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.
Real estate investment trusts have made a big splash among investors looking for big dividends. But while much of the attention on REITs has focused on those investing in mortgage-backed securities, others, including commercial real estate REIT Realty Income
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 Realty Income.
What We Want to See
Pass or Fail?
|Size||Market cap > $10 billion||$4.41 billion||Fail|
|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||4 years||Pass|
|Stock stability||Beta < 0.9||0.79||Pass|
|Worst loss in past five years no greater than 20%||(8.2%)||Pass|
|Valuation||Normalized P/E < 18||43.47||Fail|
|Dividends||Current yield > 2%||5.3%||Pass|
|5-year dividend growth > 10%||4.1%||Fail|
|Streak of dividend increases >= 10 years||17 years||Pass|
|Payout ratio < 75%||151.6%||Fail|
|Total score||6 out of 10|
Source: S&P Capital IQ. Total score = number of passes.
With six points, Realty Income gives conservative investors some but not all of what they'd like to see in a stock. While the dividend is right, the REIT faces challenges that raise concerns.
Realty Income owns 2,600 properties in 49 states, with an emphasis on diversification. Its properties span 38 industries and include 134 tenant companies, and it typically gets long-term leases for 15- to 20-year timespans.
Realty Income's claim to fame is its unusual dividend policy. Most big REITs, including HCP
What may be most surprising is how well the REIT held up during the market meltdown. Losing only 8% in 2008, Realty Income clearly didn't suffer from the same cash-flow challenges that ended up leading General Growth Properties
For retirees and other conservative investors, Realty Income's biggest problem is its rich valuation. But viewed on a cash-flow basis, the REIT's dividends appear much more sustainable. For those seeking solid, dependable monthly income, Realty Income has been a strong choice for decades and should continue to do so well into the future.
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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If you want to retire rich, you need to be confident that you've got the basics of your investment strategy down pat. See if you're on track by following the " 13 Steps to Investing Foolishly ."
Fool contributor Dan Caplinger doesn't own shares of the companies mentioned in this article. The Motley Fool owns shares of Howard Hughes Corp. 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.