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Six-Pack of Premium Stocks at Discount Prices

BOSTON (TheStreet) -- IBM (IBM), Johnson & Johnson (JNJ) and Wal-Mart (WMT) are among premium stocks languishing in the bargain bin, says Hank Smith, chief investment officer of Haverford Investments.

But not for long, he says.

Quality companies -- those with sound businesses, long track records, competent management and large dividends -- typically sell for a premium, whether in the stock market or the supermarket. Investors have fancied small-cap stocks, as well as sectors including technology and commodities, leaving blue chips by the wayside.

Smith says his strategy has collected a group of six value stocks make up what he affectionately calls a "six-pack," offering a different type of flavor for investors than a six-pack of beer.

"The concept is that the U.S. large-cap quality space has been more or less ignored for the past 10 years," Smith says. "There were many years when the space was a relative underperformer, but business fundamentals have not underperformed. So you look at companies where you've seen tremendous growth of earnings in the neighborhood of 170% to 300% with very similar dividend growth."

Hank Smith
Hank Smith, chief investment officer of Haverford Investments

Stock prices are out of line with business fundamentals to a degree, Smith says. That means price-to-earnings ratios, a key valuation tool, have been compressed.

In addition to earnings multiples, Smith also looks for stocks that have barely budged over the past 10 years. The companies must have increased earnings two- or three-fold over that time while increasing dividends by the same magnitude. Finally, they must have exceptional balance sheets and good fundamental prospects.

The strategy has paid off for Smith and clients of Radnor, Pa.-based Haverford Investments. With $6 billion in assets under management, Haverford serves wealthy and institutional clients. Since inception, the firm has outperformed its benchmark, the S&P 500, in 19 of 20 rolling 10-year periods.

"We're not trying to hit home runs," Smith says. "Where this strategy and the quality of investing hold up is particularly in down markets. We keep up when the market is up, but we hold up much better in the down markets."

Smith expects this strategy to pay off as the stock market reverts to the mean after the so-called "lost decade," when U.S. stock indices like the S&P 500 and the Dow Jones Industrial Average returned nearly nothing to investors over the past 10 years.

"It's hard to think you're going to have another 10 years of the stocks going nowhere. If we did, we'd have P/E ratios down to four or five times earnings," Smith says. "Part of this strategy tries to build the intellectual case for the low probability for another lost decade. In doing that, we emphasize that the past 10 years wasn't a lost decade in terms of fundamentals."

Here are six large-cap value stocks that Smith holds in client portfolios.

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