Price-weighted Index question

The divisor for the Dow Jones Industrial Average (DJIA) is most likely to decrease if a stock in the DJIA: a. has a stock split b. has a reverse split c. pays a cash dividend d. is removed and replaced Price-weighted index = (stock prices)/# stocks and the divisor is the denominator correct?

A in an event of stock split we adjust (decrease) denominator, so that the value of index remains unchanged

this might help… source is investopedia: “How Does the Dow Divisor Work? To calculate the DJIA, the current prices of the 30 stocks that make up the index are added and then divided by the Dow divisor, which is constantly modified. To demonstrate how this use of the divisor works, we will create a mock index, the Investopedia Mock Average (IMA). The IMA is composed of 10 stocks, which total \$1,000 when their stock prices are added together. The IMA quoted in the media is therefore 100.00 (\$1,000/10). Note that the divisor in our example is 10. Now, let’s say that one of the stock in the IMA average trades at \$100 but undergoes a 2-for-1 split. Its price then reduces to \$50. If our divisor remained unchanged, the calculation for the average would give us 95.00 (\$950/10). This would not be accurate because the stock split merely change the price, not the value of the company. To compensate for the effects of the split we have to adjust the divisor downward to 9.5. This way, the index remains at 100.00 (\$950/9.5) and more accurately reflects the value of the stock in the average.”

But what about D? If you remove stock selling for \$10 with one selling for \$100, the index value will not be correct. I don’t know what DJIA in particular does with this but it certainly requires a divisor change. Dividenda are usually small so no adjustment is needed.

Dude in that case the divisor will surely change but not necessarily decrease!

…right, it is clear the answer is A, but only trying to see if other choices work. If they said, “replaced by a stock priced higher”, then D works. Thanks.

Thanks anupamjain008. For some reason I was not understanding the answer last night. Now it makes sense that you ahve to adjust the divisor downwards for splits to keep the value the same.

Dreary Wrote: ------------------------------------------------------- > …right, it is clear the answer is A, but only > trying to see if other choices work. If they said, > “replaced by a stock priced higher”, then D works. > Thanks. I believe in this case the divisor will INCREASE. I think you meant “replaced by a stock priced LOWER”