What is a blue chip stock?

What are blue chip stocks and why should you invest in them?

Blue Chip stocks have a large market capitalization, a history of growth and stability, and frequently pay dividends. But what exactly are they, and should you invest in them?
 
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There are many different theories or compendiums of advice for would-be investors. One of the most consistent has been that if you want to have the best returns, with steady, ‘reliable’ growth, invest in the most well-known, and highest-capitalized companies. These companies are called “Blue Chip” stocks. 

What Is a Blue Chip Stock?

Blue Chip stocks are supposedly called that due to ‘blue chips’ holding the highest value in games of poker. 

There is no definitive list of ‘Blue Chip’ stocks, however, most traders consider stocks listed on the Dow Jones Industrial Average as Blue-chips.

The DJIA, or Dow, as it is known, is an average of 30 large publicly-owned stocks’ performance throughout a trading day. 

Those 30 publicly-traded stocks are considered Blue Chip stocks by investors. In addition to being the stocks composing the DJIA, the 30 companies are considered as the strongest U.S. companies with the best reputations for growth. 

To name a few: Alphabet  (GOOGL), which owns Google, Amazon (AMZN), 3M  (MMM), American Express (AXP) and Apple (AAPL). 

The companies comprising the DJIA have changed, but those that are listed are considered large, stable, and financially sound or well-capitalized. 

However, that’s not all that makes the Blue Chip.

To be considered a Blue Chip, a company must have a large market capitalization, growth history, be a component of a market index (not just the DOW) typically a blue-chip pays dividends, though not all do. 

The size and value of a company are measured as its market capitalization. Its growth history is usually impressive, with market capitalization of $10 billion or more, and it will be a part of a major market index like the S&P 500, the Nasdaq 100, or a combination of one or more. 

Although not all Blue Chip stocks pay dividends, most do. Suggesting they no longer have a great need to reinvest in their own company for it to grow. 

Why Invest in Blue Chip Stocks?

Many investors look at Blue Chip stocks is because of their reputation for having stable and consistent earnings. 

Companies with stable earnings over a prolonged period are seen as reliable investments. Stable, reliable earnings typically correlate to similar returns for your portfolio. 

If you choose a blue-chip stock that pays dividends. Not only will you benefit from the stock’s value rising, you will also get paid something ‘extra’ for investing in the company. 

For instance, a company that paid a 20% dividend on stock that had already appreciated in value works as a clear incentive to investors. 

Stability also indicates the company’s financial footing is sound, not overly burdened by debt, with financial ratios such as debt-to-equity intact and within prescribed ‘safe’ limits, and the company has an efficient operating cycle. Such stability tends to protect the stock from severe volatility, limiting downside risk based on economic fundamentals.

Stability is also good to help you maintain a diversified portfolio including a means to reduce your overall risk profile, allowing you to invest in stocks with greater risk knowing there are reliable, stable, less volatile and risky stocks in your portfolio. Blue Chips tend to have multiple revenue-producing divisions and diversified business lines that help them reduce potential corporate risk from operational failures or just losses. 

What Are the pros and cons of blue-chip stocks?

Pros:

  • Stability: Blue Chip stocks sometimes do fail, or crash, like others, but far less frequently. For example, Coca-Cola (KO) which made an initial public offering in 1919 of shares on the New York Stock Exchange for $40 a share. If you had bought a single share at $40 after the IPO, which crashed to $19 because of the ‘Sugar Crisis,’ and hung onto it, it would be worth more than $15 million with dividends invested.
  • Strong financial performance
  • Potential for regular dividends
  • Relatively low downside risk
  • Low volatility
  • Steady long-term returns
  • Well-regulated and governed

Cons: 

