Some of the most tried and true investing strategies can make buying stocks less risky over time. Among the best strategies is blue chip investing: buying stocks of well-known companies with solid financial track records.
These stocks have several competitive advantages. While they are not immune to market downturns, they are typically less risky bets than high flying growth stocks. After all, companies like Coca-Cola (KO), Johnson & Johnson (JNJ), and Walmart (WMT) are American household names that have stood the test of time, surviving economic booms and busts alike.
What Are Blue-Chip Stocks?
There is no single definition of blue-chip stocks. However, they are most typically recognized as large-cap, profitable companies with financial histories that makes them reliable. These companies thrive during the good times and are resilient enough to make it through the tough times.
Overall, they have the following in common.
- A history of sustained growth with solid prospects. While their growth may not be explosive, like many flashy tech stocks, they are established, reliable companies.
- Large market cap, typically having a market valuation of $10 billion or more. In the case of companies like Apple (AAPL) and Alphabet (GOOGL), they form the trillion-dollar market cap club.
- Generally included in major indexes, such as the S&P 500, the Dow Jones Industrial Average, and the Nasdaq 100.
- Not all blue-chip stocks pay dividends, but many do.
Blue-chip stocks often weather storms and bounce back, making them ideal for risk-averse or retired investors seeking reliable, growing dividends.
More on the Safety of Blue-Chip Stocks
Last year, the Dow outperformed the Nasdaq by a significant margin, showcasing the resilience of blue-chip stocks in a bear market. Since the Nasdaq is tech-heavy, it is no surprise retail investors have flocked to the index frequented by institutions, the Dow Jones. In uncertain economic environments, blue-chip stocks provide a safety net because they tend to be highly profitable.
Winners last year have come from diverse sectors. For example, Caterpillar (CAT) is up over 13%, and UnitedHealth (UNH) is up over 4.6%.
Warren Buffett’s portfolio is a diverse collection of blue chips. His top holdings by size, Apple, Bank of America, Chevron, American Express, and Coca-Cola, are all solid blue-chip stocks. However, he has also invested in some firms that aren’t necessarily on most investors’ radars.
Investing in Reliable Dividend Stocks
It’s not a “rule” that blue-chip stocks must pay dividends, but most do. These mature, profitable companies are often in a position that allows them to return cash to shareholders via dividends or share buybacks. For example, all 30 stocks on the Dow pay a regular dividend.
Not only do most blue chips pay a dividend, but many are Dividend Aristocrats, meaning they have raised their dividends every year for at least 25 years. Others are Dividend Kings, meaning they raised their dividends for 50 years or more.
Over the years, dividend stocks often outperform stocks that don’t pay out a yield. This trend is likely because these stocks often carry less risk and have generated consistent cash flows. They are also businesses that you would expect to bring in cash continuously as they adapt to changes in the market.
Blue-chip stocks have stood the test of time because, whether they are industry leaders or well-known brands, they have competitive advantages that capital alone cannot overcome. For example, with all the money in the world, you would still struggle to beat Coca Cola thanks to its brand advantage.
Pros and Cons of Blue-Chip Stocks
The advantages of owning blue-chip stocks are vast. In addition to paying dividends and offering investors a sense of stability, blue-chip stocks require minimal effort, for the most part. They are the types of stocks you buy and forget.
Since they have been in operation for decades, they aren’t as volatile as others securities, requiring little oversight or management. Again, these stocks are excellent for long-term passive investors that want to invest in companies, hold shares for decades, and not worry about their ability to cope with recessions and market changes.
But what about the downsides? Are there risks?
No company, stock, or investment strategy is 100% bulletproof. There are always risks when investing. That said, blue-chip stocks are great choices to ensure a steady return and passive income, leading to the main downside — cost. These companies are well-established, and you pay for that.
Share prices are often high, but the ability to purchase fractional shares can help. Stock splits can also be attractive, as they can make stocks more accessible. In these cases, the value of the stock remains unchanged, but a lower per-share price can quickly entice new investors.
The other main downside is that blue-chip stocks tend to yield lower returns. Unless something changes within the market or economy, you won’t generally see exponential growth from these historical businesses over the short term. For example, this was an excellent year for gas and oil stocks. While it’s essential to be aware of the pros and cons, this “downside” isn’t a concern for some, as they are more interested in steady, predictable returns over the years and decades.
You can bank on blue-chip stocks, allowing you to invest with little worry. Since there are hundreds of blue-chip stocks across every sector, invest in an array of companies, building a stacked, diversified portfolio you can set and leave. This strategy will allow you to minimize risks while investing in high-quality stocks.