The 3 Stocks You Need to Beat the Market

Anyone buying individual stocks is doing so for one reason: We think we can beat the market.

If we can't, then we should be sticking with long-term positions in mutual funds and ETFs exclusively.

With that warning aside, I will be highlighting three different types of stocks (complete with examples) that you should look into if you want to beat the market. I am emphasizing these stocks in particular because I believe they offer great opportunities today.

Without further ado ...

Cheap blue chips
These are large-cap stocks you've heard of that are currently out of favor. These may not be the sexiest plays, but I'll take sexy returns over a sexy story any day. A staid company at a nice discount can provide those returns.

Currently, health insurer UnitedHealth and oil baron ExxonMobil (NYSE: XOM  ) are both trading for forward P/Es of under 10. Uncertainty regarding the ultimate implementation of health-care reform (UnitedHealth) and fallout from BP's Gulf disaster (ExxonMobil) are depressing the companies' shares somewhat. It's a good time to start researching both. (Click here to see five more stocks that fit this profile.)

The upside: Buying into good companies at good prices is a good, good thing.
The downside: Even blue chips can see their business models break.

Left-for-dead stocks
These are stocks that once flew high but now trade at or near penny-stock prices. They often face imminent bankruptcy due to a huge debt load, are bleeding cash, or sport a price-to-book ratio well under 1. Sometimes, it's all of the above.

AIG (NYSE: AIG  ) has been an example of this type of stock after its government bailout in the fall of 2008. Don't be fooled by its current stock price near $40. That's the result of a 1:20 reverse split. It's trading at a price-to-sales ratio of just 0.05 because it's a big question whether there will be anything left for shareholders after AIG repays the government its tab, which is currently much more than $100 billion. That is, if AIG can repay the government. (Read more about left-for-dead stocks by clicking here.)

The upside: These stocks can be multibaggers if they survive and thrive.
The downside: These stocks may be priced this low for very good reasons. They are not for the faint of heart or the novice investor.

Dividend plays
Many investors lump dividend payers into one bucket. But there are many different flavors of dividend stocks.

There are the safe dividend payers that people normally think of. These are companies that are mature but still have the ability to grow their businesses and dividends. McDonald's (NYSE: MCD  ) (3.1% yield) and ADP (3.2%) are good examples here.

Further down the road are the companies that have diminished growth prospects that wisely pay out large dividends to return wealth to shareholders. Telecom players like Windstream (Nasdaq: WIN  ) (8.7%) and AT&T (6.3%) spring to mind.

Altria (NYSE: MO  ) (6.3%) is somewhere between the first two sets. Cigarette sales have been trending steadily down, but its main brand, Marlboro, has tremendous pricing power to counteract it.

And then, for some more spice, there are the real estate investment trusts (REITs) and master limited partnerships (MLPs) that sport eye-popping dividend yields because they're obligated to pay most of their profits out as dividends to ensure favorable tax treatment. Annaly Capital (NYSE: NLY  ) (a REIT) and Kinder Morgan Energy (NYSE: KMP  ) (an MLP) are paying out yields of 15.7% and 6.4%, respectively.

With bond yields throttled -- 10-year Treasuries are yielding just 3% -- dividends payers are that much more attractive. (For more intriguing dividend payers, click here.)  

The upside: Getting into stocks that pay nice dividends and raise those dividends over time is a wonderful way to build wealth.
The downside: When dividends are cut, the stock price frequently falls right along with it, creating a double-whammy situation.

The bottom line
I highlight all three of these types of stocks -- the left-for-dead stocks, the cheap blue chips, and the dividend plays -- because I find them to be good places to look in today's market. You can start with the examples I've given and pick the ones that suit your investment style -- then dig in to research them to ensure that the prospects are good and the price is right.

There are many ways to attempt to beat the market. I've pointed out three. Share your ideas in the comments section below.  

Anand Chokkavelu owns shares of ExxonMobil, Altria, and McDonald's. UnitedHealth Group is a Motley Fool Inside Value pick. UnitedHealth Group is a Motley Fool Stock Advisor selection. Automatic Data Processing is a Motley Fool Income Investor selection. The Fool owns shares of Altria and UnitedHealth Group. The Fool has a disclosure policy.


Read/Post Comments (3) | Recommend This Article (45)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On August 06, 2010, at 8:13 PM, MegaEurope wrote:

    Interesting that TMF is particularly known for championing small and mid cap growth but you snubbed them.

    I generally categorize stocks as growth, value, and quality (i.e. high ROI + dividend). If a stock isn't in 2 out of those 3 categories I don't buy it.

  • Report this Comment On August 07, 2010, at 9:46 AM, motoruse wrote:

    What about the potential for Frontier Communications after their accquisition of Verizon in rural area's. They notified their share holders of a 25% drop of dividend a year in advance. That is showing integrity which is important. Such integrity will cause FTR stock to rise above its current $7.60 range; plus the added services they can give in 14 states will increase revenue.

  • Report this Comment On August 07, 2010, at 12:00 PM, TMFBomb wrote:

    @MegaEurope,

    Agreed on small-cap and mid-cap stocks...I'm always looking for opportunities there. Today, though, I wanted to highlight these three specific plays because they look particularly attractive.

    @motoruse,

    Frontier offers a very interesting situation. A high (though lowered) yield combined with the opportunity to triple its size (wtih the Verizon deal). The key to the stock is Frontier's ability to integrate the Verizon assets.

    -Anand

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