Posted by on Mar 5, 2012 in Articles & Advice, Blog, Columns, Featured, Video |

Image Credit: Christophe Vorlet

By Jason Zweig |  March 2, 2012 8:41 p.m. ET

This week, the Dow Jones Industrial Average closed above 13000 for the first time in almost four years. If you told yourself, “It’s just an arbitrary number,” you were right.

Round numbers on stock indexes are meaningless in themselves. But they aren’t a bad pretext for putting stock indexes in perspective — and that exercise might give you a less-jaundiced view on the market.

The Dow closed at 13009.12 on Tuesday, its highest level since May 19, 2008, and flickered around 13000 the rest of the week. It is easy to see why many investors shrugged and stayed on the sidelines: That was the ninth time since 2007 that the closing value of the Dow had climbed across the 13000 milestone, according to the WSJ Market Data Group. Along the way, the index had sunk below (and bounced back over) the 12000, 11000, 10000, 9000, 8000 and 7000 thresholds more than 300 times.

Earlier last month, the blogger Tadas Viskanta of angered some investors with a post titled “There Has Never Been a Better Time to Be an Individual Investor.” He says much of the online chatter about his post harked back to the 1990s, complaining that those — not these — should be considered the glory days. After all, the Dow is more than 1,000 points below its record high of 14164.53 in October 2007.

But there is a good case to be made that the Dow has never been higher — and that Mr. Viskanta is right. The Dow industrials, since their launch on May 26, 1896, have been reported as a “price-only” index that doesn’t capture the dividend income of the underlying companies. The same is true for most major stock indexes.

So I asked Meir Statman, a finance professor at Santa Clara University, and Jonathan Scheid, president of Bellatore Financial, an investment firm in San Jose, Calif., to calculate where the Dow would be today with all dividends reinvested back into the index. Counting dividends, the Dow would have closed this Tuesday at 1,339,410.97 — more than 100 times above its official close.

Dividends are like one of those mirrors in a funhouse, blowing the Dow up to elephantine proportions. But you also can stand the Dow in front of a funhouse mirror that shrinks everything by taking inflation into account.

Recalibrating the index to factor in inflation, the Dow would have closed on Tuesday at 456.22. That is 96.5% below its nominal value. From this angle, the customary way of citing the Dow appears ridiculously overstated.

Now consider what Messrs. Statman and Scheid call the “Real Wealth Dow.” This theoretical index, which accounts for dividends and inflation alike, would have closed on Tuesday at 46986.48.

That amounts roughly to a 0.5% and 2.6% average annual return since year-end 2007 and over the past decade, respectively. That is nothing to celebrate, but it isn’t nearly as bad as you might suspect from all the hoopla over the fact that the Dow is only now getting back to where it has been dozens of times before.

The Dow isn’t the only index at or near all-time highs. The Standard & Poor’s 500-stock index, the other most commonly cited benchmark for U.S. stocks, hit its record close of 1565.15 on Oct. 9, 2007, or 15% above this week’s level. But the S&P, like the Dow, is commonly cited without dividends. On a total-return basis, including reinvested dividends, the S&P this week was just 3.5% below its all-time high.

On Thursday morning, the Wilshire 5000 index, which tracks more than 3,700 U.S. stocks, crested 0.03% above its previous record high in 2007, once you factor in the reinvestment of dividends, according to Robert Waid, a managing director at Wilshire Associates.

I agree with Mr. Viskanta: There has never been a better time to be an individual investor. You often have heard that stocks have returned better than 9% annually since 1792. But for more than 180 of those 220 years, it was impossible for small investors — and many institutional investors, for that matter — to capture the total return of the stock market.

Commissions were so prohibitive that most investors took their dividends only as cash, so they never got to reinvest them in the additional shares that would have given them the fullness of total return over time.

Only since 1976, with the advent of the first index mutual fund tracking the S&P 500, have investors been able to capture the total return of the stock market. Today, you can do so in exchange-traded funds that you can buy commission-free and hold for an annual fee of as little as $7 per $10,000 invested.

Crossing another 1,000-point mark on the Dow is hardly transformative, and it certainly doesn’t mean stocks are cheap. But it is a reminder that today’s investors should take a moment to count their blessings even as they maintain their vigilance.

Source: The Wall Street Journal,

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