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The best investments are the ones you can hold for decades. You'll lower your tax bill and your trading costs - and maximize your chances for great returns.
By Michael Sivy, Money Magazine editor-at-large
October 1 2006: 11:59 AM EDT
NEW YORK (Money Magazine) -- When you're saving for retirement, you face a timeline measured not in years, but in decades. How do you find investments that can go the distance, so that you don't have to keep worrying about your portfolio and making constant adjustments to your holdings, a practice that, study after study shows, lowers your returns?
The best stocks for the marathon investor have certain traits: Some have raised earnings or dividends for many years in a row.
Others dominate sectors that will keep growing as long as the world's economy does, such as banking, railroads and electric power in areas where the population is booming.
Still others enjoy unique strategic advantages. Anadarko Petroleum, for example, controls massive North American oil and gas reserves, and Applied Materials has maintained its global dominance in semiconductor-manufacturing equipment for years.
Stocks such as these have a good chance of providing superior returns over a very long holding time. Plus, minimizing trading in your portfolio, and as a result lowering brokerage costs, is a surefire way to make you richer.
Over two or three decades, even small differences in costs add up. Consider that a well-balanced portfolio of stocks and bonds can return an average of 9% a year. Over 30 years at that rate, $1,000 would grow to $13,268. If costs reduced your return by just one percentage point, your $1,000 would grow to only $10,063. That's a whopping 24% shortfall.
Not all of your investments have to be stocks, of course. If you prefer, you can use mutual funds exclusively (see "Going Long with Funds").
But there are advantages to relying on individual stocks for at least part of your portfolio. If you buy and hold, you'll not only limit your costs but also be able to postpone paying taxes on capital gains. It's generally smartest to use stocks for the 35% to 55% or so of your money that should be invested in the largest U.S. companies. Mutual funds may be the better choice for small growth stocks, foreign shares, high-yield bonds and more exotic investments.
As it happens, this is a particularly good moment to be putting together an assortment of stocks for the long term. Many of the most promising shares are trading at relatively cheap price/earnings ratios right now. In addition, there's enough variety among suitable companies that you could assemble a balanced mix of stocks for your portfolio simply by purchasing one stock from each of the following seven sectors.
General Electric
Consistent Growers: Companies with a long record of increasing their earnings every year are good bets as buy-and-hold investments. Of more than 15,000 publicly traded U.S. companies, fewer than 2% have raised their earnings for 10 straight years or longer. Through 2005 or the closest fiscal year, just 21 have boosted earnings 20 years in a row, according to America's Finest Companies, an annual reference guide.
General Electric is perhaps the most visible of these consistent growers, having posted increased earnings 30 years in a row. Nonetheless, the share price is down almost 10% since late 2004. GE's yearly growth rate is no longer at the 15% level of Jack Welch's day, in part because the company's sheer size makes that number difficult to reach.
But since CEO Jeff Immelt took over in 2001, he has divested insurance operations and focused on more promising businesses. Analysts think Immelt's efforts will pay off with double-digit earnings growth. In addition, GE (Charts) offers a 2.9% dividend yield, a generous payout for such a quality stock.
Procter & Gamble
Dividend Hikers: Some companies that can't maintain a perfect earnings record still manage to increase their dividends like clockwork. In fact, more than 100 have hiked dividends for 30 years in a row, and 22 dividend machines have rolled past the 40-year mark.
Procter & Gamble has raised its payout for an incredible 50 straight years. The company's great array of soaps and personal-care products (Tide, Crest, Head & Shoulders and Pampers, among others) are recession-resistant. People don't stop washing their hair or diapering their babies because the economy is sluggish.
So P&G (Charts) generally enjoys great earnings stability. When the company acquired Gillette last year, some analysts thought that P&G had overpaid and that the merger would take too long to pay off. Whether the deal was well priced or not, P&G's earnings are expected to be up 13% this year and next. That should allow the dividend, which now provides a 2% yield, to keep rising.
Applied Materials
Tech Dominators: Technology may change, and tech shares may be very unpredictable, but one type of stock in particular benefits from a very long holding period. A company that dominates an important business can maintain its position for years and turn in above-average growth.
If the business is highly cyclical, however, even the No. 1 player's stock will bounce up and down, and investors can get burned if they mis-time a trade. But hold for 30 years, and you won't care about volatility. In the end, you'll reap the rewards of decades of earnings growth.
Applied Materials is the leading producer of semiconductor-manufacturing equipment. Even in good times this is a cyclical business. Because chipmaking equipment is so expensive (from $1 million to $3 million apiece for one of the latest systems), producers put off buying new machines as long as they can. But then, when overall demand picks up enough or a new kind of chip becomes popular, makers have to upgrade.
