On Tuesday, S&P Dow Jones Indices announced that Amazon (AMZN) is being added to the Dow Jones Industrial Average, effective prior to the open on Monday, February 26. Given the Dow’s reputation as something of a stodgy dinosaur, it may come as a surprise that the latest addition is a cutting-edge tech company.
And, unlike an index like the S&P 500, which has quantitative criteria for adding and removing constituents, the Dow is discretionary, meaning that the index managers are making the change for reasons that go beyond something as simple as market cap.
[text_ad]
Why is Amazon being added to the DJIA now? In their announcement, S&P Dow Jones highlighted two explicit reasons for making the change and alluded to a third, less quantifiable, rationale. So let’s take a deeper look at the index methodology and then dive into what, if anything, it might mean for investors.
3 Reasons Amazon Is Being Added to the Dow
1. Walgreens Boots Alliance
When making the announcement that Amazon is being added to the Dow, S&P Dow Jones also announced that Walgreens Boots Alliance (WBA) would be getting the old heave-ho. That decision ends a tumultuous six-year run for Walgreens following their addition to the Dow in 2018 (they were added to replace General Electric (GE)).
Shares of Walgreens have lost 65% since being added to the index (and another 3% following the decision to kick them out) in a challenging period for the neighborhood drug store (peer Rite Aid (RAD) filed for bankruptcy late last year).
Removing Walgreens, which falls under the “Consumer Staples Distribution & Retail” classification, would result in a gap in exposure to consumer retail (more on that in a bit) but also save S&P Dow Jones from the headache of dealing with the oft-cited potential that Walgreens could spin off its U.K.-based Boots arm or pursue some other form of restructuring/reorganization.
In other words, Walgreens is no longer representative of the American economy, and the company’s struggles have the potential to make the company more trouble than it’s worth.
2. Walmart
Walmart was the second name cited in Tuesday’s announcement, but America’s (and the world’s) biggest retailer is still very much a part of the Dow. At issue is Walmart’s pending 3-for-1 stock split (February 26).
Because the DJIA is a price-weighted index, Walmart’s weight in the Dow will be cut down by two-thirds despite the fact that the upcoming split will have no impact on the company’s business operations or market cap.
As another retailer, this otherwise uneventful change to Walmart’s share structure further reduces the Dow’s weighting towards the consumer. Couple that with Walgreens getting the boot and S&P Dow Jones faced a pressing need to up their consumer exposure.
3. How We Shop
So, if the risk at hand is that the Dow could fail to capture a representative share of retail spending in America, why add Amazon to the Dow? It generates a significant portion of its revenues from segments that aren’t exactly traditional retail, like Amazon Web Services, advertising, video streaming, etc.
Why not add a constituent like Costco (COST)? Costco is, after all, the third largest retailer in the U.S., and it is more of a pure-play retailer than Amazon.
The answer comes down to how Americans shop now more than where they shop. In a word, e-commerce.
Amazon has a staggering 38% share of the U.S. e-commerce segment, and that segment has been taking share from traditional in-store shopping hand over fist for decades.
In 2017, American retail spending totaled $5.2 trillion, with a little under 10% ($450 billion) of that figure spent shopping online. By 2022, total retail spending had grown to $6.9 trillion but online spending’s share had nearly tripled (to $1.2 trillion). And that figure is only growing. Online spending as a share of total retail spend has been growing at a 7.6% annualized clip since 1995.
The Dow is largely designed to be representative of the American economy (except Utilities and Transportation) and adding Amazon to the Dow Jones is an acknowledgment by S&P Dow Jones of something that most of us have known for a very long time: online shopping is a fixture in daily life, and it’s not going anywhere.
What does Amazon’s addition to the Dow mean for investors? Unfortunately, not much. Aside from the historical significance of the DJIA, there actually isn’t very much money pegged to the index. The only Dow Jones ETF (DIA) has around $30 billion in assets under management (AUM). So, aside from DIA and various mutual funds pegged to the index, there’s not a lot of additional institutional money that has to rotate out of Walgreens (or Walmart) and into Amazon.
Fortunately for investors, Amazon has been doing quite well on its own, with or without inclusion in the Dow (thank you very much), so its addition is little more than a feather in its cap and a signal to the company that they’ve helped revolutionize retail.
[author_ad]
