Choose a Quality Strategy

 | Feb 26, 2013 | 1:00 PM EST  | Comments
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krft

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bac

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de

It's hard to believe that Monday's 200-point drop in the Dow Jones Industrial Average was the first such drop in nearly four months. Complacency can be treacherous in investing. Yesterday's drop was blamed on the election gridlock in Italy. If Italy is causing such volatility in the U.S. markets, what are we in for when the Federal Reserve decides to abandon its low-interest policy, stops buying securities and hands off the fate of the U.S. economy to the consumer and corporations?

For what it's worth, I think the handoff will be better than most expect it to be, but perhaps not as smooth as any of us would like. Stocks aren't cheap today. They aren't at crazy valuations either, but the pool of multi-bagger investment opportunities is all but extinct -- unless you are willing to dig deep into special situation investments. Never mind multi-baggers, even finding securities capable of 15% annualized returns is not as easy as it once was. Still, with banks paying less than 1% and having to lock up your cash for five years or more to earn 3% a year, achieving a 6% to 10% annual return from the stock market over the next several years would be a stellar result for most investors today.

Those returns are achievable if investors appreciate the inherent value of quality stocks. It's hard to imagine that Apple (AAPL) today is not capable of 10% annualized returns over the next several years. The dividend alone gets you close to 3%. But Apple is no longer is as dominant as it once was. The past four years that Apple spent collecting the lion's share of profits for smartphones was time that Google (GOOG) spent intensely been developing its own phone. And while the iPad still remains the dominant tablet, Apple won't have the same "first mover" advantage it did with the iPhone. Amazon already has $299 tablet and news surfaced on Monday that Samsung may be undercutting one of its best customers -- Google - with its own $149 tablet.

Kraft Foods (KRFT) with its 4.2% yield looks very appetizing. Thanks to Warren Buffett, the food industry has been put on notice: Keep costs low or the competition will devour you. Even though this new post spin-off Kraft is focused on the slower growing U.S. market, Kraft's stable of household brands along with a slowly growing U.S. population make it achievable for Kraft to grow profits over time by 5% a year. Add a 4% dividend yield and you come away with a high quality risk adjusted return in today's environment.

Even though Bank of America (BAC) shares have more than doubled from a year ago, a couple of years from now could see them nearly double once more. With each quarter, its quality improves and before you know, everyone will again be referring to the stock as a must-own security -- but that probably won't happen until the shares trade for $16 and yield 3%. Deere (DE) is another high-quality global business that has an excellent business model capable of withstanding the most difficult conditions. Deere's franchise model is lucrative -- revenues not only come from equipment sales but all future servicing needs.

That the market has more than doubled in the past three years will naturally serve to elevate future market expectations, which is a very dangerous circumstance for many investors. Great investors think about how to not lose money first; everyone else thinks about how to make money first.

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