There are a lot of different ways to invest in the stock market. A popular strategy is to focus on emerging, fast-growing disruptors that are innovating in expanding markets. While owning these types of companies can be risky and lead to heightened portfolio volatility, the prospective returns could be big.
On the other end of the risk spectrum, another strategy is to try to own only some of the largest and most established businesses. This is a safer investing method that could still help you reach your financial goals. Here is why it might be a worthwhile strategy to invest in these so-called blue chip stocks.
Image source: Getty Images.
Providing a portfolio's foundation
Blue chip stocks are shares in companies that possess favorable traits like being an industry leader, providing products or services that are always in demand, a history of producing solid investor returns, and a history of paying increasing dividends. In other words, they have a proven track record of success and reliability.
Legendary investor Warren Buffett and the conglomerate he leads, Berkshire Hathaway, focus on owning blue chip stocks as well. In fact, Berkshire Hathaway itself could be viewed as a blue chip, although it doesn't pay dividends. Simply owning the Omaha-based enterprise would've produced annualized returns of 666% over the past 20 years. That's not too shabby.
But if we peek at Berkshire's public equities portfolio, which is valued at $334 billion (as of Dec. 31), we'll see that it is filled with blue chip names. The top five stocks in the portfolio are Apple, Bank of America, Chevron, American Express, and Coca-Cola. Combined, these companies have a market capitalization of $3.4 trillion.
For investors who want to do something other than owning Berkshire Hathaway stock, and who don't have the time or the necessary skills to be able to analyze and pick individual stocks, there's another way to get exposure to blue chip businesses. By looking at exchange-traded funds (ETFs), like the SPDR Dow Jones Industrial Average ETF (DIA -0.53%), that own the constituents of the Dow Jones Industrial Average (DJIA), you'll have access to 30 blue chip stocks, including Walt Disney, Visa, Home Depot, and Nike. While the DJIA is up only 39% over the past five years, perhaps more importantly, it was only down 11% in 2022. This compares quite favorably to the 19% and 33% declines of the S&P 500 and the Nasdaq Composite Index, respectively, last year.
Providing shareholders peace of mind
Especially in an uncertain economic environment, one characterized by stubbornly elevated inflation, rising interest rates, and the possibility of a recession on the horizon, owning shares of established, mature, stable, and well-known businesses can provide some downside protection. Even better, this strategy could work wonders for your peace of mind, which is also an extremely important variable when it comes to investing.
There's a high level of certainty that companies like JPMorgan Chase, McDonald's, and Walmart will still be around decades from now. They are resilient and reliable, and demand for what they offer to customers has shown to be durable through various economic cycles.
Let's contrast this with some high-flying growth tech stocks. Carvana and Peloton, for example, were on top of the world during the depths of the coronavirus pandemic. But as the economy weakened and macro headwinds created challenges, these two businesses have struggled greatly. Even profitable companies in this more growth-oriented category, like Netflix and PayPal, are still experiencing their own set of struggles.
Even for investors who like to venture toward the riskier end of the stock market spectrum, it might be a smart move to consider adding some blue chip names to your portfolio.
