Don’t Get Caught Up in the Game

06/10/2008 12:00 am EST

Focus: STOCKS

Kelley Wright

Managing Editor, Investment Quality Trends

Kelley Wright, managing editor of Investment Quality Trends, says that as the big picture gets more confusing, the number of underpriced, high-quality stocks is growing.

The belief in some circles is the January lows represent the bottom of the financial markets: that Mr. Market has discounted all of the possible outcomes with the banking and housing melt-downs; the breadth and depth of the commodities spike; the decline of the dollar; the fading expectations of recession; ad infinitum.

This belief was bolstered when the February retracement of the relief rally failed to put in a lower low. As the markets rallied from March into April, converts to this belief grew on a daily basis until the Dow Jones Industrial Average crossed 13,000 and ran into the brick wall that is the crude oil market. When crude prices vaulted past $120 per barrel the markets eased off the pedal (no pun intended) and retreated into a trading range with Dow 12,600 representing the bottom of the range. When crude passed $130 per barrel, the bottom end of the trading range fell apart like a cheap suit and the Dow declined to the 12,450 range just before the long Memorial Day weekend. (It fell to around 12, 200 last Friday-Editor.)

With the vast amount of financial content on the airwaves, the Internet and myriad publications, it is easy to get overwhelmed and numbed by indecision, which my partner Mike calls "paralysis by analysis." If you try to play this game, it will eat you alive, so don't play; think!

The value of a stock is its dividend stream. High-quality stocks fluctuate between extremes of low price/high yield and high price/low yield. When you buy a high-quality stock at its low-price/high-yield extreme you are buying its dividend stream when the downside risk is at a minimum and the upside potential is at the maximum. So, what if it doesn't move higher tomorrow, next week, or next month? The value is there and eventually it will be recognized but in the interim you will realize dividend increases that will only result in increased value.

Not too very long ago there were only 19 or so stocks in our Undervalued category. As of mid-May there were 86, many of which are A-rated or greater by S&P and have the IQ Trends "G" ranking for outstanding dividend growth on an annual basis. I look at the Timely Ten and say, "are you kidding me?" GE, Mc Donald's, Johnson & Johnson, Colgate Palmolive, PepsiCo, Procter & Gamble, and Coca-Cola all at the same time? No one, not you nor I or anyone, knows for sure what the markets will do over the short term. What I do know is the companies above will continue to do what they have always done; make money and share part of it with their shareholders. That, along with the dividends, you can take to the bank.

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