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Dow 18,500? Believe It

Why we think the Dow will rise more than 6,000 points in the next three years.

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We think the Dow Jones Industrial Average will rise more than 6,000 points to roughly 18,500 over the next three years.

How We Arrived at That Estimate
The Dow was trading at a very hefty 17% discount to our estimate of its fair value, which stood at around 14,000 as of Feb. 7, 2008. We base that fair value estimate on the fair value estimates that our equity analysts have placed on the Dow's 30 component stocks. The Dow hasn't looked this cheap to us since September 2002 when the index stood at 7,592 (three years later it had risen to 10,569).

When we take the Dow's market price and fair value estimate together with its 9.7% weighted average cost of equity (our analysts assign a percentage cost of equity to every stock they cover, including all of the Dow's components), it translates to a 17% annualized expected return. In other words, this is the return an investor would reap if the prices of the Dow's components converged to our fair value estimates over a three-year holding period (not ad infinitum).

Jeffrey Ptak does not own shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.