Recently, Applied Materials (Charts) has warned that orders could be flat in the second half of the year. Nonetheless, the company's earnings have grown at an 18% compound annual rate over the past five years. That's impressive for a stock trading at less than 15 times estimated earnings. Just be sure you balance a stock like Applied Materials with more conservative choices so you'll be comfortable hanging on through the ups and downs.
Burlington Northern
Railroads: Buying a railroad sounds quaint. You won't even be able to do it in the new version of Monopoly. But the fact is, the products that industrial companies make still have to be shipped - and railroads are likely to enjoy increasing cost advantages over competing forms of transportation.
For starters, trains are three or four times as fuel efficient as trucks, not to mention airplanes. High energy costs help indirectly as well. Both of the industry's giants - Burlington Northern Santa Fe and Union Pacific - profit from hauling low-sulfur coal from the Powder River Basin in Montana and Wyoming.
In addition, the rails are benefiting from new technology. Major railroads are built on very complex information systems that keep track of how trains are moving and where all the freight is. Sophisticated computer systems can greatly raise efficiency and prevent freight from sitting in rail yards.
And if you still wonder about the potential of the transportation sector in a growing economy, consider this: Since the low four years ago, the Dow industrials have risen nearly 50%, but the transport stocks have doubled.
Both Burlington Northern (Charts) and Union Pacific (Charts) trade at low P/Es, but I prefer Burlington. UP has had lots of problems since it acquired Southern Pacific 10 years ago. Some analysts argue that UP has more room for improvement, but I'd favor the railroad with the better record.
J.P. Morgan Chase
Banking Giants: As the global economy continues to expand over the coming decades, businesses will have to be financed and consumers will need credit. The banking industry has also been consolidating, putting more power in the hands of industry giants, particularly Bank of America (Charts), Citigroup (Charts) and J.P. Morgan Chase.
Moreover, these stocks now look timely, trading at less than 12 times earnings projected for 2007 and yielding at least 3%. Nothing gets your long-term results off to a better start than buying low.
As an added attraction, the banks stand to benefit from from an improving interest-rate environment. For the first time in more than two years, the Fed recently let a meeting pass without raising interest rates. And with the economy likely to slow in the second half, it's unlikely that short-term interest rates will go much higher and possible that they will soon start coming down. Declining short-term rates give financial stocks a major boost as long as they aren't overly dependent on mortgage business, according to research by the Leuthold Group, an institutional investment adviser.
The major banks all have similar investing outlooks, but I lean toward (Charts) J.P. Morgan Chase. Today's bank is the result of a string of acquisitions since 1990 that have yet to fully pay off.
CEO Jamie Dimon is pushing to bring returns closer to the industry average. Whatever success he achieves will likely mean superior performance for J.P. Morgan compared with other major banks.
Anadarko Petroleum
North American Energy: Oil prices may back off from current highs, but the era of cheap energy is over. Oil sold for less than $20 a barrel for 11 of the 15 years from 1986 to 2000. Most economists today would breathe a sigh of relief if the price settled around $45. So oil and gas companies will likely enjoy a favorable market over the next 20 or 30 years.
In addition, companies with large reserves in North America and other safe places have an important strategic attraction. It's likely that the parts of the world with most of the oil will be at risk for either war (the Middle East) or political disruptions (Russia, Venezuela). Reserves in the U.S., Canada, Australia and the North Sea deserve a premium for safety.
Anadarko Petroleum (Charts) is one of the world's largest independent producers, with 85% of its reserves in Canada, the U.S. and the Gulf of Mexico. And the company is using the flood of cash it's been earning to buy growth.
In August, Anadarko completed the $4.8 billion acquisition of Western Gas Resources, which has sizable gas reserves in the Rocky Mountains. The same month, Anadarko completed the $16 billion acquisition of Kerr-McGee, which has big reserves in the Rockies and the Gulf. Both deals were all cash.
FPL Group
Electric Utilities: To help balance your portfolio, include a top-quality electric utility. Demand for electricity grows with the overall economy - and also with the population. Much of an electric company's business is subject to rate regulation, which limits its profit margins. So revenue growth is the key to above-average earnings increases.
FPL Group, the holding company for Florida Power & Light, provides electricity to much of eastern and southern Florida. The population in this area is growing 2.3% a year.
FPL (Charts) also owns a wholesale energy business that isn't subject to rate regulation. It focuses on cleaner energy, including wind and solar power, and operates in 24 states. This business accounts for more than 20% of FPL's net income and is growing faster than 20% a year.
Thanks to the boost from this profitable sideline, total earnings are projected to grow as much as 10% annually over the next five years. That's very fast for an electric company. The stock yields 3.4%, and FPL has boosted its dividend every year for the past decade.
