Month 138 - 18 A-Rated Low-Beta Defensive Stocks - January 2023

Situation: Investors currently face a period of uncertainty due to macroeconomic and geopolitical events. Opportunities abound but safety is the byword. That means you’ll be taking greater interest in SWANs (Sleep Well At Night stocks), which offer an above-market dividend yield combined with low price volatility. 

Mission: Use our Standard Spreadsheet to analyze stocks in the Vanguard High Dividend Yield ETF (VYM) that have a 5-yr Beta lower than 0.7. Omit VYM stocks that don’t have all the safety factors we require for our A-rated designation: 1) at least a 16-yr trading history on public US stock exchanges; 2) issued corporate bonds rated A- or better by S&P; 3) an S&P Stock Rating of B/M or better; 4) positive earnings for the Trailing Twelve Month (TTM) period; 5) a positive Book Value for the most recent quarter (mrq); 6) capitalization from issuing corporate bonds that doesn’t exceed 2.5 times Equity; 7) a 10-yr Actual Rate of Return that exceeds the 10-yr Required Rate of Return calculated by using the Capital Asset Pricing Model. 

Execution: see Table of 18 stocks.

Analysis: Warren Buffett’s favorite metric is found in Column T of the Table (Return on Tangible Capital Employed). He thinks anything higher than a 20% return for the last fiscal year (lfy) is a good number. Eight companies meet that standard (LLY, MRK, WEC, PG, HSY, JNJ, PEP, LMT). His second point (that the company be “run by able and honest managers”) is addressed in Morningstar reports (see Column AQ), and is negatively impacted by the degree to which managers have capitalized the company by issuing long-term bonds (see Column Z). One company (LNT) has a BUY rating from Morningstar. Eight companies have a Debt to Equity ratio lower than 1.0 (MRK, HRL, ATO, PFE, PG, JNJ, LMT, WMT). Mr. Buffett also states that a high Free Cash Flow Yield (Column K) reflects good management because Retained Earnings allow a company to expand operations (or pay down debt) at zero cost. Twelve companies have Free Cash Flow remaining after they pay dividends (LLY, MRK, HRL, PFE, LNT, PG, ES, KO, HSY, JNJ, LMT, WMT). His third point (that the stock be available “at a sensible price”) is addressed by the 1 year and 3-5 year Forward PEG ratios (see Columns O and P): No companies have a PEG lower than 2.0 for both time periods. Four companies are cited 3 times (MRK, PG, JNJ, LMT). 

Bottom Line: SWANs have low price volatility, under-participating in both Bear and Bull Markets. As a group, however, these 17 SWANs have outperformed the S&P 500 ETF (SPY) after both 5-yr and 10-yr holding periods (see Columns E and H).

Risk Rating: 5 (where 10-yr US Treasury Note = 1, S&P 500 Index = 5, and gold bullion = 10).

Full Disclosure: I dollar-average into LLY, MRK, AEP, PFE, PG, KO, JNJ, PEP, LMT, WMT.

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