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.
Farming used to be a fairly boring industry. But with populations rising around the world, demand for food has gotten a lot stronger, and high crop prices have supported farm incomes far better than during tougher times in the past. Archer Daniels Midland (NYSE: ADM ) relies on a strong farm industry to provide supply for its business, which includes food processing and transportation. But with drought hitting the U.S., are the good times over for farming? Below, we'll revisit how Archer Daniels Midland 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 Archer Daniels Midland.
What We Want to See
Pass or Fail?
|Size||Market cap > $10 billion||$18.0 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||2 years||Fail|
|Stock stability||Beta < 0.9||0.44||Pass|
|Worst loss in past five years no greater than 20%||(36.9%)||Fail|
|Valuation||Normalized P/E < 18||13.34||Pass|
|Dividends||Current yield > 2%||2.6%||Pass|
|5-year dividend growth > 10%||9.8%||Fail|
|Streak of dividend increases >= 10 years||36 years||Pass|
|Payout ratio < 75%||37.2%||Pass|
|Total score||6 out of 10|
Source: S&P Capital IQ. Total score = number of passes.
Since we looked at Archer Daniels Midland last year, the company has lost a point. Slightly slower dividend growth was responsible for the score drop, but the stock's flat performance in a broader bull market is what's troubling shareholders at the moment.
The past several years have been very good to the farming community, with a wide range of ag-related companies benefiting from high crop prices. Fertilizer companies Terra Nitrogen (NYSE: TNH ) and PotashCorp (NYSE: POT ) have recovered well from their late 2008 lows because farmers are trying to boost their crop yields, although Terra Nitrogen has had the advantage lately thanks to the rock-bottom prices of natural gas versus the mining costs of potash.
But this summer's drought has put a damper on the ag sector. Along with Wells Fargo (NYSE: WFC ) and several other companies providing crop insurance, ADM's Crop Risk Services division should expect far more claims this year. Government assistance will help, but the key will be how well-diversified ADM has been in bringing on a wide variety of different types of clients. The company had to deal with an analyst downgrade in July during the worst of the dry spell on expectations that rising input prices for corn will pinch margins. Chipotle (NYSE: CMG ) and several other restaurant stocks have experienced similar drops on related concerns over ingredient costs.
One potentially helpful trend for ADM may come from the Federal Reserve's recent move to add more stimuli to the economy. As Fool analyst Matt Argersinger explained recently, QE3 could serve to boost the farm products sector, and the stock's dividend makes it a particularly attractive choice from the sector.
For retirees and other conservative investors, a lagging stock with a nice dividend in an up market is not a bad prospect, especially given the stock's qualification as a Dividend Aristocrat. At current levels, ADM is an interesting potential addition to a 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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