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Stock Strategist

Five Large-Cap Stocks to Watch Today

These large companies could produce big returns.

Despite widespread expectations that 2006 would be a banner year for the market's biggest companies, large-cap stocks--which Morningstar defines as stocks with market capitalizations of about $8.5 billion and above--have continued to trail their small brethren. Through April 17, the Morningstar Large Cap Index has returned 3.4% compared to an 11.2% return for the Morningstar Small Cap Index. This continues a streak of underperformance that began after large stocks were crushed in the bear market that began in 2000. Since then, smaller-cap issues have soared while the large stocks have annualized returns of less than 3% per year over the trailing five-year period.

But it would be a mistake to write off this segment of the market entirely. Although large caps haven't kept pace, earnings and cash flows for many big names have improved dramatically. It could only be a matter of time before the market recognizes that many of these companies boast strong profit margins, healthy balance sheets, and excellent global growth prospects. There's also something to be said for owning large companies that have consistently generated top- and bottom-line growth in a variety of market climates.

For today's Stock Strategist, we began by screening for stocks that are part of the Morningstar Large-Cap Index. Next, we looked for companies that have consistently increased both revenues, operating income, and earnings per share over the past several years. Finally, we added quality screens for return on equity and financial health.

While not all of the stocks that passed are cheap enough to be compelling right now (perennial large-growth stock favorite  Apple (AAPL), for example, is trading well above our fair value estimate), it's worth keeping an eye on this list for the large-cap segment of your portfolio. Here are some highlights (Morningstar Rating information as of April 17):

Dell 
Morningstar Rating: 5 Stars
Business Risk: Average
We think this member of Morningstar StockInvestor's Hare Portfolio appears to have a bright future in a tough industry. From the  Analyst Report: "Dell has used ultra-efficient manufacturing and a direct-sales approach to dominate the PC market. While competition is heating up in its core desktop PC market, Dell is rapidly winning customers in several new technology markets. We believe its low-cost advantage will continue to deliver market share gains in both new and traditional markets while generating outsized returns on invested capital."

Devon Energy (DVN) 
Morningstar Rating: 5 Stars
Business Risk: Average
Despite a recent slide in natural-gas prices, Devon remains well-positioned. From the  Analyst Report: "Devon is one of the largest U.S.-based independent oil companies. With about 90% of its reserves and production in North America, Devon has a lower risk profile than some of its more internationally focused competitors. Moreover, Devon's proximity to the U.S. market should allow the firm to enjoy robust sales and higher-than-average margins for the foreseeable future, because large-scale liquefied natural-gas importation is still a few years away."

St. Jude Medical STJ
Morningstar Rating: 4 Stars
Business Risk: Average
Despite the fact that St. Jude recently lowered its first-quarter earnings forecast, we like the firm's long-term growth prospects. From the  Analyst Report: "Originally known as a pioneer in mechanical heart valves, St. Jude branched out considerably with various acquisitions during the mid- to late 1990s. Diversification has been the key to the firm's growth over the past few years, allowing St. Jude to tap into fast-growing markets for implantable cardioverter defibrillators (ICDs) while mechanical heart valve sales continue to decline and tissue valves gain favor."

Walgreen  (WAG)
Morningstar Rating: 5 Stars
Business Risk: Below Average
As the baby boomers start to enter their 60s, Walgreen's should benefit from strong demographic trends. From the  Analyst Report: "Walgreen's steady pace of internal growth and high store productivity has led to consistent double-digit earnings growth and the highest returns on invested capital of any drugstore chain. With plenty of room left for expansion and trends favoring sustainable growth in prescription drug spending, we believe Walgreen can sustain its impressive results. Walgreen plans to grow from about 5,000 stores currently to 7,000 stores by 2010."

Wm. Wrigley Jr. 
Morningstar Rating: 5 Stars
Business Risk: Below Average
Wrigley's geographic footprint and strong brands have helped create a wide economic moat. From the  Analyst Report: "Wm. Wrigley Jr. has the world's strongest chewing gum brands and low-cost leadership in production and distribution. With industry-leading profitability and plenty of growth ahead, this firm should continue to strengthen its already-wide economic moat. Wrigley's global reach and scale have enabled the firm to build an unmatched distribution system, ensuring that its products are effectively displayed in checkout counters of convenience stores and supermarkets worldwide. Wrigley's scale also allows the firm to spend more money researching and developing new products that boost sales and profits."

To run this screen and see all the stocks that pass, click  here. Note: The stocks mentioned above passed our screen as of April 17, 2006. The results may change due to daily price fluctuations or other factors. After clicking, you can save the search to use later by clicking the "Save Criteria" button in the bottom right-hand corner of the screen. (You will need to be logged in as a Premium Member to view and save the complete screen.)

John Novak does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.