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.
As with many financial services companies, Prudential (NYSE: PRU ) prides itself on selling protection to its customers through insurance and investment products. Yet with all these companies, the key question ends up being this: Can you do better just buying the company's stock rather than its products? Below, we'll look at how Prudential 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 Prudential.
What We Want to See
Pass or Fail?
|Size||Market cap > $10 billion||$27.1 billion||Pass|
|Consistency||Revenue growth > 0% in at least four of five past years||3 years||Fail|
|Free cash flow growth > 0% in at least four of past five years||4 years||Pass|
|Stock stability||Beta < 0.9||2.32||Fail|
|Worst loss in past five years no greater than 20%||(66.3%)||Fail|
|Valuation||Normalized P/E < 18||9.54||Pass|
|Dividends||Current yield > 2%||2.5%||Pass|
|5-year dividend growth > 10%||8.1%||Fail|
|Streak of dividend increases >= 10 years||3 years||Fail|
|Payout ratio < 75%||18.5%||Pass|
|Total score||5 out of 10|
Source: S&P Capital IQ. Total score = number of passes.
With only five points, Prudential isn't giving conservative investors all the rock-solid attributes they want from a stock. Although the company has a reasonable valuation and healthy dividend, its volatility in recent years shows just how deep the financial crisis went three years ago.
Prudential sells life insurance and financial products like annuities that are designed to combine solid returns with protection from downside risk. However, offering those products involves taking on risk for Prudential, and during times like the 2008-2009 market meltdown, those risks came home to roost.
Prudential didn't fare as badly as some. Hartford Financial (NYSE: HIG ) and Lincoln National (NYSE: LNC ) , which also offered annuities, chose to take government TARP money to shore up their finances after annuity losses hit them hard. Manulife Financial joined Prudential in raising prices and cutting back on benefits to recoup losses from the financial crisis. Genworth Financial (NYSE: GNW ) chose to get out of the variable annuity market entirely.
But the company still labors under the suspicion of Main Street. Earlier this month, Prudential and MetLife (NYSE: MET ) were accused of fraudulently withholding unclaimed life insurance policy proceeds rather than turning them over to state treasurers.
For retirees and other conservative investors, the big ups and downs in the stock make it clear that Prudential isn't an investment for the meek. If you think there's any chance that the European sovereign debt situation will blossom into a full-blown crisis, then despite Prudential's currently cheap valuation, you might prefer to steer clear rather than taking a piece of the rock.
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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