What is the Definition of a Blue Chip Stock?
What is the definition of a blue chip stock? While it doesn’t necessarily have a specific definition, a blue chip stock is considered to be stock of a financially sound, well-established, large company which has been in operation for a long period of time. Typically, a company that is considered to be a blue stock has billions in market capitalization and tends to be one of the top three companies in its particular industry or sector. In addition, most often the company is also considered to be a household name, such as Coca-Cola, Disney, or IBM.
Breaking it Down
The term “blue chip stock” refers to company shares which are thought to be considerably safer to invest in than the majority of stocks available due to a combination of factors. These factors, as mentioned above, include an excessive amount of financial strength. These finances can be in the form of enormous cash reserves, such as Berkshire Hathaway, or in the form of no or little debt, such as Visa or Facebook. Both of these advantages bring with them high probability of surviving in case another Great Depression were to hit.
Another factor is near impervious advantages in the competitive market, making it possible to earn high returns on either equity or assets while still keeping other companies at bay. Companies who have little or no competitiveness are more likely to corner their niche of the market, making them more likely to prolong both long term business and earnings. On the flip-side of this factor is having lowered levels of volatility over extended periods of time. This low volatility is relative to the whole of the stock market.
Additionally, a blue chip stock needs to have a thorough history of significant dividend growth, excessive of the inflation rate not only year after year, but after decades and generations as well. This growth ensures the company will continue to grow and continue to payout for years to come.
The Term’s Origination
The term “blue chip stock” actually originated from poker. When placing bets in poker, a blue chip’s denomination was of the highest value. In the same accordance, these blue chip stocks are considered to be of the highest value as well, meaning they are the most valuable holdings in a specific portfolio. These stocks are not only the ones an investor should wish to hold onto, but also the ones to which the investor would want to pass on to his/her children and/or grandchildren via a trust.
Benefits of Blue Chip Stocks
This is probably one of the most important questions: what are the benefits of investing in these types of stock? They have stable earnings. Even during periods of economic downturn, these companies are considered to be “safe havens” for investors due to their being secure. Companies which are blue chip offer security even during periods of slowed growth, generally because of the management team’s intelligence and ability to still generate profits that are stable. Even if these companies do experience a poor term, they bounce right back directly.
Furthermore, blue chip companies generally pay to their shareholders an amount of dividends since the stock itself doesn’t move much in price. The dividends make up for this lack of movement, paying an amount that typically increases uninterruptedly over time. In the long run, these blue chip stocks will benefit the investor from these payments, generating portfolio income. In addition, these payments also help in the protection against inflation.
Blue chip companies also have strong cash flows and balance sheets as well as strong, consistent growth and business models. They are considered to be an investor’s most secure investment. These stocks can be allowed to grow steadily over time, paying out dividends along the way.
How to Find Blue Chip Stocks
Certainly, if you’re are going to invest, blue chip stocks are the most secure, but how do you find them? There are several ways, beginning with checking research published by Standard and Poor’s (S&P) called “Dividend Aristocrats”. This research includes blue chip stocks which have elevated each year their dividends for at least twenty-five years, which is a remarkable achievement. These companies are most stable and are ripe for investing.
If you don’t find what you’re looking for there, checking individual components of both the S&P 500 and the Dow Jones page by page can help you find firms with appealing financial ratios that work for you. Suggestions of blue chip companies include Hershey and Johnson & Johnson. You want companies that pull through even the worse economy, surviving to come out on top once again. These companies are the ones who will most often payout dividends on a regular basis, which is, after all, what you are looking for when investing in blue chip stocks.
