Here are five ways investors can get the highest returns from blue chip shares

If you’re invested in blue chip shares, you’re well on your way to boosting your investment returns. Blue chip shares are well-established stocks that have the asset size and the financial clout—including sound balance sheets and strong cash flow—to weather market downturns or changing industry conditions.

Blue chip shares have strong positions in healthy industries. They also have strong management that will make the right moves to remain competitive in a changing marketplace.

We have found that one of the best ways to improve the long-term performance of your blue chip shares is to avoid losses—win by not losing, you might say. Today, we look at five tips that will help you maximize that performance.

Blue chip shares investing tip #1: Diversify

One way to make sure you maximize you returns from blue chip shares is to make sure you are diversified across most if not all of the 5 main economic sectors. Manufacturing and Resource stocks generally involve extra risk, Canadian Finance and Utilities entail lower risk, and the Consumer sector falls somewhere in between. Sectors go in and out of investor favour, depending on economic conditions, corporate earnings, and so on. But in the long run, winners and losers will appear in all five.

If you only hold blue chip shares in just, say, two sectors, you may get lucky and all of your picks will be successful ones. But all your stocks could wind up out of favour and decline. If you have to sell, you’ll do so when prices are low. So, spread your money out to eliminate random factors. That way, you’ll always have exposure to the year’s most profitable sectors, one of the keys to successful investing.

Blue chip shares investing tip #2: Don’t sell too early

Selling good stocks in anticipation of a market downturn is one way investors can fail to maximize their gains in blue chip shares. In times of market pessimism, many investors are tempted to sell all of their stocks, regardless of quality, in hopes of getting back in at lower prices.

However, selling to avoid a market downturn rarely works out as neatly or as profitably as sellers hope. First, some stocks hold steady or go up during a downturn—and these are often the strongest stocks in the subsequent upturn. Sometimes the downturn ends much more quickly than you expected. To get back in you may find yourself buying stocks months or even years later, at much higher prices.

Other times, the market moves up, the seller buys back in, and the real downturn strikes. That can leave you down 20% or more on a 10% market downturn. Be careful about the blue chip shares you sell, and always keep a long-term market perspective in mind.

Blue chip shares investing tip #3: Recognize conflicts of interest

Failing to consider conflicts of interest can be a real detriment to your portfolio. Financial incentives have an enormous impact on the beliefs of otherwise honest people. That’s particularly true when it comes to what some brokers are willing to say in order to spur you to buy something.

Failing to spot these conflicts of interest before you buy can be very damaging to your investments. We’re not just talking about stock brokers. As the saying goes, never depend on your barber to tell you that it’s too soon for you to get your hair cut.

Blue chip shares investing tip #4: Watch for a long-term record of profit

Look for blue chips shares that are well established companies and have a record of rising sales and ideally profits going back 5 to 10 years. What you may think of a sure thing could actually be an aging company that is on its last legs. The types of blue chip shares we recommend have a history of profits—or perhaps cash flow—going back for some time. Companies that make money regularly are safer than chronic or even occasional money losers.

Blue chip shares investing tip #5: Watch out for unusually high dividend yields

Be wary of blue chip shares with unusually high dividend yields. Investors should avoid judging a company based solely on its dividend yield (the percentage you get when you divide a company’s current yearly payment by its share price). That’s because a high yield can sometimes be a danger sign rather than a bargain. For example, a dividend paying stock’s yield could be high simply because its share price has dropped sharply (because you use a company’s share price to calculate yield) in anticipation of a dividend cut.

Blue chip shares can give investors an additional measure of safety in today’s volatile markets. And the best ones offer an attractive combination of moderate p/e’s (the ratio of a stock’s price to its per-share earnings), steady or rising dividend yields (annual dividend divided by the share price) and promising growth prospects.

We feel most investors should hold the bulk of their investment portfolios in securities from blue chip investments. All these stocks should offer good “value”—that is, they should trade at reasonable multiples of earnings, cash flow, book value and so on. Ideally, they should also have above average-growth prospects, compared to alternative investments.

Have you invested in blue chip shares that turned out to be duds? What went wrong? Did you fail to see one of the mis-steps above? Share your thoughts and experience with us.