INDEPTH: PERSONAL FINANCE
The TSX vs. the Dow:
A tricky comparison
CBC News Online | Jan. 3, 2005
Investors do a lot of number-watching. Not just of their own stocks, but of the overall stock market. In Canada, the benchmark index to follow is the S&P;/TSX Composite Index (TSX:Composite), which includes almost 300 of the country's biggest and most actively-traded companies and income trusts.
In New York, the key benchmark is the Dow Jones Industrial Average (US:Dow) ("the Dow") – the best known stock market indicator in the world. There are only 30 companies listed in the Dow, but they are all huge multinational corporations. IBM, ExxonMobil, Microsoft, Coca-Cola, Wal-Mart, GE. You're talking big.
The two benchmark indicators calculate their values in quite different ways (more about that later) and they're made up of completely different companies. Despite that, they frequently end up with numerical values that are within spitting distance of each other.
That's led some to try to draw comparisons between the two. We don't mean a "My index is better than yours" contest (although some market analysts are more than ready to weigh in on that point). No, the closeness of the two numbers has long invited an armchair comparison of how the two markets are faring vis-à-vis the other – a financial barometer to indicate which market has better rewarded investors.
| 2005 Stock market performance |
| Turkey IMKE 100: |
+59.0% |
| Japan Nikkei 225: |
+40.2% |
| Canada TSX Composite: |
+21.9% |
| Britain FTSE 100: |
+16.7% |
| U.S. Dow Jones: |
-0.6% |
| Venezuela IBC: |
-32.0% |
After all, the TSE Composite Index (later known as the S&P;/TSX Composite Index) was created in 1977 with an opening value of 1,000 – chosen because that was where the Dow was back then.
For many of those years, the performance comparison was no contest. The Dow won hands down. The benchmark index of the Toronto Stock Exchange just couldn't keep up. By the late 1990s, the comparatively anemic performance of Canadian stocks prompted many Canadians to shift their investments from domestic markets to chase the perceived better returns south of the border.
Dozens of RRSP-eligible "clone" mutual funds were created specifically to cater to the growing demand for foreign stock plays.
Nortel the "heavy"
But by 1999, something began to happen. The main TSX index began to outperform the Dow. There was one main reason why this happened, and it can be summed up in one word – Nortel.
Nortel Networks' stock price began to soar along with the rest of the tech and dot-com boom. Nortel shares more than tripled in 1999 as the demand grew for anything that catered to the internet, networkers, software makers and semiconductors. BCE, which at that time had a huge holding of Nortel shares, more than doubled.
Why was the stock rise of just one company enough to carry along an entire index? It's mainly about the weight.
Nortel at that time was often referred to as the "heavily-weighted Nortel." So what was it that made Nortel so "heavy"?
A tricky comparison
The TSX Composite Index is what's called a "float-weighted" index. The size of a company's market worth (stock price multiplied by the number of shares) matters. The bigger the company's market worth, the higher its weighting in the stock index. And Nortel was very big.
The Dow, on the other hand, is a price-weighted measure. So if one of its 30 components soars against the others, it won't drag the Dow higher to the same degree. For one thing, none of the Dow's 30 companies is 20 times bigger than most of its other components.
By the end of 1999, the "Nortel effect" was enough to allow the TSX Composite Index to outperform the Dow for the first time in many years – rising 30 per cent against the Dow's 25 per cent.
But the actual numerical value of the TSX benchmark index still lagged the Dow by a wide margin. At the close of trading in 1999, the TSX Composite Index was at 8,413. The Dow was at 11,497. But that gap was soon to disappear.
1999 to 2000: Techs go boom
The tech boom of 1999 carried on into 2000. For a while, anyway. Nortel's share price continued to climb, along with other tech stocks. By August, it was trading at more than $120 a share.
And then it happened. The TSE Composite Index surpassed the Dow on July 14, 2000. It was the first time the Canadian index had been above the American since the summer of 1995.
But it was not to last. The TSX Composite Index did continue to rise for another few months. But then something happened. The tech-led boom started to go bust. The last time the Composite Index saw 10,000 was Oct. 24, 2000. The following day, the index lost more than 800 points as Nortel issued the first of many profit warnings. The TSX Composite Index also closed below the level of the Dow for the first time in 103 days.
By the end of 2000, the TSX Composite Index had still managed to outperform the Dow for a second year in a row (up 6.2 per cent versus the Dow's loss of 6.2 per cent). But the trend for the next few years was clear. As Nortel fell, there was no way the TSX index could keep up with the Dow.
Post 2000: Techs go bust; resources and financials go boom
The next two years were not good for either market as the tech meltdown continued to unfold with brutal efficiency. But markets turned around in 2003 and by 2004, the TSX Composite Index again began to catch up to the Dow.
This time, it was renewed strength in financial stocks and resources (like oil, gas and gold) that led the gains in the Toronto. Nortel was no longer a factor.
Then, on Aug. 8, 2005, the S&P/TSX Composite Index again slipped past the Dow for the first time in five years. Energy stocks were now the main reason driving the TSX. The TSX energy sub-index rose an astounding 60 per cent in 2005, powering the composite index to a 21.9 per cent gain over the year, far outpacing U.S. markets (the Dow lost 0.6 per cent in 2005).
By the end of 2005, the Toronto market's energy and resources stocks had grown to account for 42 per cent of the overall value of the benchmark index. Oil prices were topping $61 US a barrel and gold was trading above $525 US an ounce. In short, the TSX Composite Index was reaping the benefits of soaring commodity prices.
On Jan. 3, 2006, it hit an all-time high.
Where once Nortel stood atop the valuation pile, that honour now went to energy giants like EnCana and financial companies like Royal Bank and Manulife Financial.
Will the TSX Composite Index continue to stay ahead of the Dow? Even though the two measures can't be quantifiably compared because of their differences in makeup and methodology, many market-watchers in Canada will continue to make that comparison.
Something about that instinctive desire, no matter how misplaced, to shout, "We're Number 1!"
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