You can leave your money in the bank, or you can buy this one FTSE 100 share and earn outsized returns for years to come.
There's a bit more good news around these days than there was a few months ago. The global economy is stabilising, and the end of the recession is nigh. Still, I expect economic growth, when it inevitably does come, to be relatively modest. We won't recover from the Great Recession in just a couple of months or quarters.
Just take a look at the recent outlook statement from Currys and Dixons owner DSG International (LSE: DSGI)…
"Given the challenging environment, this is an encouraging start to the year…We remain cautious about the economic outlook."
As if you need reminding, never before have we experienced a 'global financial crisis'. Never before have we come close to a truly global recession. There remains a huge amount of uncertainty around the economy -- some people think it will be all plain sailing from here, others think we're in for a double-dip recession.
What does all that mean for stock market investors?
Buy, Sell Or Hold Shares?
As usual, there are 3 options, buy, hold or sell.
It's clearly not rocket science. Yet many investors are trying to make the art of investing incredibly difficult and incredibly stressful. There is no doubting the month of October 2008 will go down in history as one of the most stressful investing months ever. The problem was, you never knew if the selling was ever going to end, and you never knew if your money was absolutely safe.
The early part of March 2009 wasn't much better either, with at one stage the FTSE 100 being down 22% in 2009, coming on top of 2008's awful 31% decline.
I'm Buying, And I'm Selling
Thankfully, it seems the very worst has passed, although investors should certainly not become complacent. So what should you do now?
Right now, I'm buying shares. I'm also selling. And I'm holding.
When buying, I'm increasingly looking for high yielding, blue chip shares. Many of these companies have not participated in the massive run-up that some of the junk shares have enjoyed.
When selling, I'm taking some profits on some companies I consider to be fairly valued. With the proceeds, I'm either keeping them in cash, patiently waiting for more buying opportunities, or looking to reinvest in the aforementioned blue chips.
Buying Into The Teeth Of Recession
I'm making these investment decisions in the full knowledge that the UK is still in recession, and with the possibility it will likely be in recession for the whole of 2009 and at least the early part of 2010. Right now, the length and depth of the recession is impossible to predict for any economist, let alone a mere mortal such as myself.
The other option is to sell everything and go to cash -- at least my money would be safe there, and at least it couldn't go down in value. But compare the returns on cash versus the potential returns on stocks -- the base rate is at 0.5%, yet dividend yields on some solid FTSE 100 companies exceed 5%.
Buying BP Is A No Brainer
Shares are risky. You can lose some of all of your investment. To compensate for that risk, you require a higher return, a fair trade off.
How does this sound for a fair trade off? With its share price at around 540p, the FTSE 100's third biggest company is oil giant BP (LSE: BP).
Its forward earnings yield, the inverse of the price to earnings ratio, is over 10%, and its forward dividend yield is just under 7%. You can keep your cash in the bank earning around 2%, or you can by shares in BP, earn a dividend yield of close to 7%, and be exposed to the company's future growth at a knock down price.
Obviously there are risks. There is a risk the oil price will slump back down to $50 or even $30 a barrel. If the oil price were to remain firmly below $50, there is a good chance BP's dividend would be cut. There is a risk BP will fail to replenish its oil reserves, meaning the company won't grow again, although the recent announcement of a huge new oil discovery in the Gulf Of Mexico somewhat reduces that risk.
There are always risks. In the case of BP, at these prices and this dividend yield, I'd suggest the risk is minimal. Remember, share price volatility has nothing to do with risk. If the market tanked 10%, it wouldn't make BP a riskier investment, all things else being equal.
Hundreds Of Other Cheap Stocks
For every BP, there are many other cheap companies. I counted 20 companies in the FTSE 100 alone trading on forward P/E ratios of less than 10, the equivalent of a 10% earnings yield or better. Many of them also trade on dividend yields above 5%.
Not every company or every sector is a buy at the moment. For example, I'm steering clear of highly indebted companies, retailers and banks, having completely sold out of the latter sector.
The opportunity is clear. In some cases, like BP, the risk/reward ratio appears to be in your favour. The alternative is cash. You decide.
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More on the economy and the markets:
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> This article was first published on 10 November 2008. It has been updated.
> Bruce Jackson does not have an interest in any of the companies mentioned in this article.
