Dow 40,000

What’s the big deal about Dow 40,000?

Do these milestone numbers matter? Well, that comes down to whether you believe in the psychological significance of round numbers.

DJIA 120 years logarithmic

Many investors think milestones can act as barriers or price ceilings at first. Perhaps these round numbers serve as a trigger for investors to ask themselves if the index or investment is actually worth the market value. There might also be trading reasons, based on price levels where buy and sell orders are placed—with round numbers being widely used—causing trading activity to increase in one direction or the other.

Psychologically significant price levels can be seen across asset classes. Gold, for example, had grappled with $2,000 for years. It rallied to and fell below $2,000 numerous times over the course of several years. When it finally surmounted that price level this year and held above it, gold rallied further and is now trading above $2,300, as of mid-May.

Once investments get past these perceived psychological barriers, that can serve as momentum for accelerating prices increases—to some extent. Alternatively, if these price levels are not surpassed, that can act as a reason to be bearish. It’s worth noting that these signals, largely used by technical chart analysts, are generally meaningful for relatively short periods of time.

Dow 40,000

It would be foolish to assume that the Dow is assured of pushing quickly past its milestone—or that 50,000 is just a couple years away—based on historical trends. After all, the Dow did recoil from 40,000 back in March.

With that said, markets have a demonstrated history of producing long-term gains. And the Dow’s recent momentum has made it possible to reapproach and potentially overcome the latest milestone. In the near term, it will take sustained earnings strength (along with bullish drivers, such as constrained inflationary pressures) to maintain the Dow’s momentum. Of course, there is always the possibility of a black swan event that can come in and take the wind out of the market’s sails.

In comparison

There are key differences between the Dow and other market indices. The DJIA is U.S.-centric and only tracks blue-chip companies in a limited number of sectors. The Dow (DJI) is also a price-weighted index, meaning it’s valued through the share prices of its 30 components vs. market cap-weighted alternatives like the S&P 500 (SP500) and Nasdaq Composite (COMP:IND). As a result, changes in the highest-priced stocks have a bigger influence on the index level, while stock splits and other factors call for regular rebalancing.

Dogs of the Dow

Given the special status of the stocks that make up the Dow, many investors look at components of the Dow to assess the market and create trading strategies.

The so-called “dogs of the Dow,” for example, is an investing theory based on the premise that investors can buy the 10 blue-chip stocks that underperformed in the prior year, hold them for a full year, and then rebalance at year end with the new dogs of the Dow as each year rolls over. Some practitioners of this theory use highest dividend yield as a proxy, given that dividend yield rises as the price of a stock falls, all else equal.

Heading into 2024, here were the dogs of the Dow:

It’s worth noting that this strategy has a mixed historical track record. Thus far, the dogs are getting beaten down this year, having lost roughly 1%. Of course, with any investing strategy you must make your own determination whether it is consistent with your investment objectives, risk tolerance, and financial situation.

Uncharted territory

While investors may think they act rationally all the time, avoiding making emotional decisions, that’s obviously not always the case. Will the psychological significance of Dow 40,000 shape market direction over the short term? If the Dow does continue past the milestone, there’s some historical evidence that could provide impetus for it to play catch-up to the S&P 500 and other indexes (assuming markets continue to rally).

Regardless, with the Dow having reached 40,000, this could present an opportunity for you to take stock of your strategy and investment mix. Earnings, inflation, Fed moves on interest rates, geopolitical events, and uncertainty surrounding upcoming US elections, to name several things, all represent factors that could change the course of the market at any time.

Stay tuned