Blue Chips Are the Most Dangerous Stocks Right Now

 | Oct 24, 2016 | 1:00 PM EDT
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It is going to be a fun week around my house. The Cubs and Indians in the World Series are like a movie plot, and if my Orioles can't be in the Series, then this is the perfect way to end the season. The new release list from the major publishers is pretty much a list of my favorite writers, and to top it off we will see a lot of community bank earnings. We get the private equity firms results as well, and I expect them to provide a lot of insights into the markets and the economy, as usual.

The subject of the markets came up over the weekend. I was asked what I thought were the worst stocks to buy right now. I didn't even have to think about it before answering. The most dangerous stocks right now are dividend-paying blue-chip stocks. Brokers and advisors have been pitching the merits of blue-chip stocks as a source of income for several years now. They have been bid up to the point where I think the pricing of many of them is a little ridiculous. While there is something comforting about owning household names, buying high-multiple shares of slow growing companies is probably not going to end well.

My least favorite blue chip is Coca-Cola (KO) . The stock has been a favorite of income buyers and Buffettologists for a long time now; it is just too expensive. Coke is a great company, and I confess that I do enjoy a Diet Coke from time to time. It has an incredible brand, but that does not mean the stock is a good buy. Coke sells for 24x earnings and about 20x the estimates for next year. The five-year growth expectations are for earnings to increase by less than 3% a year, and I think that's optimistic. If you have owned the stock for years and have tremendous gains, I don't think I would sell your shares and incur taxes, but I would not be a buyer at this price.

Phillip Morris International (PM) is a stock that Blue Chip dividend junkies adore. It makes a product that's addictive, and although smoking is falling out of favor in the developed world there are still growth opportunities in the emerging markets. The flaw in the theory is that emerging market opportunities may not be as robust as originally hoped. The Philippines just banned smoking in all public places, and it will not be a shock if other nations follow their lead. Global growth is not exactly robust right now, and smoking is an expensive habit, so we may well see a much slower growth rate in tobacco sales in emerging markets than what the always optimistic Wall Street analysts are projecting. Even if it hits the anticipated 8% growth rate over the next few years, the stock is rich at 23x earnings.

Exxon Mobile (XOM) has been a popular pick for those blue chip dividend lovers who wanted to make a bet on a recovery in oil prices. We have seen some recovery in black gold and Exxon has had a solid return so far this year. A lot of the bullishness on oil and Exxon has to do with capacity coming offline and creating a shortage. It is worth noting that Exxon's CEO, Rex Tillerson, doesn't think it will play out that way. He said recently: "I don't quite share the same view that others have, that we are somehow on the edge of a precipice. I think because we have confirmed the viability of very large resource base in North America that serves as enormous spare capacity in the system. It doesn't take megaproject dollars, and it can be brought online much more quickly than a three to four-year project." Unless we see a significant surge in oil, Exxon is expensive at the current 34x trailing and 20x expected earnings. The company may not grow earnings at all over the next several years; the stock is best avoided at the current valuation.

Investors who jumped on the Blue Chip dividend train five years or so ago have done very well. An investor seeking income right now should look to other sources until we see much lower stock prices and valuations. It may feel comforting to own shares of companies whose products you know and use all the time, but the pricing in these stocks right now could be damaging to your net worth.

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