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.
For generations, investors have counted on utilities to provide solid income and stability for conservative portfolios. Unlike most utilities, National Grid (NGG +0.06%) has a business that isn't limited to just the U.S., with major operations in the U.K. as well. Can international diversification make this company a better utility play than its competition? Below, we'll revisit how National Grid 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 National Grid.
|
Factor |
What We Want to See |
Actual |
Pass or Fail? |
|---|---|---|---|
|
Size |
Market cap > $10 billion |
$41.4 billion |
Pass |
|
Consistency |
Revenue growth > 0% in at least four of five past 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 |
0.26 |
Pass |
|
Worst loss in past five years no greater than 20% |
(36.8%) |
Fail | |
|
Valuation |
Normalized P/E < 18 |
14.29 |
Pass |
|
Dividends |
Current yield > 2% |
5.6% |
Pass |
|
5-year dividend growth > 10% |
6.2% |
Fail | |
|
Streak of dividend increases >= 10 years |
2 years |
Fail | |
|
Payout ratio < 75% |
40.7% |
Pass | |
|
Total score |
5 out of 10 |
Source: S&P Capital IQ. Total score = number of passes.
Since we looked at National Grid last year, the company's score hasn't budged from its five-point showing. But the stock has done pretty well, posting a 15% gain over the past year.
To understand National Grid, you have to understand the dynamics of the utility industry in both countries that the company serves. In the U.S., National Grid focuses on the Northeast, which has seen a steady outflow of people and economic opportunity to faster-growing areas such as the Southeast and the Gulf Coast. As a result, National Grid faces an almost impossible task in trying to compete with powerhouses Southern (SO 0.47%) and Duke Energy (DUK 0.83%) in terms of growth, simply because its customer base isn't as economically healthy.
In the U.K., though, population growth has been stronger, yet the utility faces an even bigger challenge: a new regulatory environment. With regulator Ofgem making capital investment proposals and suggesting pricing controls that would cover National Grid's entire distribution and transmission business in the U.K., the company obviously has a lot at stake in the outcome.
Unfortunately, National Grid took a hit from Hurricane Sandy, as its Long Island Power Authority suffered huge power outages that took weeks to resolve. The utility wasn't the only one affected by the storm, as Consolidated Edison (ED 1.24%) and FirstEnergy's (FE 0.87%) Jersey Central Power & Light had to deal with millions of customers without power and brought on massive crews to handle the situation.
For retirees and other conservative investors, the stock's dividend of nearly 6% is hard to match even among utilities. National Grid isn't without risk, but with exposure to two countries, it gives you two opportunities in a single package.
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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