Is Diamond Offshore the Right Stock to Retire With?

Now more than ever, a comfortable retirement depends on secure, stable investments. Unfortunately, the right stocks for retirement won't just fall into your lap. Let's figure out what makes a great retirement-oriented stock, then examine whether Diamond Offshore (NYSE: DO  ) has what we're looking for.

The right stocks for retirees
With decades to go before you need to tap your investments, you can take greater risks, weighing the chance of big losses against the potential for mind-blowing returns. But as retirement approaches, you no longer have the luxury of waiting out a downturn.

Sure, you still want good returns, but you also need to manage your risk and protect yourself against bear markets, which can maul your finances at the worst possible time. The right stocks combine both of these elements in a single investment.

When scrutinizing a stock, retirees should look for:

  • Size. Most retirees would rather not take a flyer on unproven businesses. Bigger companies may lack their smaller counterparts' growth potential, but they do offer greater security.
  • Consistency. While many investors look for fast-growing companies, conservative investors want to see steady, consistent gains in revenue, free cash flow, and other key metrics. Slow growth won't make headlines, but it will help prevent the kind of ugly surprises that suddenly torpedo a stock's share price.
  • Stock stability. Conservative retirement investors prefer investments that move less dramatically than typical stocks, and they particularly want to avoid big losses. These investments will give up some gains during bull markets, but they won't fall as far or as fast during bear markets. Beta measures volatility, but we also want a track record of solid performance as well.
  • Valuation. No one can afford to pay too much for a stock, even if its prospects are good. Using normalized earnings multiples helps smooth out one-time effects, giving you a longer-term context.
  • Dividends. Most of all, retirees look for stocks that can provide income through dividends. Retirees want healthy payouts now and consistent dividend growth over time -- as long as it doesn't jeopardize the company's financial health.

With those factors in mind, let's take a closer look at Diamond Offshore.

Factor

What We Want to See

Actual

Pass or Fail?

Size Market cap > $10 billion $10.4 billion Pass
Consistency Revenue growth > 0% in at least four of past five years 4 years Pass
  Free cash flow growth > 0% in at least four of past five years 4 years Pass
Stock stability Beta < 0.9 0.80 Pass
  Worst loss in past five years no greater than 20% (56%) Fail
Valuation Normalized P/E < 18 12.82 Pass
Dividends Current yield > 2% 4.7% Pass
  5-year dividend growth > 10% 5.9% Fail
  Streak of dividend increases >= 10 years 0 years Fail
  Payout ratio < 75% 7.3% Pass
       
  Total score   7 out of 10

Source: Capital IQ, a division of Standard and Poor's. Total score = number of passes.

Diamond Offshore scores seven points. It hasn't given conservative investors the protection against down markets that they'd prefer to see, but with a good and growing dividend yield combined with good revenue and cash flow growth, the driller has weathered the storm in its industry fairly well.

Until last year, Diamond was among the many drilling contractors whose fortunes rose and fell with the price of oil. But after the Gulf oil spill hit, Diamond suddenly saw a drilling moratorium having a huge impact on its activity -- and its revenue. Diamond had customer Cobalt International Energy (NYSE: CIE  ) declare force majeure because of the moratorium, while competitor Noble (NYSE: NE  ) saw similar action from one of its customers.

Despite the uncertainty, though, Diamond isn't standing still. The company has ordered construction on a second deepwater drillship, and it has rigs working off the coasts of Brazil and Egypt. And unlike rivals Transocean (NYSE: RIG  ) and Pride International (NYSE: PDE  ) , Diamond has remained committed to paying a dividend even through difficult times.

Compared with big oil companies, drillers like Diamond Offshore aren't the most conservative ways to play energy. But in measured doses, adding a stock like Diamond to a retirement portfolio isn't automatically a terrible idea even for retirees and other conservative investors.

Keep searching
Finding exactly the right stock to retire with is a tough task, but it's not impossible. Searching for the best candidates will help improve your investing skills, and teach you how to separate the right stocks from the risky ones.

Add Diamond Offshore to My Watchlist, which will aggregate our Foolish analysis on it and all your other stocks.

If you want to retire rich, you need to be confident that you've got the basics of your investment strategy down pat. See if you're on track by following the 13 Steps to Investing Foolishly.

Fool contributor Dan Caplinger doesn't own shares of the companies mentioned in this article. The Fool owns shares of Diamond Offshore, Noble, and Transocean. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Fool has a disclosure policy.


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