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.
Wells Fargo (NYSE: WFC ) has a reputation as one of the strongest banks in the industry. But that didn't stop the company from suffering during the financial crisis, especially as it took on ailing Wachovia and its troubled assets. Still, Wells Fargo has done a good job of bouncing back and getting earnings back to their pre-crisis levels. Can investors expect more good news from the bank? Below, we'll revisit how Wells Fargo 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 Wells Fargo.
What We Want to See
Pass or Fail?
|Size||Market cap > $10 billion||$179 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||3 years||Fail|
|Stock stability||Beta < 0.9||1.33||Fail|
|Worst loss in past five years no greater than 20%||(12.2%)||Pass|
|Valuation||Normalized P/E < 18||11.61||Pass|
|Dividends||Current yield > 2%||2.6%||Pass|
|5-year dividend growth > 10%||(11.7%)||Fail|
|Streak of dividend increases >= 10 years||2 years||Fail|
|Payout ratio < 75%||34.2%||Pass|
|Total score||6 out of 10|
Source: S&P Capital IQ. Total score = number of passes.
Since we looked at Wells Fargo last year, the company has picked up a point. With its dividend yield now safely about the 2% level, shareholders are happy for two reasons, as the stock also picked up 20% over the past year.
Banking stocks have made a lot of headlines lately, often for the wrong reasons. With trading turmoil at JPMorgan Chase (NYSE: JPM ) and a series of capital-raising concerns at Bank of America (NYSE: BAC ) , the industry looks far from stable even four years after the financial crisis started to heat up. Especially among banks with big investment operations, like B of A and Morgan Stanley (NYSE: MS ) , volatility has become standard.
But Wells Fargo has thrived by focusing largely on banking fundamentals. Having increased both deposits and loans, Wells has been able to cut its loan loss allowance and improve the quality of its lending portfolio. In its most recent quarter, Wells Fargo continued its good run with earnings that topped estimates. With 17% growth in earnings per share, the stock got an analyst upgrade.
Even so, Wells Fargo's valuation remains relatively low. Although it trades at a big price-to-book premium compared to B of A and Citigroup (NYSE: C ) , its financial strength and asset quality arguably make Wells deserving of that premium.
For retirees and other conservative investors, the fact that Wells got the go-ahead to increase its dividends is just another step on the road to complete recovery for the bank. If you're looking for exposure to financials, Wells Fargo is a good way to get it without taking on inordinate risk.
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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Find out more about Bank of America and why it might not stand up to Wells Fargo. You'll find the latest on the bank here in the Fool's premium report on B of A.
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