  • Blue Chips lose favour on the DOW. The stocks considered Blue Chips have changed as the economy shifts, with some cutting dividends and others, like General Electric Co (GE) and General Motors (GM) being removed from the index as stronger, more stable stocks took their place. Both of these stocks, like most Blue Chips, were once a household name. But its sector wasn’t growing, so another, better preforming company, came and took their place. Stocks that were once common household names, like Kodak (KODK) Xerox (XRX) and Chrysler are no longer even considered Blue Chips.
  • Because Blue Chip stocks are, by definition, stable, they aren’t likely to ‘beat the market’ in terms of growth. As Blue Chips tend to be the ones driving stock averages and indexes, they aren’t likely to stray much in terms of return from the averages. 
  • If you’re a young investor, you may want instead to invest in companies that, rather than paying dividends, invest in their own growth and increased stock value. Younger investors are more likely to want a growth stock to build wealth than a steady, stable stock. 
  • Most potential good news is built into a Blue Chip’s stock price. Bad news can, therefore, jolt investors and damage the share price that exists because of perceived stability.
  • Low, though steady, returns
  • Poor dividend yield
  • Cannot beat the market
  • May be conservative in terms of exploring more opportunities, diversifying in products or industries.

5 Blue Chip Stocks

Here is a list of 5 Blue Chip stocks currently attracting long-term investors.

Following the company’s name is its stock symbol, so you can look at its performance and other details yourself as often as you like. We have also shown an example of how much could have been made if you were lucky enough to have invested early on, as the company went public.

This list is meant neither as investment advice nor endorsement, it is merely a factual portrayal of the listed companies’ status in terms of market capitalization at that time.

1 – Microsoft (MSFT)

The computer software company that only became a public company in 1986 with its Initial Public Offering with shares priced at $20 each. Microsoft (MSFT) currently has a share price of $158.96 at the time of this lists creation.

Example:

    • IPO price – $20
    • Current price – $158.96
    • Investment – $1,000.00
    • Current capital – $7,947.99
    • Return % – 694.80%

2 – Apple Inc, (AAPL)

The personal computer company that has since branched into several other electronic products first became a public traded company before Microsoft , with an IPO for priced at $22 a share, in 1980. Apple Inc, (AAPL) currently has a share price of $289.80 at the time of this lists creation.

Example:

    • IPO price – $22
    • Current price – $289.80
    • Investment – $1,000.00
    • Current capital – $13,172.69
    • Return % – 1217.27%

3 – Amazon (AMZN

Amazon – the e-commerce powerhouse started attracting investors with its IPO in 1997 offering shares at $16 each. Amazon (AMZN) currently has a share price of $1869.80 at the time of this lists creation.

Example: 

    • IPO price – $16
    • Current price – $1869.80
    • Investment – $1,000.00
    • Current capital – $1272.69
    • Return % – 11586.25%

4 – Google Inc. (GOOG)

The world’s number one search engine, which is now a division of umbrella company Alphabet, came onto the market with an IPO as recently as 2004. The company first offered shares under the symbol GOOG at $85 each. The symbol GOOG now represents the Alphabet’s Class C shares (GOOG) Alphabet’s Class A shares trade under the symbol GOOGL, and is currently trading for 1,354.64 per share.

Example:

    • IPO price – $85
    • Current price – $1869.80
    • Investment – $1,000.00
    • Current capital – $15,936.94
    • Return % – 1493.69%

5 – Alibaba Group (BABA)

The Chinese e-commerce giant had the largest IPO on record in the U.S., debuting in 2014 at $68 per share and raising $21.8 billion from it. Alibaba Group (BABA) currently has a share price of $215.47 at the time of this lists creation.

Example:

    • IPO price – $68
    • Current price – $215.47
    • Investment – $1,000.00
    • Current capital – $3168.67
    • Return % – 216.86% 

Conclusion

As you can see, Blue Chip stocks are less volatile, steady and reasonably safe stocks to invest in, if you intend on holding stocks for a long time. But they also come and go, due to the market and even societal forces that change peoples’ spending habits.

It is one of the best ways to start building a diverse and long-term portfolio, as you can rely on these stable investments to be the backbone of your portfolio and perform as the underlying company does also.

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