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.
It wasn't so long ago that railroads seemed like an obsolescent and nearly forgotten remnant of the past. But with the fast rise in energy prices over the past decade or so, Union Pacific
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 Union Pacific.
What We Want to See
Pass or Fail?
|Size||Market cap > $10 billion||$57.9 billion||Pass|
|Consistency||Revenue growth > 0% in at least four of past five 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||1.16||Fail|
|Worst loss in past five years no greater than 20%||(22.7%)||Fail|
|Valuation||Normalized P/E < 18||15.90||Pass|
|Dividends||Current yield > 2%||2.0%||Pass|
|5-year dividend growth > 10%||28.5%||Pass|
|Streak of dividend increases >= 10 years||6 years||Fail|
|Payout ratio < 75%||27.8%||Pass|
|Total score||6 out of 10|
Source: S&P Capital IQ. Total score = number of passes.
Since we looked at Union Pacific last year, the company has picked up a point. Another year of revenue growth was enough to boost the score, and the shares have responded, too, with the stock rising almost 40% in the past year.
Railroads benefited greatly from the boom in commodities in recent years, as large amounts of economic activity abroad made rail transportation more affordable and efficient. But as growth abroad has slowed, the demand for resources like coal has fallen, leaving many railroads with less to ship. Union Pacific didn't get hurt as much as CSX
In response, Union Pacific has moved toward establishing itself as a logistics company more than strictly a rail transportation giant. Both it and CSX have seen advantages from recasting themselves in the same way that United Parcel Service
One area where Union Pacific and its peers are seeing more activity is in housing-related goods. Norfolk Southern
For retirees and other conservative investors, the stock still has attractive dividend payouts and reasonable valuations, but the big jump in the share price means less value left on the table for today's buyers. Nevertheless, the stock deserves some consideration for a place within 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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Fool contributor Dan Caplinger doesn't own shares of the companies mentioned. Motley Fool newsletter services have recommended buying shares of FedEx and Canadian National Railway. 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.