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.
Few investments inspire the kind of loyalty you'll find from shareholders of Berkshire Hathaway
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 Berkshire Hathaway.
What We Want to See
Pass or Fail?
|Size||Market cap > $10 billion||$220 billion||Pass|
|Consistency||Revenue growth > 0% in at least four of five past years||4 years||Pass|
|Free cash flow growth > 0% in at least four of past five years||3 years||Fail|
|Stock stability||Beta < 0.9||0.49||Pass|
|Worst loss in past five years no greater than 20%||(31.8%)||Fail|
|Valuation||Normalized P/E < 18||20.28||Fail|
|Dividends||Current yield > 2%||0%||Fail|
|5-year dividend growth > 10%||0%||Fail|
|Streak of dividend increases >= 10 years||NM||NM|
|Payout ratio < 75%||NM||NM|
|Total score||4 out of 8|
Source: S&P Capital IQ. NM = not meaningful; Berkshire has never paid a dividend. Total score = number of passes.
Since we looked at Berkshire Hathaway last year, the company has seen its score drop by two points. Falling cash flow contributed to the move, but investors who already own shares should be relatively pleased about the stock's 30% jump in the past year despite the impact it's had on valuation.
It can be hard to separate the business of Berkshire from the personality of Buffett. But, when you strip away the legend, Berkshire has a simple business model: build up a core insurance business, write policies that make sense, and do an above-average job of investing money between the time you collect it as insurance premiums and the time you pay it out in claims.
Admittedly, though, Buffett is a huge asset. Companies from General Electric
The importance of Buffett has made it imperative for Berkshire to figure out how it will go on without him. But, despite obvious worries, there's every reason to believe that the investments that Buffett has put in place will survive a good long while even once he's gone.
For retirees and other conservative investors, Berkshire Hathaway doesn't meet every need. It pays no dividend, which rules it out for many retirement portfolios. Moreover, its stock price has jumped strongly, leaving some wondering if it's still a good value despite a historically low price-to-book ratio. If you're willing to take on Buffett risk, Berkshire is a reasonable play for retirement investors who don't need income.
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.
Berkshire's investment in Bank of America has already paid big dividends, but will the blockbuster investment bear even more fruit for Berkshire? Find out in the Fool's premium report on Bank of America. With up-to-date analysis and ongoing updates, you'll know everything you need to know about B of A all year long -- as long as you click here and grab your copy today.
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Fool contributor Dan Caplinger owns shares of Berkshire Hathaway. The Motley Fool owns shares of Bank of America and Berkshire Hathaway. Motley Fool newsletter services have recommended buying shares of Berkshire Hathaway and Goldman Sachs. 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.
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