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. In this series, I look at 10 measures to show what makes a great retirement-oriented stock.
I don't know what it is about insurance companies that makes them lean toward using spokesanimals, but among talking geckos and soaring whales, Aflac's (NYSE: AFL ) crazy-voiced duck is perhaps the most memorable. Yet Aflac stands out from most of its insurance-providing peers by focusing on highly profitable supplemental lines that many providers typically don't offer. With much of its business coming from Japan, Aflac seemed to be well diversified -- until last year's Japanese earthquake and tsunami devastated the island nation. Has the insurer bounced back from the catastrophe? Below, we'll revisit how Aflac does on our 10-point scale.
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 Aflac.
What We Want to See
Pass or Fail?
|Size||Market cap > $10 billion||$18.7 billion||Pass|
|Consistency||Revenue growth > 0% in at least four of five past years||5 years||Pass|
|Free cash flow growth > 0% in at least four of past five years||5 years||Pass|
|Stock stability||Beta < 0.9||1.83||Fail|
|Worst loss in past five years no greater than 20%||(25.5%)||Fail|
|Valuation||Normalized P/E < 18||8.32||Pass|
|Dividends||Current yield > 2%||3.3%||Pass|
|5-year dividend growth > 10%||15.8%||Pass|
|Streak of dividend increases >= 10 years||29 years||Pass|
|Payout ratio < 75%||23.9%||Pass|
|Total score||8 out of 10|
Source: S&P Capital IQ. Total score = number of passes.
Since we looked at Aflac last year, the company has kept its eight-point score. Shares have dropped about 10% from a year ago, but overall, it has held up well in a very tough environment for the insurance industry.
Aflac does most of its business in Japan, getting about 80% of its revenue there. So following the disaster there last year, Aflac saw its shares take a huge hit. Yet the company recovered better than fellow insurers Travelers (NYSE: TRV ) and Allstate (NYSE: ALL ) by the end of 2011, as the catastrophic events of Hurricane Irene and other severe weather in the U.S. didn't really affect Aflac.
More recently, though, Aflac has seen its shares tumble as concerns about European sovereign debt have come back to the forefront. Aflac had sizable exposure to weaker economies in Europe, and even though the company has already sold off former positions in National Bank of Greece (NYSE: NBG ) as well as Greek and Portuguese government bonds, it held onto senior debt in Bank of Ireland (NYSE: IRE ) as of March 31, arguing that it believes the position is worth the risk. Given Aflac's cheap valuation, it's apparent that investors are penalizing the company for its minor European holdings, even though the $1.1 billion loss it's already taken on its exposure could be the last of its losses.
For retirees and other conservative investors, Aflac's strong and growing dividend is a big indicator of its strength even in the face of adversity. Given that the whole point of insurance is to deal with large problems from time to time, Aflac's success in handling the latest disasters bodes well for its future -- and should give you confidence in considering adding it to your retirement portfolio.
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.
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