Sample question from CFAI website

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. How would you answer this?

I’d say B

I would say A. I understand that divisior of DJIA is number of shares on the market and if DJIA will decrease if number of shares is going to increase…

B. Divisor of a price weighted index is # of stocks in index adjusted for splits. A reverse split would reduce the number of shares. The main reason a company would do a reverse split is to keep from being delisted from a stock exchange because their stock price is too low.

Nah I’m wrong. When a stock splits the divisor becomes smaller. Pg 43 Vol 5 CFAI I guess if the stock splits, its price falls, therefore to keep the index at the same level prior to the split you have to reduce the divisor

I looked it up too, and realized I’m wrong. Good question.

So what answer would you suggest? I don’t understand this question well… What is the formula for DJIA index?

Answer is A. Look at the example on Pg 43 Vol 5 CFAI. If the prices of 3 stocks are $60, the price weighted index is 60/3 = 20. If a stick splits and the 3 stocks are worth $40, you need to keep the price weighted index at 20, so you have to reduce the divisor from 3 to 2. 40/2 = 20.

So my suggestion was correct? :slight_smile:

tgrycner, your answer was wrong but I don’t think your explanation was correct


tgrycner,whats the correct answer? A?

I dont know what is right answer… I don’t have it. So could anyone state clearly what is a correct answer?

The correct answer is “A”

Yes I see the right answer! So my answer was right but am not sure about explanation…

And why is answer A correct here? According to new classical economists, is financing a reduction in current taxes by government borrowing likely to result in an increase in: aggregate demand? the real interest rate? A. No No B. No Yes C. Yes No D. Yes Yes Is it because the overall money supply remains the same?

word of warning - econ is probably my worst topic, but i’ll try it. aggregate demand - the reduced taxation and borrowing are a wash therefore the “G” component of aggregate demand remains the same, so no increase. Real interest rate - since aggregate demand remains stable, there is no effect on inflation so no change in real rate.

tgrycner, the formula for DJIA = sum of all prices of all stock from 1-30/ n So…say you current average is $100 and you split —average is now $50, thus DJIA reduces when stock splits

yeah sorry tgrycner , my earlier post meant to say that your answer was right but your explanation was wrong

A is correct stock split should not affect the index value if stock price is reduced(because of split) the divisor will be adjusted to a new(lower) value to reflect same index value hypothetically, we can assume a price weighted index of 1 stock only