelerated the global economic collapse around the Great Depression lasting from 1929 to 1939. 

 

(Must catch: Top US IPOs)

---

DJIA correction in 1987

---

2. Wall Street Crash of 1987: 

 

Almost half a decade after the great depression, the DJIA witnessed the next severe crash in 1987. Similar to the 1929 crash and most of the other crashes, the 1987 crash can be attributed to the gross mismatch between the price and value of the various markets worldwide.

 

In the five years leading up to the 1987 crash, the DJIA had more than tripled and finally, on October 19, 1987, the DJIA fell by 508 points or 22.6%, forming the most rapid crash of all time and worrying the regulatory authorities heavily. (Source)

 

All of the other twenty-three major markets worldwide suffered a similar fate and with a similar pace on the Black Monday or the Black Tuesday (depending on time zone) of October 19. 1987 and the period following. 

 

Due to the extremely rapid nature of the crash on Black Monday, the Federal Reserve and the other stock exchanges intervened and installed the circuit breakers. Today, circuit breakers are a widely used phenomenon worldwide responsible for avoiding too rapid movements in both the up and down directions.

 

(Suggested read: Different types of NIFTY indices)

---

DJIA correction in 2000, 2007 & 2020

---

3. Wall Street Crash of 2000:

 

Technology equities were the catalyst for the dot-com market crash of 2000. Following the tremendous expansion and acceptance of the internet, investors' interest in internet-related firms skyrocketed. With merely a business idea, several start-up firms were able to raise millions of dollars through initial public offerings (IPOs). There was extreme speculation. Eventually the bubble burst and resulted in the Dow’s correction in the early 2000s.

 

 

4. Wall Street Crash of 2008:

 

The stock market crash of 2008, attributed to the 2007-08 global financial crisis was the biggest point drop in history at the time. During October 2008, the DJIA plummeted an approximate 15%. 

 

The first ten days of October 2008 saw a crash of approximately 30%. Even though half of the losses were recovered towards the end of the month, the stock market crash was not over yet. 

 

The Dow plunged another 20% over the next 5 months, till March 2009, fueled by various economic downturns and failed government initiatives.

 

The Dow then recovered slowly and steadily and managed to breach the FY 2008 high of about 14000 by the end of FY 2012.

 

 

5. Wall Street Crash of 2020:

 

The most recent and the most significant point-wise crash of the Dow yet is the 2020 crash caused by Covid-19. Apart from being the most recent crash, the crash in 2020 was the one that was the fastest recovered, primarily attributed to the high pump-in of liquidity by the Federal Reserve.

 

From a high of 29568 on 12 February 2020, the Dow collapsed to a low of 18213 on 23rd March 2020, giving an approximate move of 40% on the short side. The 11000 or so points lost were however recovered by November 2020 and the Dow made a new lifetime high on 9 November 2020.

 

(Recommended blog: Types of financial risks)

 

Conclusion

 

The 4 stock market crashes discussed above have one thing in common, that is they have eventually recovered their losses. The recovery time has varied from period to period. The recessionary period of 1929 saw a much larger recovery period than the covid crash of 2020 due to the difference in the fundamental nature of the crashes.

 

Carefully analysing the previous price movement of the DJIA, gives us immense insight into the long term view of the index which is the most important insight required by an investor. 

 

Even though there is always a mismatch between the actual value of the index and the price of the index, it is extremely difficult to precisely calculate the difference and to time the markets. 

 

“Be fearful when others are greedy. Be greedy when others are fearful”-Warren Buffet

 

Therefore, it is a good practice to indulge in Systematic Investment Plans (SIPs) and index investing while focusing on long term goals, especially for investors not very educated and aware of the market domain. In this way, an investor can not only capitalize on the long term uptrend but can multiply their investments by getting the concept of compounding on their side and ultimately end up outperforming most of the other market participants.