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3 Defensive Stocks to Cushion Your Portfolio From a Market Downfall

By Reuben Gregg Brewer – May 28, 2018 at 9:34AM

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A big market decline will happen at some point; these three defensive stocks could help soften the blow.

When it comes to investing, including some boring, defensive stocks in your portfolio is a good thing. This is because investors often forget that markets go both up and down. The market is in a positive mood lately, which is exactly why you will want to consider this trio of boring utility stocks. Here's why American Water Works, Inc. (AWK -2.43%), Duke Energy Corporation (DUK -1.49%), and Dominion Energy, Inc. (D -1.83%) are all defensive stocks you might want to consider adding to your portfolio today.

Solid dividend growth from an unexpected corner of the market

For investors who favor dividend growth, American Water Works is a good name to consider. That's because it typically gives investors a smooth ride. American Water Works' beta, a measure of relative volatility, is an ultra-low 0.05. That suggests it's 95% less volatile than the broader market. It's easily the most "boring" stock of this trio if you use beta as the yardstick.

The yield is a modest 2.1%, a little higher than the broader market. However, over the past decade, the company has increased its dividend at roughly 10% annually -- more than three times the historical growth rate of inflation. Ten percent is the target for the utility going forward, as well. It's increased its dividend annually for 11 consecutive years, essentially every year since it came public.   

A man with his head on a table with a chart showing a huge decline in the background.

The best time to add some conservative stocks to your portfolio is before the stock market tanks. Image source: Getty Images.

American Water Works provides drinking water and wastewater services to 1,600 communities in the United States and parts of Canada. The company's growth comes from two main sources: upgrading its assets and buying water systems in the highly fragmented water services industry.   

The company's plans call for roughly $9 billion in spending over the next five years. Although it's one of the largest publicly traded water utilities, it only has operations in 16 states, so there's plenty of room for bolt-on acquisitions. That should account for around $1 billion in spending. As for upgrading its assets, replacing old water pipes is generally looked at favorably by regulators (utilities are granted monopolies in exchange for government regulation of their rates). This is where most of the rest of its spending is scheduled to take place. American Water Works expects all of this to boost earnings by as much as 10% annually. Dividend hikes should track earnings. For reference, the last dividend increase was announced in the first quarter and was 9.6%.   

A generous yield to power up your portfolio

Duke Energy is a good option for investors seeking high yields. It is one of the largest electric and natural gas utilities in the United States. That came about after a recent company overhaul that jettisoned riskier carbon-fueled merchant power assets and added the natural gas business (via an acquisition) and a renewable power merchant business. At this point, though, Duke has multiple levers to pull as it seeks to grow.

D Dividend Per Share (Quarterly) Chart

D Dividend Per Share (Quarterly) data by YCharts.

Duke's stock yields around 4.5%, and the dividend has been increased every year for 13 consecutive years. That said, the average dividend increase over the trailing 10 years was roughly 3%, a modest figure that's roughly in line with inflation. However, after the corporate makeover, Duke is now targeting 4% to 6% dividend growth through 2022. 

To get there, Duke plans to spend around $37 billion on its assets between 2017 and 2021. Roughly 90% is earmarked for its regulated electric assets, 8% for the natural gas businesses, and the rest is slated to go toward renewable power. All of that spending should provide ample support with regulators for rate hikes and allow Duke to meet its 4% to 6% earnings and dividend growth targets.   

As for its volatility, Duke's beta is a low 0.11. That's around twice the level of American Water Works, but still incredibly low. Duke's beta suggests it is around 90% less volatile than the broader market.

A slightly more aggressive choice

For investors willing to get a little more daring, a slightly riskier option is Dominion Energy. Its beta is around 0.30. That's a lot higher than the two other stocks here, but compared to the overall market's figure of 1, it's still quite low.

Dominion yields a robust 5.1% and has plans to increase its dividend by 10% in 2018, with a target of 8% to 10% in 2019 and 2020. The utility has increased its dividend annually for 15 years, with a trailing-10-year average hike of around 8.5%. If this sounds like a clear winner to you, read on. There are some reasons you might prefer a less exciting stock.   

Dominion breaks its business down into three broad divisions: electric transmission, power generation (both regulated and non-regulated), and natural gas delivery and transmission. Also included in the mix is a controlled limited partnership, Dominion Energy Midstream Partners, L.P., through which the parent utility controls natural gas midstream assets.

Looking from the top down, Dominion plans to spend roughly $4.2 billion a year over the next few years. On the regulated electric side, that spending will be for things like new generating capacity, which should help support rates. On the non-regulated side, the spending is geared to expand the utility's collection of assets, an effort that will increase revenues. Dominion is currently projecting 6% to 8% annualized earnings growth through 2020. 

Dominion Energy's funding plans before and after the sharp price decline in the units of its midstream partnership's.

Dominion Energy's funding plan is in flux because of the low unit price for Dominion Energy Midstream Partners, L.P. Image source: Dominion Energy. 

Dominion's high yield is related to a couple of factors that suggest it's not the best choice for really conservative investors. First, the utility expected Dominion Energy Midstream Partners to be a key source of capital as Dominion Energy sold the controlled partnership assets. A downturn in the midstream sector, though, has resulted in Dominion Energy stepping back from this plan. The utility will have to add debt or sell equity to fund its growth, a fact that has some investors worried. Second, Dominion is trying to acquire SCANA Corporation, a financially troubled, smaller rival. Dominion doesn't expect the deal to change its dividend growth projections, but it will leave the utility responsible for cleaning up a nuclear power project that SCANA was forced to abandon mid-construction.     

Dominion carries more risk than Duke or American Water Works, but the mix of a high yield, relatively low beta, and material dividend growth may be worth it for more aggressive investors.

A good start

American Water Works, Duke, and Dominion aren't the type of stocks you talk about at cocktail parties, but that's the point. Each is quite stable and has a long history of paying and increasing dividends, and they all plan to grow their largely regulated businesses. American Water Works and Duke are easily the most conservative names here, but even Dominion still offers relative safety compared to the broader market. All three are worth considering today, before the next stock market decline catches you by surprise.

Reuben Gregg Brewer has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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Stocks Mentioned

Duke Energy Stock Quote
Duke Energy
$89.42 (-1.49%) $-1.35
Dominion Resources, Inc. Stock Quote
Dominion Resources, Inc.
$64.75 (-1.83%) $-1.21
American Water Works Stock Quote
American Water Works
$128.05 (-2.43%) $-3.19

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