The market has been on Dow 20,000 watch for a couple of months now, and today, it finally got what it was looking for. The Dow Jones Industrial Average printed its first value above 20,000 within seconds of the market open this morning. If you happened to catch a view of the NYSE trading floor today, then you might be of the belief that floor traders were primarliy interested in a new hat. With Dow 20,000 now in the history books, it is time for Dow 21,000 watch.
The financial media seems to obsess about the Dow’s crossing of every 1,000-point threshold, making it out to be as significant as the previous one. However, each successive 1,000-point gain is less notable than all the preceding ones. It keeps becoming less impressive every time it happens. When the Dow Jones Industrial Average went from 1,000 to 2,000, it was indeed a significant event, as that 1,000-point move represented a doubling of value—a full 100% gain. It took the Dow more than 14 years to accomplish that particular 1,000-point rise. The journey that commenced in November 1972 and lasted until January 1987 also included a few bear markets. If that wasn’t enough, the market was on Dow 1,000 watch for the eight years leading up to 1972, as the Dow closed above 990, but shy of 1,000, on nine separate occasions in 1966.
The Dow’s first close above 19,000 occurred on November 22 of last year. That’s right. It took the venerable index only 42 market days to check off this most recent 1,000-point threshold. Unlike the others that came before, this particular accomplishment required only a 5.26% move. The upcoming move to 21,000 will require only a 5.0% increase. It is entirely possible for the Dow to climb more than 5% in a week—it has done so twice in the past 25 months. So new hats are feasible next week.
The absurdity of focusing on points instead of percentage gains becomes apparent when comparing logarithmic price charts to linear ones. Using the past 100 years of the Dow as an example, the accompanying graphic depicts the Dow in a logarithmic fashion in the upper half, and uses a linear scale in the lower half. Both are accurate, but only one lets you clearly see what has happened the past 100 years.
Most investors are more familiar with linear charts, despite their inherent visual flaws. Much like the media, the linear chart in the lower half treats each 1,000-point gain the same, and the vertical distance between 0 and 10,000 is the same as between 10,000 and 20,000.
Meanwhile, the logarithmic chart in the upper half treats each percentage gain the same. Therefore, the vertical distance between 1,000 and 2,000 is the same as the distance between 5,000 and 10,000 because each represents a 100% gain. As an investor, you know it is the percentage gain that counts—not the points.
As I mentioned earlier, both charts are accurate, but the way humans visually process information can easily distort long-term data when viewed on a linear chart. Here are some examples of the visible problems and distortions of the linear chart in the lower half:
- The 15% correction of 2015 looks larger than the 35% bear market of 1987.
- The devastating bear market of the Great Depression is not even visible.
- The majority of the Dow’s 100-year gains appear to have occurred since 2009, when actually only a small portion has occurred since then.
- It appears nothing happened from 1916 to 1986.
Although investors may not be comfortable with the vertical scaling numbers used on logarithmic charts, your brain can process the displayed data more accurately. Therefore, it is imperative that you take the time to become comfortable with them. Let your brain process the visual information, and let the actual numbers of the vertical scale become less significant.
Disclosure: Author has no positions in any of the securities mentioned and no positions in any of the companies or ETF sponsors mentioned. No income, revenue, or other compensation (either directly or indirectly) is received from, or on behalf of, any of the companies or ETF sponsors mentioned.