By Michael Sivy, Money Magazine editor-at-large
October 1 2006: 11:59 AM EDT
NEW YORK (Money Magazine) -- When you're saving for retirement, you face a timeline measured not in years, but in decades. How do you find investments that can go the distance, so that you don't have to keep worrying about your portfolio and making constant adjustments to your holdings, a practice that, study after study shows, lowers your returns?
The best stocks for the marathon investor have certain traits: Some have raised earnings or dividends for many years in a row.
Others dominate sectors that will keep growing as long as the world's economy does, such as banking, railroads and electric power in areas where the population is booming.
Still others enjoy unique strategic advantages. Anadarko Petroleum, for example, controls massive North American oil and gas reserves, and Applied Materials has maintained its global dominance in semiconductor-manufacturing equipment for years.
Stocks such as these have a good chance of providing superior returns over a very long holding time. Plus, minimizing trading in your portfolio, and as a result lowering brokerage costs, is a surefire way to make you richer.
Over two or three decades, even small differences in costs add up. Consider that a well-balanced portfolio of stocks and bonds can return an average of 9% a year. Over 30 years at that rate, $1,000 would grow to $13,268. If costs reduced your return by just one percentage point, your $1,000 would grow to only $10,063. That's a whopping 24% shortfall.
Not all of your investments have to be stocks, of course. If you prefer, you can use mutual funds exclusively (see "Going Long with Funds").
But there are advantages to relying on individual stocks for at least part of your portfolio. If you buy and hold, you'll not only limit your costs but also be able to postpone paying taxes on capital gains. It's generally smartest to use stocks for the 35% to 55% or so of your money that should be invested in the largest U.S. companies. Mutual funds may be the better choice for small growth stocks, foreign shares, high-yield bonds and more exotic investments.
As it happens, this is a particularly good moment to be putting together an assortment of stocks for the long term. Many of the most promising shares are trading at relatively cheap price/earnings ratios right now. In addition, there's enough variety among suitable companies that you could assemble a balanced mix of stocks for your portfolio simply by purchasing one stock from each of the following seven sectors.
General Electric
Consistent Growers: Companies with a long record of increasing their earnings every year are good bets as buy-and-hold investments. Of more than 15,000 publicly traded U.S. companies, fewer than 2% have raised their earnings for 10 straight years or longer. Through 2005 or the closest fiscal year, just 21 have boosted earnings 20 years in a row, according to America's Finest Companies, an annual reference guide.
General Electric is perhaps the most visible of these consistent growers, having posted increased earnings 30 years in a row. Nonetheless, the share price is down almost 10% since late 2004. GE's yearly growth rate is no longer at the 15% level of Jack Welch's day, in part because the company's sheer size makes that number difficult to reach.
But since CEO Jeff Immelt took over in 2001, he has divested insurance operations and focused on more promising businesses. Analysts think Immelt's efforts will pay off with double-digit earnings growth. In addition, GE (Charts) offers a 2.9% dividend yield, a generous payout for such a quality stock.
Procter & Gamble
Dividend Hikers: Some companies that can't maintain a perfect earnings record still manage to increase their dividends like clockwork. In fact, more than 100 have hiked dividends for 30 years in a row, and 22 dividend machines have rolled past the 40-year mark.
Procter & Gamble has raised its payout for an incredible 50 straight years. The company's great array of soaps and personal-care products (Tide, Crest, Head & Shoulders and Pampers, among others) are recession-resistant. People don't stop washing their hair or diapering their babies because the economy is sluggish.
So P&G (Charts) generally enjoys great earnings stability. When the company acquired Gillette last year, some analysts thought that P&G had overpaid and that the merger would take too long to pay off. Whether the deal was well priced or not, P&G's earnings are expected to be up 13% this year and next. That should allow the dividend, which now provides a 2% yield, to keep rising.
Applied Materials
Tech Dominators: Technology may change, and tech shares may be very unpredictable, but one type of stock in particular benefits from a very long holding period. A company that dominates an important business can maintain its position for years and turn in above-average growth.
If the business is highly cyclical, however, even the No. 1 player's stock will bounce up and down, and investors can get burned if they mis-time a trade. But hold for 30 years, and you won't care about volatility. In the end, you'll reap the rewards of decades of earnings growth.
Applied Materials is the leading producer of semiconductor-manufacturing equipment. Even in good times this is a cyclical business. Because chipmaking equipment is so expensive (from $1 million to $3 million apiece for one of the latest systems), producers put off buying new machines as long as they can. But then, when overall demand picks up enough or a new kind of chip becomes popular, makers have to upgrade.
