Since the inception of newsletter Investment Quality Trends in 1966, we have espoused the belief that the purpose of investing in the stock market is to realize a return on investment.
From that belief has emerged three clearly defined investment objectives: First, do not lose principle; second, earn an immediate return on investment; and third, capture long-term capital gains for overall total return.
Admittedly, principle preservation rarely is associated with picking stocks. However, we have demonstrated that the enlightened investor can achieve principle preservation along with an immediate and growing stream of income (through dividends and dividend increases), plus long-term capital appreciation for total return, by restricting their investments to shares of the high-quality, dividend-paying stocks we call "select blue chips."
Our select blue chips
What is a select blue chip? The qualifications include lengthy profitable progress, growth of income and capital, professional-management interest, liquidity and Standard & Poor’s widely accepted ranking of long-term earnings and dividends. We also look ata company's history of earnings, dividends, research and development, and future prospects.A stock rates designation as a select blue chip if the following are true:
- The dividend has been raised five times in the past 12 years.
- It carries an S&P earnings- and dividend-quality ranking in the “A” category.
- It has sufficient liquidity -- at least 5 million shares outstanding.
- At least 80 institutional investors hold the stock.
- There have been at least 25 yearsof uninterrupted dividends.
- The earnings have improved in at least seven of the past 12 years.
Dividends meet the most basic of all investment fundamentals: income. Also, the underlying value of dividends will in the long run establish the stock price. A consistently rising dividend best reveals a company’s profitable progress. Further, the trend of dividends is more reliable and less erratic than the trend of earnings.
The key to value, then, lies in yield as reflected by the dividend trend. Individual stock prices fluctuate between repetitive extremes of high dividend yield and low dividend yield. We call these recurring extremes of yield "undervalue" and "overvalue,"and they determine our buying and selling.
“Values, when applied to stocks, are determined in the end by the return to the investor, and nothing is more certain than that the investor established the price of stocks.” --Charles Henry Dow
Research has proven that high-quality stocks seem to resist adversity best. In good times, they usually outrun both the economy and their lesser competitors. The range of price fluctuations between undervalue and overvalue offers considerable potential for price appreciation. These are the companies that have made it through depressions, recessions and everything in between. Again and again, the evidence shows, there is no profitable substitute for quality.
Playing for the short term
Six to nine months is not the optimal time frame in which to showcase our approach. Our model portfolio most referenced by third-party analysts was started in 1986 and has averaged more than 13% per year (with 25% less risk than the Wilshire 5000). Consisting of all the stocks in our undervalued and rising-trends categories (about 140 companies), it is too large to be replicated by the average investor or here in Strategy Lab.For the purposes of Strategy Lab, we will borrow from both our Lucky 13 portfolio and a model portfolio used by IQ Trends Private Client Asset Management.
In January 2000, we began publishing a list of our top 13 picks for the upcoming year. Dubbed “The Lucky 13,” these selections have generated an average total annual gain of 15.2%. The model portfolio at Private Client, while based in part on the Lucky 13, is not a static portfolio and has returned, on average, more than 19% per year since January 2000.
