Strong Stocks in a Stormy Market

August. School's out. Family vacations. Hot, humid days. State fairs and football practice. Congress escapes from Washington, D.C., and the President hangs out on the ranch in Texas. So why isn't the stock market sticking with the script of this normally languid month? You can't blame hurricanes because that scene's been eerily calm. How, then, can you invest to put the most space between your emotions and these twitchy traders?

The first answer is this: Any disruption close to the heart of the financial-trading system seems to hit innocent stocks harder than when the manufacturing, retail or transportation sector gets the shakes. Airlines and automakers get in trouble-heck -- that's happened before. But the story that Bear Stearns, a midsize investment firm, could lose big sums on hedge fund shenanigans and mortgage trading terrifies Wall Street and the pundits, even though this has as much to do with the entire stock market and the economy as does the man in the moon.

Instead, many investors have been acting as if Bear's hedge fund losses, a belated downgrade of its credit rating and a management shakeup register somewhere on the Enron scale. The same is true with private hedge funds losing big and a mortgage company folding.

Subscribe to Kiplinger’s Personal Finance

Be a smarter, better informed investor.

Save up to 74%

Sign up for Kiplinger’s Free E-Newsletters

Profit and prosper with the best of expert advice on investing, taxes, retirement, personal finance and more - straight to your e-mail.

Profit and prosper with the best of expert advice - straight to your e-mail.

Sign up

In a financial climate in which traders worry endlessly about credit "contagion," even companies with little or no debt, solid profits and no obvious nexus to high-risk lending cannot hide. Why should, for example, the shares of California Water Service (CWT) sink more than 4%, as they did on August 3? The same for goes for the stock of The Advisory Board Company (ABCO), which has no debt and reported excellent earnings just the day before.

The reasons are as fuzzy as the attempts to explain one-day melt-ups, such as the one that materialized suddenly on August 6. It's just part of being an investor. If you don't want any gyrations at all, you need to sell your stocks and stock funds and put the proceeds into cash and short-term bonds. Good luck trying to determine the right time to get back into stocks. Chances are good that you'll miss a big part of the rebound.

Barring the radical step of dumping all of your stocks, the best strategy is to look for names that let you sleep at night. The conventional thinking is that low debt and high dividends will keep you out of trouble. But if you review the ten highest-yielding members of the Dow Jones industrial average, known colloquially as the Dogs of the Dow, you'll find that on August 3, the ten Dogs lost 2.2% on average and the five highest-yielding Dogs dropped an average of 2.3% (the Dow itself tumbled 2.1%). Once again, when traders unload index portfolios en masse and sell billions of shares 15 minutes before the market closes, they're not discriminating. Any stock, whatever its dividend yield, can get washed away.

Besides, unless you think this is a gathering bear market, a stock that never moves much isn't necessarily a treasure. Anheuser-Busch (symbol BUD) is one of the least bouncy big blue-chip stocks, with a beta of 0.48 (that means that for every 1% move in Standard & Poor's 500-stock index, BUD is expected to move 0.48%). In fact, the stock barely moved at all during Friday-Monday fireworks. Busch should be a boring stock because beer drinkers buy beer anytime, regardless of mortgage-rate angst, bear-market frustration, bridge collapses, which party controls Congress, or who is in the Super Bowl. The problem is Busch shares haven't gained much since the 1990s because its business isn't growing; younger beer drinkers apparently prefer imports and microbrews.

So, we fired up our screens to find some presumably low-risk stocks with growth potential. We solved for prominent growth companies with large market values (more than $10 billion); some, but not extraordinarily high dividend yield; little debt relative to total capital; and betas of 0.7 or less, which means the stocks are at least one-third less bouncy than the S&P 500. We included the debt requirement because companies that borrow heavily could suffer if there is indeed a credit crunch.

This particular screen elicited 34 companies. Here are five that would be good additions to any low-excitement, growth-oriented portfolio. These stocks rarely have losing years. Each is up so far in 2007, and all of them fell much less than the S&P 500 or the Dow on August 3:

GlaxoSmithKline (GSK). Perhaps any big drug company would trade calmly most of the time, but Glaxo tracks a steadier course than most of its rivals. The last time the stock lost money was in 2002, a year in which the S&P 500 plunged 22%. The shares closed at $52.48 on August 7.

L3 Communications (LLL, $101.60). A military electronics contractor, L3 shows that having a broad range of defense work for both primary contractors and the government spreads the risk of losing business to rival bidders. Last down year: 2002.

Nike (NKE, $58.06) The sneaker giant seems to find growth opportunities anywhere in the world and seems to increase sales more steadily than you might think of a company that's so tied to celebrities and the youth culture. Don't worry about Michael Vick. Nike has plenty of other stars in its stable. Last losing year: 2005.

Pepsi (PEP, $69.16). If Pepsi makes it, you'll drink it and eat it. Last down year: 2002.

Procter & Gamble (PG, $65.23): Soap, shampoo, the necessities of life, and a nose for growth despite its massive size. Plus, the company just announced that it would buy back $24 billion to $30 billion worth of its shares over the next three years. Last loss: 2000.

Perhaps you are surprised to find this assortment of businesses on a list of steady, low volatility growers. But that's the funny thing about the stock market: You may think you've got a business figured out, but you just never know how its stock will behave.

And that leads to a final word about how to handle this bout of unusually dramatic volatility: Do nothing. Just sit tight. Don't sell any stock, ETF, or fund that you wouldn't have sold three months ago when the market was as quiet as downtown at 4 p.m. on a summer Saturday. Same with buying. Take a vacation and come back in September. We'll know then if it's time to be loaded for bear, or if the commotion has subsided.