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.
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 Cisco Systems.
What We Want to See
Pass or Fail?
|Size||Market cap > $10 billion||$89.4 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||1.18||Fail|
|Worst loss in past five years no greater than 20%||(39.8%)||Fail|
|Valuation||Normalized P/E < 18||14.20||Pass|
|Dividends||Current yield > 2%||1.9%||Fail|
|5-year dividend growth > 10%||NM||NM|
|Streak of dividend increases >= 10 years||1 years||Fail|
|Payout ratio < 75%||19.1%||Pass|
|Total score||4 out of 9|
Source: S&P Capital IQ. NM = not meaningful; Cisco paid its first dividend in March 2011. Total score = number of passes.
Since we looked at Cisco Systems last year, the company has kept its four-point score. After a promising performance earlier this year, Cisco's stock has dropped precipitously as it faces yet another challenge to its one-time dominance in the industry.
During the initial Internet boom of the late 1990s, Cisco thrived by leading the key networking infrastructure space. Because of its dominance, IBM
Gradually, though, Cisco sought to widen its own scope to deliver higher-margin solutions of its own. That destroyed some of the incentives its now-competitors had to resell its products, boosting competitors Juniper Networks
In many ways, Cisco has never recovered from that loss. Doomed forays into the consumer electronics space distracted from the company's core mission, and in its quarterly report earlier this month, CEO John Chambers pointed once again to weakness in enterprise IT spending as a macroeconomic headwind. Yet with Cisco particularly vulnerable to cutbacks by government clients, it's far from clear whether Cisco's woes are truly representative of the industry as a whole.
For retirees and other conservative investors, Cisco has been a volatile stock that hasn't delivered the stability they want. Although a recently initiated dividend is welcome, it's not enough to make the stock appropriate for most retirement portfolios. If Cisco can get its house in order, then it'll be worth a second look.
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.
If you really want to retire rich, no one stock will get the job done. Instead, you need to know how to prepare for your golden years. The Motley Fool's latest special report will give you all the details you need to get a smart investing plan going, plus it reveals three smart stocks for a rich retirement. But don't waste another minute -- click here and read it today.
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Fool contributor Dan Caplinger doesn't own shares of the companies mentioned. The Motley Fool owns shares of Cisco Systems, Riverbed Technology, and IBM. Motley Fool newsletter services have recommended buying shares of and creating a synthetic long position in Riverbed Technology. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Fool has a disclosure policy.