"Boring" large-cap funds are exciting again

December 19, 2008

In a stomach-churning financial climate like this one, it's wise to take a bland approach to your financial diet.

Key Points

In a stomach-churning financial climate like this one, when every week seems to bring huge changes in the stock market overall and the financial services industry in particular, and when the government stands poised to play a new role in the markets, it's wise to take a bland approach to your financial diet. That is why I recommend what I call "plain vanilla" large-cap funds.

Perhaps you've always been most comfortable with larger companies, but found them to be boring. You might also have been concerned because their performances have lagged. But now, plain vanilla is the flavor of choice: These stocks, and the portfolios made up mostly of them, are once again the exciting part of the market.

What are the key characteristics of plain-vanilla funds? These are the blue-chip companies that are large in size, diversified in their geographic reach, and that have product lines with strong positions in their markets. Coca-Cola and IBM are classic examples of plain-vanilla blue chips. The most attractive blue-chip companies are those that boast an average to above-average growth rate and are selling at reasonable valuations.

By the same token, while emerging international markets have shown great appeal, they are beginning to lose some of their luster. Fluctuations in the price of oil have hit them hard. Emerging markets have been hurt as their economies have moderated. European markets are moving into a sluggish period and are actually behind us, meaning the United States is likely to be first out of the recession.

Nowadays, plain-vanilla large-cap funds are reasonably priced in relation to what else is out there. A good example would be General Electric, which has always been viewed as a quality company, but which was out of favor because it was too highly priced and had some earnings difficulties. At the current price, any negatives appear more than incorporated in the stock price.

Moreover, investors have been burned by taking additional risk. When looking for safety within the context of the stock market, there is nothing more reassuring than a larger, broad-based company growing at a reasonable rate.

Another reason to consider vanilla large-cap funds is that international trade is important to many of these companies, and they tend to have strong positions around the world-including in Asia, where India and China represent potential for better-than-normal growth rates.

Quality is the key word. Not every large cap is a plain-vanilla blue chip. (Take General Motors, for example.) Since the nation's credit problems surfaced about a year ago, it has become more wise to look for funds invested in larger companies with good balance sheets. Difficulties in the financial sector won't end until real estate approaches its bottom, which I estimate to be around mid-2009.

Typically, I recommend buying mutual funds rather than individual stocks. Two funds to consider are Vanguard Windsor II and T. Rowe Price Blue Chip Growth. Despite down years, each fund is now attractively priced; together, they form an excellent large-cap blend.

A diversified portfolio, invested principally in high-quality securities, reduces your risk in down markets while enabling you to share in the profits when the eventual, inevitable turn upward begins. Remember, stock markets tend to anticipate events and to move well in advance of them. So now is the time to prepare for that upward turn.

The author, a fee-only financial planner, is president of L.J. Altfest & Co., a financial and investment advisory firm in New York City, and an associate professor of finance at Pace University. The ideas expressed in this column are his alone and do not represent the views of Medical Economics. If you have a comment or a topic you'd like to see covered here, please e-mail meinvestment@advanstar.com
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