Blue Chip Stocks

Lots of investors talk about blue chip stocks, but many new investors don't really understand what "blue chip" actually means - and for good reason.  Even seasoned stock market analysts don't completely agree on a definition.  In fact, you won't find a formal definition of a blue chip stock anywhere.

Defining Blue Chip Stocks

So what exactly are blue chip stocks?  Well the term "blue chip" itself is a reference to placing a wager on a stock.  At one time blue was the color of the highest-valued wagering chip, so what the term is actually referring to are stocks that are "safe bets."

So we can infer from history that a blue chip stock is one that is very likely to provide you with a fair return on your investment.  And in order to do so, a stock must have a proven track record, be financially sound, and must be somewhat insulated from the ups and downs of the economy.

Other terms that are often used in conjunction with blue chip include "bellwether" and "large cap."  Bellwether is a term used to describe a company that is recognized as the leader in its industry.  For example, Microsoft would be considered a bellwether stock for computer software.

Large cap is a reference to the size of a company in terms of total market capitalization.  Market capitalization is simply calculated by taking the number of shares outstanding and multiplying by the stock's current price per share.

Dow Jones Industrials

Perhaps the most famous list of 30 blue chip stocks is the Dow Jones Industrial Average.  First published in 1826, the 30 companies in the DJIA are carefully selected from a variety of industries to provide a good indication of the health of the American economy.  You won't get many arguments if you use the companies in the Dow as your benchmark for blue chip stocks.

Finding Blue Chip Stocks

Based on our earlier description of what a blue chip stock is, we'd thought we'd use a stock screener to help develop a quick list of what we think are blue chip stocks.  To do so, we really needed a more detailed definition of a blue chip stock.  That means we needed to translate each of the characteristics of a blue chip stockdescribed above into a parameter we could use in our screening.

• Blue Chip Stock Are Proven - Part of our definition includes the proven track record of a stocks.  We're going to translate this requirement and make sure our list of blue chip stocks only consists of companies that are included in the S&P 500.
• Blue Chip Stocks are Large - To make sure our list only contains large companies, we're going to set our blue chip stock's minimum market cap at $10 billion.
• Blue Chip Stocks are Financially Sound - Financially sound companies probably pay dividends, are profitable, and have good bond ratings on their debt.  We're going to screen our universe of stocks for good dividend yields, earnings growth and interest coverage.

To be more precise, in our stock screener, we used the following criteria to develop our list of ten blue chip stocks appearing in the table below:

• Membership in the S&P 500
• Market Capitalization in excess of $10 billion
• Year Dividend Yield >2.8% over the last five years
• Expected EPS growth >5% per year over the next five years
• Interest coverage greater than or equal to 4.0

Blue Chip Stock List

Of the ten stocks we found using a stock screener and based on our definition of a blue chip stock:

• Verizon Communications is a current member of the Dow Jones Industrial Average.
• FPL Group, Dominion Resources, and FirstEnergy Corp. are current members of the Dow Jones Utilities Index

This is a surprisingly good outcome given the fact the stock screen was based on just a couple of relatively simple search criteria.

Buying Blue Chip Stocks

If you're looking to buy a blue chip stock, then you've got a couple of options.  Perhaps the easiest way is to purchase a blue chip stock mutual fund.  For example, a mutual fund based on the Dow Jones Industrial Index or the Dogs of the Dow.  You can also purchase an exchange traded fund such as the Dow Diamonds.

Finally, if you more interested in investing in single stocks that would be considered blue chip, you might want to read through our series on Stock Research.  There you'll find a step-by-step method to help you identify not only blue chip stocks but also stocks that might be undervalued right now.

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