Dow Jones Index Sees Major Changes: What This Means for Blue Chip Stocks

The Dow Jones Industrial Average (DJINDICES: ^DJI) is set for a significant transformation in 2024. Earlier this year, Amazon (NASDAQ: AMZN) took the spot of Walgreens Boots Alliance. Now, Nvidia (NASDAQ: NVDA) will replace Intel, while Sherwin-Williams is stepping in for the chemical powerhouse, Dow.

This shift in the 128-year-old index signals broader changes in market leadership and suggests that our understanding of what defines a blue chip stock might need an update.

Image source: Getty Images.

Growth Stocks Are Taking the Lead

The term “blue chip” hails from poker, referring to the highest denomination chip. While there’s no official definition, traditionally, all 30 stocks in the Dow have qualified as blue chips, including companies that have significantly raised their dividends over time, known as Dividend Kings. These companies have maintained consistent dividend growth for at least 50 years.

Notably, most Dow stocks do pay dividends. For instance, Salesforce replaced ExxonMobil in the Dow in August 2020, marking the third stock in the index not to offer dividends after Boeing and Walt Disney halted their payouts. Yet, Salesforce initiated a modest dividend earlier this year, and Disney has reinstated its dividend, albeit at a reduced rate.

Currently, neither Amazon nor Nvidia offers substantial dividends. Nvidia technically pays $0.01 per share each quarter. Sherwin-Williams has a low yield of just 0.8%, compared to Dow’s previous yield of 5.7% at last week’s closing prices.

After these adjustments, only 16 companies in the Dow will have yields of 2% or more, while eight will yield 1% or less.

Historically, the Dow was filled with dividend-oriented companies, but today’s emphasis has shifted towards those leading their industries.

The Importance of Dividends and Capital Allocation

To grasp the significance of dividends in classifying blue chip stocks, we must understand their purpose. A dividend allows a company to share its earnings directly with shareholders. Consistent dividend payments suggest a stable business, while annual increases reflect growing earnings.

However, dividends are just one method for companies to allocate their capital. Firms might also use profits to reduce debt, retain cash, repurchase shares, acquire other companies, or invest in growth.

Many traditional blue chip companies now face limited growth opportunities. For instance, Coca-Cola shareholders typically prefer profits to be retained for consistent dividends instead of risky ventures. Similarly, Procter & Gamble prioritizes steady returns over speculative investments. Even JPMorgan Chase aims to expand its network rather than over-leverage its resources. Thus, these companies often use dividends as a reliable means to provide passive income to investors amid market uncertainties.

Today’s leading companies are predominantly growth stocks. Although dividends play a role, they are not the primary focus. For example, both Apple and Microsoft pay dividends, but these yield less than 1%. Newer dividend-payers like Alphabet and Meta Platforms also offer yields below 0.5%. A common trend among these firms is their significant stock repurchase programs.

Investing in stock buybacks rather than dividends demonstrates management’s confidence that the stock holds greater long-term value. This strategy has proven successful for big tech giants such as Apple, Microsoft, Alphabet, and Meta, which have outpaced market performance over time.

Berkshire Hathaway, led by Warren Buffett, famously refrains from paying dividends. Buffett argues that shareholders benefit from capital gains rather than dividends, a stance he has backed with impressive returns. Many still consider Berkshire a blue chip stock, as well as Meta and Alphabet, even with their modest yields and recent dividend introductions.

However, what does this mean for companies that lack substantial dividends or buyback strategies? New Dow entrants, Amazon and Nvidia, have diluted their shares through stock-based compensation. Amazon, notably, invests heavily across various sectors. Over the past decade, the company’s shares increased by 13.1%, while its stock price surged more than 13-fold—indicative of a bold capital allocation approach.

Redefining Blue Chip Stocks

The Dow Jones Industrial Average is evolving, and the definition of “blue chip stock” should adapt accordingly.

Blue chip status should focus on industry leadership and capital allocation effectiveness, rather than simply dividend payments or stock buybacks. Companies that opt for high-risk investments must demonstrate that their spending translates into shareholder value maximization.

The label “blue chip” should be reserved for leading companies that generate significant capital and deploy it wisely.

Seize Your Chance for Potential Gains

Do you feel you’ve missed the opportunity to invest in top-performing stocks? If so, don’t worry.

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*Stock Advisor returns as of November 4, 2024

JPMorgan Chase is an advertising partner of Motley Fool Money. John Mackey, former CEO of Whole Foods Market, an Amazon subsidiary, is on The Motley Fool’s board of directors. Suzanne Frey, an executive at Alphabet, is also a board member at The Motley Fool. Randi Zuckerberg, a former director of market development and spokeswoman for Facebook and sister to Meta Platforms CEO Mark Zuckerberg, is also a member of The Motley Fool’s board. Daniel Foelber has positions in Walt Disney and options on Walt Disney stock. The Motley Fool has investments in and recommends Alphabet, Amazon, Apple, Berkshire Hathaway, Intel, JPMorgan Chase, Meta Platforms, Nvidia, Salesforce, and Walt Disney. The Motley Fool recommends Sherwin-Williams and has options on Intel. The Motley Fool has a disclosure policy.

The views expressed are those of the author and do not necessarily reflect Nasdaq, Inc.