Finding Value in This Market

Last week, Goldman Sachs (NYSE: GS  ) organized an investment conference for its "buy-side" clients to communicate its outlook for the year. Unsurprisingly, that outlook for the U.S. stock market is bullish (as former Goldman partner Roy Zuckerberg once told a trainee: "In the securities business, there's only one way to be -- and that's bullish! Always bullish!"). But beyond that homily, the Goldman gurus did say a few things worth listening to.

No more easy money lying around
Goldman's strategist Peter Oppenheimer pointed out that the spread in returns between top-performing and underperforming stocks would be wider in 2010 than it was last year. I fully agree. Last year's rally was the rising tide that lifted all stocks, high-quality and speculative alike. This year, just showing up (i.e., being invested in stocks) isn't going to do the trick. With U.S. stocks now overvalued in aggregate, there is a genuine premium on stockpicking ability.

The "credit replacement trade"
So how does one go about separating the wheat from the chaff? Oppenheimer recommended what he calls the "credit replacement trade" -- buying stocks that will pay out enough cash in dividends that their dividend yield will exceed the yield on their bonds. While I didn't look at the yield of individual issuers, it was easy enough to find six stocks with a current dividend yield that is higher than the average yield of U.S. investment-grade corporate bonds (4.88%):

Company

Dividend Yield (%)

Bristol-Myers Squibb (NYSE: BMY  )

5.20%

DuPont (NYSE: DD  )

5.05%

Eli Lilly (NYSE: LLY  )

5.52%

Progress Energy (NYSE: PGN  )

6.44%

Southern Company (NYSE: SO  )

5.28%

Verizon (NYSE: VZ  )

6.26%

Source: Capital IQ, a division of Standard & Poor's.

Focus on quality
Goldman's recommendation to buy high-dividend payers is pretty consistent with a theme that I've been beating like a rented mule: High-quality stocks. In a stock market that looks overpriced, this segment looks underpriced. If you insist on having a full weighting in U.S. stocks right now, I still suggest you favor the highest-quality companies (all the more so if you are overweight stocks).

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You can follow Fool contributor Alex Dumortier on Twitter; he has no beneficial interest in any of the companies mentioned in this article. Southern is an Income Investor pick. Try any of our Foolish newsletters today, free for 30 days. The Motley Fool has a disclosure policy.


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