Why blue chip stocks aren’t the best choice

A Toronto-based industry insider tells WP why commonly held investing beliefs are holding portfolios back

Why blue chip stocks aren’t the best choice
Investors are more inundated with news about the markets and their investments than ever before. The average investor may have more access to information than in the past, but does that actually put them in a better position to make important decisions about their portfolios? Much of the evidence suggests that more information does not necessarily mean better results.

Blue chip stocks have been an area of the market that has benefitted from investor sentiment for decades. They have long had a reputation as being sensible investments (often, with good reason), but, according to Danny Popescu, President and CEO, Harbourfront Wealth Management, a lot of what modern investors believe isn’t necessarily helping them in the current investment landscape.

The belief that blue chip stocks are a foolproof investment is one such misconception that is having a damaging impact on portfolios, Popescu said.

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“Many investors have always thought that their best option is to stick to investing in stock and bond markets, because they have been very accessible and heavily marketed by financial institutions,” Popescu said.

“Then, once they’re convinced to invest in the public space, investors have also been told that blue chip stocks are stable, can weather any economic downturn and represent the safest way to invest in stocks. There is validity to that argument, but investing in stocks purely because they are blue chip can create a lot of problems.”

The current level of valuations is one of the major red flags for Popescu. He described valuations as being “definitely a little rich right now”. Most blue chip companies are trading at around 20 times forward earnings, while the historical average is somewhere in the 12 – 14 range, Popescu explained.

“But, even at 12 – 14 times future earnings, you are essentially relying on getting your money back from that company over a 12 – 14 year period, if their earnings stay the same,” Popescu said. “The concern is that investors are paying a significant premium for buying a publicly traded company. Purely because of the liquidity aspect, public equities are far more expensive than private investments.”

“Investors need to keep in mind that no matter how large or stable a company might appear, if there is a catastrophic event or a feeling that the market might collapse, investors can push the value of even blue chip companies down. I’ve seen blue chip companies lose 30% of their value over a three month period. Just because they are large doesn’t mean they are stable from a pricing and trading point of view.”

Popescu believes that, in the modern market, alternative investments like private debt have an increasingly important role to play.  “Investors used to think that investing in different stock markets would help them achieve diversification, but with the rise of globalization it’s becoming more difficult to get true diversification in equities,” Popescu said.

“Alternative investments provide regular and predictable streams of income and increase the odds of a client meeting their objectives.”

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