Recently, Applied Materials (Charts) has warned that orders could be flat in the second half of the year. Nonetheless, the company's earnings have grown at an 18% compound annual rate over the past five years. That's impressive for a stock trading at less than 15 times estimated earnings. Just be sure you balance a stock like Applied Materials with more conservative choices so you'll be comfortable hanging on through the ups and downs.
Burlington Northern
Railroads: Buying a railroad sounds quaint. You won't even be able to do it in the new version of Monopoly. But the fact is, the products that industrial companies make still have to be shipped - and railroads are likely to enjoy increasing cost advantages over competing forms of transportation.
For starters, trains are three or four times as fuel efficient as trucks, not to mention airplanes. High energy costs help indirectly as well. Both of the industry's giants - Burlington Northern Santa Fe and Union Pacific - profit from hauling low-sulfur coal from the Powder River Basin in Montana and Wyoming.
In addition, the rails are benefiting from new technology. Major railroads are built on very complex information systems that keep track of how trains are moving and where all the freight is. Sophisticated computer systems can greatly raise efficiency and prevent freight from sitting in rail yards.
And if you still wonder about the potential of the transportation sector in a growing economy, consider this: Since the low four years ago, the Dow industrials have risen nearly 50%, but the transport stocks have doubled.
Both Burlington Northern (Charts) and Union Pacific (Charts) trade at low P/Es, but I prefer Burlington. UP has had lots of problems since it acquired Southern Pacific 10 years ago. Some analysts argue that UP has more room for improvement, but I'd favor the railroad with the better record.
J.P. Morgan Chase
Banking Giants: As the global economy continues to expand over the coming decades, businesses will have to be financed and consumers will need credit. The banking industry has also been consolidating, putting more power in the hands of industry giants, particularly Bank of America (Charts), Citigroup (Charts) and J.P. Morgan Chase.
Moreover, these stocks now look timely, trading at less than 12 times earnings projected for 2007 and yielding at least 3%. Nothing gets your long-term results off to a better start than buying low.
As an added attraction, the banks stand to benefit from from an improving interest-rate environment. For the first time in more than two years, the Fed recently let a meeting pass without raising interest rates. And with the economy likely to slow in the second half, it's unlikely that short-term interest rates will go much higher and possible that they will soon start coming down. Declining short-term rates give financial stocks a major boost as long as they aren't overly dependent on mortgage business, according to research by the Leuthold Group, an institutional investment adviser.
The major banks all have similar investing outlooks, but I lean toward (Charts) J.P. Morgan Chase. Today's bank is the result of a string of acquisitions since 1990 that have yet to fully pay off.
CEO Jamie Dimon is pushing to bring returns closer to the industry average. Whatever success he achieves will likely mean superior performance for J.P. Morgan compared with other major banks.
Anadarko Petroleum
North American Energy: Oil prices may back off from current highs, but the era of cheap energy is over. Oil sold for less than $20 a barrel for 11 of the 15 years from 1986 to 2000. Most economists today would breathe a sigh of relief if the price settled around $45. So oil and gas companies will likely enjoy a favorable market over the next 20 or 30 years.
In addition, companies with large reserves in North America and other safe places have an important strategic attraction. It's likely that the parts of the world with most of the oil will be at risk for either war (the Middle East) or political disruptions (Russia, Venezuela). Reserves in the U.S., Canada, Australia and the North Sea deserve a premium for safety.
Anadarko Petroleum (Charts) is one of the world's largest independent producers, with 85% of its reserves in Canada, the U.S. and the Gulf of Mexico. And the company is using the flood of cash it's been earning to buy growth.
In August, Anadarko completed the $4.8 billion acquisition of Western Gas Resources, which has sizable gas reserves in the Rocky Mountains. The same month, Anadarko completed the $16 billion acquisition of Kerr-McGee, which has big reserves in the Rockies and the Gulf. Both deals were all cash.
FPL Group
Electric Utilities: To help balance your portfolio, include a top-quality electric utility. Demand for electricity grows with the overall economy - and also with the population. Much of an electric company's business is subject to rate regulation, which limits its profit margins. So revenue growth is the key to above-average earnings increases.
FPL Group, the holding company for Florida Power & Light, provides electricity to much of eastern and southern Florida. The population in this area is growing 2.3% a year.
FPL (Charts) also owns a wholesale energy business that isn't subject to rate regulation. It focuses on cleaner energy, including wind and solar power, and operates in 24 states. This business accounts for more than 20% of FPL's net income and is growing faster than 20% a year.
Thanks to the boost from this profitable sideline, total earnings are projected to grow as much as 10% annually over the next five years. That's very fast for an electric company. The stock yields 3.4%, and FPL has boosted its dividend every year for the past decade.
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