Tracking yourself against a benchmark index is the most natural thing for an investor to do. But often, it's also exactly the wrong thing to do.
Later in this article, I'll name five stocks for people who aren't afraid to flout convention and seek out promising stocks that are also relatively safe. But first, let me take a minute to explain the mistake that so many investors make with their portfolios -- and why you should consider taking a different path.
That ol' S&P
Wherever you go, investors compare themselves against the S&P 500. As the leading benchmark of large-cap U.S. stocks, the index includes 500 stocks that represent the cream of the crop among big business. And with stocks from every sector of the market, the S&P 500 represents a reasonable cross-section of the entire American economy, and its constituents play a major role throughout the world.
In particular, the S&P 500 is often the standard against which market pros compare themselves. Those who beat the index -- even by a mere percentage point -- reign supreme, while those who fall short get nothing but ridicule. Even here at The Motley Fool, our CAPS service uses the S&P 500 as its bogey for determining whether members win or lose.
But letting the S&P 500 serve as your baseline measure of success is often patently ridiculous. That's why you need to hold yourself to a different standard and ask yourself: What do you really want from your investments?
Playing it two ways
You see, the key to the markets is that risk and return often go hand in hand. So if you take huge risks, you really need to earn more than the S&P's return to compensate. And on the other hand, if you're looking for safer ways to invest in stocks, it's fair to accept lower returns in exchange for that safety.
That's why I went in search of stocks that have underperformed the S&P 500 since 2009's lows but have still put up good returns with much less volatility. I came up with five I like best:
Return Since March 9, 2009
Procter & Gamble
Source: S&P Capital IQ.
Here's the thing: These stocks didn't come close to matching the S&P over that timeframe. It almost doubled when you include dividends.
But when you look at the beta measures, you'll see why these stocks have been worth owning. All of these stocks have seen price movements that were less than half as violent as the market's overall volatility. That means that with these stocks, you might well have slept a lot better in recent years than you would have with the S&P -- even if it cost you a portion of your returns.
More important, you don't give up quality with these stocks. Southern is a rock-solid utility in a growing portion of the country, benefiting from economic trends that should give it a competitive advantage over its peers. Abbott Labs has dominated the medical space for years and now plans to split itself into two different but attractive parts. And Amgen, which recently started paying a dividend, is seen as a premier biotech company with all sorts of growth opportunities -- especially as traditional pharma stocks start scrambling to address patent cliffs.
Meanwhile, the two consumer stocks on the list are household names. Pepsi has faced up to its larger rival in the soft drink space while diversifying into snack foods, providing itself a broader base from which to capture customers. Procter & Gamble's products fit into every home, yet it also finds ways to stay profitable and grow with innovative ideas.
In the long run, I think these stocks could easily beat the market. But what you need to understand is that they don't need to beat the market. With lower risk, these stocks will make you feel more secure about your investments. For many, that peace of mind is well worth enduring the times when these stocks lag behind more high-powered rivals.
If you are willing to take some risks, though, sometimes it makes sense to swing for the fences. You'll find one stock with a lot of promise in The Motley Fool's new special report, where we reveal our top stock pick for 2012. It's free, but only for a limited time -- so check it out now.
Fool contributor Dan Caplinger sleeps pretty well at night. You can follow him on Twitter here. He doesn't own shares of the companies mentioned in this article. The Motley Fool owns shares of Abbott Labs and PepsiCo. Motley Fool newsletter services have recommended buying shares of Abbott Labs, PepsiCo, Procter & Gamble, and Southern, as well as creating a diagonal call position in PepsiCo. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Fool's disclosure policy gets its fair share of sleep.
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