With the Dow outperforming, here's how investors can harness the stock index

Published Mon, Oct 31 20224:30 PM EDTUpdated Mon, Oct 31 20225:13 PM EDT

Of the three major stock market indices, investors currently favor the Dow Jones Industrial Average – particularly in the wake of last week's dismal quarterly reports by mega cap tech firms and the subsequent sell off. That's because, as Jim Cramer noted Sunday, investors ditched Big Tech to find "companies that know what to do when a recession is coming and…batten down the hatches before the storm, not after." Those kinds of established companies are generally found in the Dow, which has significantly more exposure to the health-care and finance sectors than the S & P 500 or Nasdaq 100 . The Dow is also comprised of fewer tech firms than both the S & P and the Nasdaq. And unlike most tech players, health-care companies and banks have largely demonstrated restraint on costs and expenses when reporting results for the quarter ended Sept. 30, bolstering the Dow. The index closed out October up 14%, its biggest monthly rise since 1976. So, given this backdrop, how can investors harness an outperforming Dow when constructing their portfolio? The simplest approach would be to look at the companies that comprise the index and pick those with further room to run. Indeed, the Club is already exposed to nearly a third of the index via our holdings in Apple (APPL), Cisco (CSCO), Honeywell (HON), Johnson & Johnson (JNJ), Microsof t (MSFT), Procter & Gamble (PG), Salesforce (CRM) and Disney (DIS). But that's only one way to leverage the index. The other is to use the Dow as a broader guide for what types of companies to own in this market, rather than a set list. Putting aside the Dow constituents we own outright, there are several Dow-listed companies for which we own direct peers and/or competitors that we think offer up a more solid alternative for a given sector, but still fit within the current investment profile of the index. Here's a rundown of how we measure our portfolio against the Dow across health-care, finance and semiconductor stocks. Health care Against Dow Jones constituent UnitedHealth Group (UNH), we own Humana (HUM). UNH is a great company to be sure, however, we went with Humana as we believe in its management team's vision to unlock $1 billion of value through cost-cutting and productivity initiatives, along with growth-oriented investments. Our confidence in management has so far been rewarded, with shares up roughly 22% since our April 19 initiation . That compares with a nearly 4% gain in UNH over the same period. Another Club holding in this sector, Eli Lilly (LLY), lines up with Dow constituent Amgen. In this instance, we think Eli Lilly has higher growth potential than Amgen, with stellar drug sales set to continue. Indeed, shares have climbed roughly 30% year-to-date versus Amgen's approximately 22% gain. Read more from the Club : How 8 of our stocks also in the Dow did during the average's best month since 1976 Finance The key bank stocks that are listed on the Dow are JPMorgan (JPM) and Goldman Sachs (GS). But the Club has opted to instead take positions in Wells Fargo (WFC) and Morgan Stanley (MS), which are not Dow constituents. Our decision to go with Wells Fargo was predicated on the view that a significant valuation discount would close as CEO Charles Scharf diligently works to right the ship following a fraud scandal , ultimately allowing the bank to return additional capital to shareholders. JPMorgan may be the gold standard as far as the big banks go, but it's already valued as such. Our thinking on Wells Fargo has been relatively rewarded year-to-date, with the bank only declining about 4%, compared with a 20% slide in JPMorgan shares. Meanwhile, though we have held shares of Goldman in the past, we prefer Morgan Stanley because the bank is firing on all cylinders as it integrates the acquisitions of Eaton Vance and E*TRADE. Goldman is still working out how exactly to approach the consumer market ever since slowly expanding into retail banking. Between these two banks we would have been better rewarded in Goldman this year, with the stock down about 10% so far in 2022, compared with Morgan Stanley's 15% decline – even if we continue to back the latter due to management's deft strategy execution. Semiconductors The semiconductor industry has no real winners this year, and we have been paring back our exposure. But within the sector, we bet on Advanced Micro Devices (AMD), rather than competitor and Dow constituent Intel (INTC). Unfortunately, AMD's higher valuation has resulted in a more significant hit to the share price. As interest rates have climbed and the U.S. has moved to limit chip sales to China , AMD has seen its stock fall about 57% year-to-date, compared with Intel's 44% decline. While we're not bullish on semiconductor stocks now, we still think AMD is well-positioned to continue taking market share from Intel. Moreover, one reason Intel has been a relative outperformer this year is because it was an extreme underperformer over the past 5 years, losing 40% since late 2017, while AMD appreciated 440%. But the main takeaway from this sort of comparison is that the profile of a company is always more significant than the daily ups and downs of its share price. And right now, that preference is for companies that place a focus on the preservation of profit margins and cash returns to shareholders, rather than growth at any cost and long-term bets — hence, why the Dow is outperforming and we've broadly shifted our investment focus towards companies that fit that profile. (See here for a full list of the stocks in Jim Cramer's Charitable Trust.) As a subscriber to the CNBC Investing Club with Jim Cramer, you will receive a trade alert before Jim makes a trade. Jim waits 45 minutes after sending a trade alert before buying or selling a stock in his charitable trust's portfolio. If Jim has talked about a stock on CNBC TV, he waits 72 hours after issuing the trade alert before executing the trade. THE ABOVE INVESTING CLUB INFORMATION IS SUBJECT TO OUR TERMS AND CONDITIONS AND PRIVACY POLICY , TOGETHER WITH OUR DISCLAIMER . NO FIDUCIARY OBLIGATION OR DUTY EXISTS, OR IS CREATED, BY VIRTUE OF YOUR RECEIPT OF ANY INFORMATION PROVIDED IN CONNECTION WITH THE INVESTING CLUB. NO SPECIFIC OUTCOME OR PROFIT IS GUARANTEED.

Photo taken on March 1, 2022 shows monitors displaying stock market information at the New York Stock Exchange in New York, the United States.

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