How useful is the Dow Jones Index

Some investors, sunbathing at the pool of their Hua Hin five star hotel, are likely to buy The Financial Times or even The Nation to answer the question "How did the markets do yesterday"? You know they are not talking about the night market in town.
They just want to know how much richer or poorer they have become overnight. It would be difficult to discuss investment without discussing indices. Their main use is to monitor and measure market movement but equity and bond indices are also economic barometers. How reflective is the Dow, as the best known index of investment performance, of the overall investment market?
Most people would agree that it doesn't matter how many policies, to assist the wealthy, George Bush implements before the American elections in November, his future will be judged on where the major indices and the economy in general are performing by then.
But how useful a barometer is the Dow Jones Index? Well in reality it is woefully inadequate to reflect the widest and most representative coverage of its target market.
Did you know it contains only 30 blue chip stocks? When Charles Dow founded the index in 1884 it was the first published index. To day there are more than 4,000 indices worldwide. Back in 1884 the Dow had only 11 constituents mainly because Charles had no access to a computer or even a simple calculator.
Personally I have no idea why the index only contains 30 blue chip stocks to day but I want to try and show simply why it really fails to reflect market movement in general.
The best and simplest illustration is to look at the performance of three American indices for twelve months ending March 2001.
These three indices all fell by different amounts
Firstly the Dow with its limited coverage and blue chip focus fell 10%
The more broadly based but still large cap Standard and Poor's 500 fell 23%
The best measure of the US market is provided by the relatively unknown and comprehensive Wiltshire 5000 (which in fact contains 7,000 stocks) fell by 26%
These figures clearly show to me that the Dow fails to reflect overall market movement.
While looking back 100 years lets look at a topic which George Bush (again) made popular in the US with his relief of tax on dividends.
Switch to the UK and look at the ABN AMBRO/LBS UK equity index over 102 years. One Pound sterling invested in 1899 would have grown to Stg. 149 by 2001 if dividends had been squandered or spent. With dividends reinvested Stg One would have grown to Stg.16,112. This highlights the truth that unless indices incorporate reinvested dividends, they will have little value in measuring total return.
Another major use of the Dow and other indices is by fund managers who wish to measure their investment performance and use them as a yardstick. They charge for their services and so are expected to outperform whatever index they specialize in. If they don't their extra charges have added no value for a client who could have bought an index fund cheaper.
I recommend index funds to clients who have a comprehensive portfolio. They first appeared in the US in 1971 and now 30% of funds are indexed. In the UK 10-20%
For a one off investor, despite the lower charges than active fund management, you are guaranteed to under perform the market when charges are applied. Also you are investing in capitalization and have nowhere to go if the market collapses.
In conclusion we can say that the Dow Jones index is useful in showing the performance of the top 30 blue chips in the US but is not a factual barometer of overall fund performance.