In Fact, Stay Away From All Large-Caps

 | Oct 23, 2013 | 3:00 PM EDT
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I took a moment last night to give the incomparable Bob "Yeti" Bryne a call to wish him happy birthday. As usual, we chatted about all things markets, politics and whiskey. During the call he mentioned that he liked my recent series on blue-chips to avoid (see here and here). But he wondered if, in using my approach, there would ever be a time to buy the blue-chips except during the crash-like atmosphere of times like 2008 and 2003.

I had to compliment Bob on his grasp of how I approach these large-company stocks. They are a buy during a crash, a sell during a bubble and a hold most of the time in between. When it comes to blue-chips, I invoke my old friend Mr. Womack and only buy when the world appears to be ending.

Most of the time, the dividend-paying blue-chips will trade at a premium to their intrinsic value. Right now that premium is excessive, and I think anyone with new money to invest should avoid them like pitchers avoid throwing Chris Davis a belt-high fastball. I can see some very conservative investors buying them at a smaller premium for the dividends, and for the comfort that comes from owning well-known names. That's not my style, and I have no interest in owning them until no one else on the planet is interested in them.

Of course, as much as I hate these stocks now, I loved them in 2008 and 2009. I was an enthusiastic buyer of Disney (DIS) when it was trading at one-third of my appraised value of the company. I wrote at least one column that suggested buying the tech giants, like Microsoft (MSFT), Cisco (CSCO) and Intel (INTC), because they traded well below intrinsic value and had outstanding dividend-growth potential. Large-cap stocks were cheap, there was panic-selling and they were outstanding buys. That is simply not the case right now.

I am not suggesting that you short these names or even sell them completely out of your portfolio. If you bought some of these names back in 2009 or even as late as 2010, you may choose to just ride out any potential storms and collect your dividends. What I am suggesting is that you ignore the urge to put another dime in these things until prices and valuations are corrected in due time. You can buy the world's greatest company at too high a price and end up losing money.

Mr. Womack and I aren't the only ones who think that buying at the right price is the key to long-term success. I may not like Warren Buffett's politics and pithy statements very much, but he is a master of buying right. Back in 2009, when everyone thought the world was ending, he was big buyer of large-cap financials, entire railroads, drug companies and other big stocks being sold by panicked investors. Charlie Munger took all the money he made running foreclosure notices in his Daily Journal publications and plowed it into stocks in 2009, and made so much money that the Securities and Exchange Commission accused him of operating a closet hedge fund. As Ben Graham once opined, "A stock well bought is half sold."

I will take a certain amount of criticism for this suggestion -- that investors consider selling and definitely avoiding the large-cap stocks. After all, no one can predict the future, as I frequently remind everyone. But we can react to what the market does – and it's a good idea to take money off the table when the market has advanced for an extended period, and to avoid putting our hard-earned money into overpriced securities at an all-time high. I see very little upside potential for companies like Coca-Cola (KO) and McDonald's (MCD) at these levels, and no margin of safety. There is no compelling reason to buy them.

When investing for long-term gain, the hardest thing to do is to avoid getting caught up in short-term euphoria and putting your money to work at disadvantageous prices. The market is pretty pleased with the passing of a debt resolution in Washington, even if it's only good for a short period, and it also likes that the current economic growth does not justify tapering of bond buying by the Federal Reserve. Neither of these is a valid reason to chase stocks that have doubled and tripled off the lows and trade at premium valuations. Almost all of the larger companies are looking at an extended period of low to no growth, and stock buybacks and layoffs can only get you so far.

Buying right is a huge part of the equation for success in the stock market. Use common sense and patience, as they are your best tool to make money in stocks. Right now, common sense says you should wait to buy the blue-chips.

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