The Plank

With Gm Out, Who Gets A Spot In The Dow... And How?

Today, General Motors (GM) filed for bankruptcy. As a
result, starting on June 8, it will no longer be included in the Dow Jones
Industrial Average (DJIA), the market index calculated from the stock prices of
30 of the largest, most widely held companies in the United States. GM's removal will
mark the end of an impressive 83-year stretch in the DJIA. And it won't be exiting
alone: Citigroup will also be kicked out of the index the same day. Replacing
the two once-behemoths will be The
Travelers Companies, Inc.
and Cisco
Systems, Inc.

Which raises the question: How are new members of the DJIA
club selected? According to Sybille Reitz, global head of public relations for
Dow Jones Indexes, it's the managing editor of The Wall Street Journal who oversees the process, and it has been
since 1896, when the DJIA was created. Currently, the Journal's managing editor is Robert Thomson. Along with a team of
other Journal brass and the editor of
the Indexes, Thomson picks companies that are leaders in their respective
sectors, based on how important those sectors are to the U.S. economy.
The idea is to make sure that the index reflects and respects the most
important sectors of the economy at a given time--making sure no single sector
is over- or underweighted. "It is subjective. There are no
written-in-stone rules," Reitz explains. "It really comes down to
what the editors of The Wall Street
Journal think."

Changes to the group of 30 don't happen often--usually every
few years, when one of the members is facing restructuring, bankruptcy, or some
other calamity. The most recent switch-up was in September 2008, when AIG was
replaced with Kraft Foods. That particular situation was highly unusual, Reitz
says, because the financial sector was in such a state of flux. "We
knowingly added a food company, knowing this would underweight the financial
sector in the Dow," she says. "But, at that time, in September of
last year, we didn't add a financial stock because we didn't know how the
situation around the industry would turn out. We didn't want to add a financial
component if we were going to have to remove it soon. That change did leave the
Dow not reflecting the weighting of the financial sector."

In GM's case, "we have been observing the situation for
weeks," Reitz says. And the decision to knock it out of the 30 was
"obvious," despite GM's longstanding place in the index. Robert Thomson
noted in a press release today that bankruptcy "immediately disqualifies a
stock regardless of a company's history or its role as a cultural icon."

--Seyward Darby

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