When Markets Swing, High-Quality Shines

BERLIN – When markets sizzle, every business venture seems destined to earn money, and rapidly rising growth stocks can make the stocks of stable, well-established companies seem plodding and dull by comparison. But add a dose of volatility to the market and suddenly the very qualities that seemed so boring (stability, reliability, predictability) begin to shine.

In an economic climate such as the one currently being experienced, Tom Latta, Director of Merrill Lynch’s Global Private Client Investment Management & Guidance, observes, “investors are going to be more discerning about companies that tend to do well during more difficult periods.” Moreover, investors may seek the relative calm of high-quality companies with a record of steady earnings and the ability to weather any financial storm.

Most investors could name a bunch of high-quality stocks just by thinking of high-profile brand names that have been around forever. But a more concerted and methodical approach could yield the names of companies not often considered. The S&P Quality Rankings rates about 1,000 stocks of the 4,000 as “higher quality.” Their results are based primarily on the growth and stability of a company’s earnings and dividends over a 10-year period. Companies earning high-quality marks tend to be less leveraged than others and larger in terms of sales, assets and total capital. They also have fewer accounting red flags, such as frequent write-downs or one-time earnings gains.

Increasing your exposure to high-quality stocks doesn’t have to involve a radical overhaul of your portfolio. Instead, think of it as part of a balanced, diversified approach to investing. You can increase your exposure to high quality in several ways, including individual securities, mutual funds and separately managed accounts. You might also consider higher-quality bond investments, as the risk premium for high-yield bonds is currently lower than the historical average.

Keep in mind that high-quality stocks aren’t a panacea. If the economy outperforms expectations, investors could miss out on some high returns offered by growth stocks. And efforts to remove too much risk from your investments could backfire. As Latta notes, “Over long periods of time, lower risk portfolios will generate a lower return.” Still, knowing that your portfolio is bolstered with high-quality stocks can take some of the uncertainty out of uncertain times.

(The writer is a Merrill Lynch Senior Financial Advisor. She can be reached at 410-213-9084.)