Blue-chip stocks are shares of well-established and financially sound companies that have been in operation for a long period of time. They are usually the leaders in their markets and have market capitalizations in the billions of dollars. What are the pros and cons of investing in blue-chip stocks?
Blue-chip stocks are the most popular stocks to purchase because of their solid balance sheet and income statements, history of increasing dividends, and proven business models. Investors switch to blue-chip stocks during economic slowdowns to protect their investment portfolios. Blue-chip stocks are a part of reputable benchmark indexes like the NASDAQ 100, the S&P 500, and the Dow Jones Industrial Average.
Why investors like blue-chip stocks
Blue-chip stocks are shares of large companies with a proven track record of growth and performance history. Most equity investors prefer blue-chip stocks because of their stable earnings. These stocks usually pay consistent or increasing dividends. Investing in blue-chip stocks can cushion the impact of inflation, recession, and economic stagnation.
Blue-chip stocks are the most expensive stocks on the market. However, they are a popular choice due to their steady cash flows and consistent dividend payments. Blue-chip stocks are popular among long-term investors due to their steady growth rates.
Advantages of owning blue-chip stocks
In the long term, the returns generated by blue-chip stocks are more assured. These stocks have a high market share and also earn huge profits. Blue-chip companies often distribute their profits to stockholders in the form of dividend payments. As a result, the companies are usually the best dividend payers on the stock market.
High market share, low debt, and high profitability make blue-chip companies seem invincible. The stocks' solid business fundamentals make their future earnings growth more predictable. The biggest advantage of purchasing blue-chip stocks is that the stock price is more stable in falling markets. However, this doesn’t mean that blue-chip stocks' stock price doesn’t fall when the stock market is falling. The stock price will also fall, but the decline will be slower. The stock will be the first to rebound when the stock market eventually recovers.
Disadvantages of owning blue-chip stocks
Blue-chip companies are matured and large corporations. As a result, their future growth isn't as fast. The biggest disadvantage of blue-chip stocks is that they have only moderate growth potential because they are older and less innovative companies. If we compare the potential returns of a blue-chip stock versus a good growth stock, the latter usually wins.
The PE ratio of blue-chip stocks is usually very high. Blue-chip stocks must be bought at reasonable price levels and by estimating their intrinsic values. The stock price of these stocks will also fall significantly on sudden and unexpected bad news.