Wednesday, January 14, 2009

* Dividend Stocks Role In The Future Recovery

Dividend stocks are sometimes referred to as defensive stocks since many investors flee to them in an economic downturn. Their dividends, if sustainable, provide a minimum level of positive return. This cushions the downward pressure from the market. But what happens when the market turns up?

Beta is a quantitative measure of the volatility of a given security or portfolio relative to the overall market, usually the S&P 500. By definition, the market has a beta of 1.0 and securities are ranked according to how much they deviate from the market. Thus, securities with a beta above 1 are more volatile than the overall market, while those with a beta below 1 are less volatile. High-beta stocks are supposed to be riskier but provide a potential for higher returns, while low-beta stocks pose less risk but also lower returns.

Dividend stocks tend to have low betas. That means during a market downturn, they tend not to fall as much as the market in total. Hence, the term defensive stocks. It is also important to note that defensive stocks tend to be non-cyclical. Examples would include food, tobacco, oil, and utilities where demand is remains stable under difficult economic conditions. This was evidenced in my income stock's 2008 return of -20.4% vs. the S&P 500 return of -36.3% (VFINX).

Here are some of my low beta holdings:
  • Chevron Corp (CVX): 5-yr Beta 0.67 (analysis)
  • Pepsico Inc (PEP): 5-yr Beta 0.58 (analysis)
  • Johnson and Johnson (JNJ): 5-yr Beta 0.49 (analysis)
  • Kimberly-Clark Corp (KMB): 5-yr Beta 0.40 (analysis)
  • Consolidated Edison Inc (ED): 5-yr Beta 0.25 (analysis)
This of coarse works against you when the market turns up. The low beta means the stocks don't increase as fast as the market in an upturn. As a dividend investor, I should expect to under-perform the market during significant bull markets. I have selected certain higher beta stocks to mitigate this shortfall. However, as a dividend investor my goal is an ever-increase stream of dividend income, not to maximize total shareholder return.

Full Disclosure: Long CVX, PEP, JNJ, KMB, ED, VFINX

Tags: [CVX] [ED] [JNJ] [KMB] [PEP] [VFINX]