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.
In 2011, utilities made a huge splash, as dividend-hungry investors were drawn to their big yields. But this year, a flagging economy has held back Dominion Resources (D +0.65%) and its peers, as competitive pressures from massive consolidation within the industry become fiercer. Can Dominion stand out from the crowd and do better in 2013? Below, we'll revisit how Dominion Resources does on our 10-point scale.
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 Dominion Resources.
|
Factor |
What We Want to See |
Actual |
Pass or Fail? |
|---|---|---|---|
|
Size |
Market cap > $10 billion |
$29.6 billion |
Pass |
|
Consistency |
Revenue growth > 0% in at least four of past five years |
2 years |
Fail |
|
Free cash flow growth > 0% in at least four of past five years |
2 years |
Fail | |
|
Stock stability |
Beta < 0.9 |
0.47 |
Pass |
|
Worst loss in past five years no greater than 20% |
(21.6%) |
Fail | |
|
Valuation |
Normalized P/E < 18 |
24.40 |
Fail |
|
Dividends |
Current yield > 2% |
4.1% |
Pass |
|
5-year dividend growth > 10% |
8% |
Fail | |
|
Streak of dividend increases >= 10 years |
9 years |
Fail | |
|
Payout ratio < 75% |
102.2% |
Fail | |
|
Total score |
3 out of 10 |
Source: S&P Capital IQ. Total score = number of passes.
Since we looked at Dominion Resources last year, the company has dropped two points, as valuations and payout ratios have climbed due to falling earnings. The stock hasn't done terribly, but it's only gained about 5% over the past year.
Once seen as a safe haven for conservative investors, the utility industry has gotten a lot more cutthroat. With massive generating companies Exelon (EXC +0.80%) and Southern Company (SO +0.55%) aiming to provide power for large geographical regions, electricity is more of a commodity than ever. For its part, Dominion is aiming at avoiding the dog-eat-dog world of deregulated power generation, instead focusing its attention on regulated generation and supply as a means to produce more stable income streams.
The big issue for East Coast utilities lately, though, has been exposure to Hurricane Sandy. With Duke Energy's (DUK +0.61%) Duke Power unit, Consolidated Edison (ED +0.14%), and Dominion not having established storm reserves, all three companies are fully vulnerable to short-term earnings hits that the storm caused in their respective areas. At least for now, though, analysts haven't ratcheted down current-quarter earnings estimates for Dominion.
One interesting area that Dominion is looking at is a proposed liquefied natural gas project in Cove Point, Md. With its projected capacity already fully subscribed, the plant could be up and running by 2016-2017.
For retirees and other conservative investors, Dominion is a good example of the dynamics of a conservative utility. At current prices, Dominion seems overvalued. It would take a pretty significant pullback to justify choosing Dominion over other, more cheaply valued utility stocks.
Keep searching
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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