High-Quality Stocks for a Low-Quality Environment

"Risk-free" isn't what it used to be. According to the Financial Times, European bond investors are preparing to shift assets out of government bonds into highly rated corporate debt. As the governments in advanced economies struggle with enormous public debt burdens, U.S. share investors should look to mimic this "step up in quality" theme within their equity portfolios.

Uncle Warren over Uncle Sam
The search for "havens in the corporate bond world" isn't restricted to European markets, by the way. In February, Berkshire Hathaway (NYSE: BRK-B  ) , which has a rock-of-Gibraltar balance sheet, issued two-year notes at 3.5 basis points (3.5/100 of a percentage point) below the yield on Treasury notes of comparable maturity. Investors -- quite rightly -- perceived Uncle Warren's empire as a better credit than Uncle Sam's republic.

The U.S. government will need to come to terms with its runaway debt position. In that context, I recommend investors in U.S. stocks seek out defensive businesses; those that pay a healthy dividend are particularly attractive.

Seven high-quality stocks
Within the S&P 500, 61 stocks have a dividend yield to match or exceed the yield on the 10-year Treasury (3.77%), of which 43 sport a lower price-to-earnings multiple than the index. They include powerful consumer franchises with enviable competitive characteristics:

Company

Dividend Yield*

Price-to-Earnings Multiple*

Altria

6.69%

11.5

Eli Lilly (NYSE: LLY  )

5.36%

7.9

Bristol-Myers Squibb (NYSE: BMY  )

4.96%

11.3

Philip Morris International (NYSE: PM  )

4.52%

13.6

Kimberly Clark (NYSE: KMB  )

4.25%

12.9

Kraft (NYSE: KFT  )

3.77%

14.7

SPDR S&P 500 ETF (NYSE: SPY  )

1.73%

15.0

Source: Capital IQ, a division of Standard & Poor's.
*At April 21, 2010. P/E Multiples are based on fiscal year 1 estimated earnings-per-share.

The power of a "brand tax"
Just as the U.S. government has taxing authority over its citizens, these companies, by virtue of their pricing power, can raise the "brand tax" they levy on their customers to match or beat increases in the general price level. If the government attempts to inflate its way out of its current predicament, that capability will be instrumental in protecting stock investors' returns. In a world of low-quality sovereign balance sheets, high-quality stocks look increasingly attractive.

Interested in more ideas of high-quality, high-dividend stocks? Tim Hanson identifies six stocks that are on the radar of the Fool's top dividend stock analysts.

Fool contributor Alex Dumortier has no beneficial interest in any of the stocks mentioned in this article. Berkshire Hathaway is a Motley Fool Inside Value and Motley Fool Stock Advisor pick. Philip Morris International is a Motley Fool Global Gains recommendation. Kimberly Clark is a Motley Fool Income Investor recommendation. The Fool owns shares of Berkshire Hathaway. Motley Fool has a disclosure policy.


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  • Report this Comment On June 23, 2010, at 8:57 PM, georcole wrote:

    In the section titled "Seven high-quality stocks " you only list six. I just thought you should know.

    George

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