Where’s the Safe Play in This Market?

Brian is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

With markets trading at their highest levels since 2007, a less than impressive earnings season underway, and the potential for more macro-economic headwinds, it could be time for you to start ringing the cash register and heading towards the sidelines.  Investors have had a nice run over the last year or so, but growth opportunities are becoming increasingly hard to find and I just can’t find a reason to pay the premium that this market is trading at.  The psychology behind your next trade should be to mitigate your risk profile in preparation for an inevitable market correction.

The most popular ‘risk off’ stocks over the last three years have been the blue chip dividend payers of the consumer staples sector.  The reason for the popularity is simple--there’s no other game in town.  With interest rates held at near zero levels, risk-averse investors who would normally stick to the bond market have been pouring capital into these relatively ‘safe’ stocks in search of higher yields.  This trend has been mighty profitable for investors too, providing consistent streams of cash flow in the form of dividend payments and double digit capital gains year after year.

Looking at the chart above, we would have to raise the alarm that maybe the consumer staples sector is looking a little played out.  After all, the SPDR fund that tracks the broader consumer staples sector has seen a nearly 100% appreciation since bottoming out in January of 2009.  Something’s got to give.

So, growth stocks and the gems of the dividend payers in the consumer staples sector are trading at huge premiums, but you need a safe haven.  My spider senses are telling me to start looking for opportunities elsewhere.  Going forward, I wouldn’t short consumer staples entirely, but I would be mindful of how these stocks were weighted in my portfolio.

Here’s a glimpse at my playbook.  Cycle out of consumer staples, banks, and tech stocks and move into energy and agriculture.  If you absolutely must maintain a footprint in the tech sector, I would consider Intel (NASDAQ: INTC) for its’ relatively low P/E ratio and attractive yield.  As for banks, I like Wells Fargo (NYSE: WFC), they aren’t as profitable as JPMorgan, but the low volatility and 2.84% dividend yield makes them a nice addition to your sidelines fund.

Although Intel offers little in the way of immediate growth potential, it has been a favorite of mutual funds and income investors throughout the turbulent economic recovery.  Earnings performance has been disappointing recently, with the company posting a 3% decline in revenue year over year, but that certainly hasn’t stopped them from raising dividends, which currently pay out at 4.4%.  After the last earnings miss, I believe yield hunters are just waiting for a positive catalyst to jump back in.  Here’s a catalyst for you: Intel is a financially sound technology company that pays a nice dividend.

As for Wells Fargo, I like this stock strictly on the premise that it has a lower beta than JP Morgan.  Beta is the measure of a stocks’ volatility relative to the market: a beta of 1 indicates that the stock moves perfectly with the market, below 1 equals less volatility, and above means more volatility.  Wells Fargo has a beta rating of 1.21, which is much better in comparison to JP Morgans’ rating of 1.65.  The two banks are virtually identical, sharing the same market caps and operating margins, though JP Morgan edges out Wells Fargo in revenue--but then again, they win the battle for negative press, too, with debacles like the ‘London Whale.’ 

There is a lot of opportunity in the energy sector right now, and I think the market is going to catch on and pick up the slack, so bargain hunters should move with a purpose.  ConocoPhillips (NYSE: COP) boasts a low P/E ratio of 8.67, a juicy dividend yield of 4.6%, and thanks to a recent pullback trades at a relative discount, making it especially attractive for an energy play.  During the investor conference last month the CEO, Ryan Lance, outlined his vision for the company after the recent spin off of Phillips 66.  His goal is to turn the company into what he calls a “new class of assets,” with a primary focus on becoming the industry leader in value for investors by increasing margins and continuing the company's legacy of returning cash to investors.  Maximizing shareholder returns through growth and dividends sounds like a pretty sound business model to me. 

As for agriculture, I like Archer Daniels Midland (NYSE: ADM). This stock is off to a great start this year and has been getting some attention from analysts on Wall Street.  It offers some opportunities for capital gains and also pays a dividend yield of 2.42%.  After weathering a disappointing corn crop yield last summer the company seems to be diversified enough in its operations to remain profitable into the future.  More importantly, the company operates in the quintessential ‘politics proof’ sector of the economy, which will insulate investors from negative macro-economic developments.    

Remember, when building a defensive portfolio boring is good, and diversification is essential.  

XLP data by YCharts


SofJay has no position in any stocks mentioned. The Motley Fool recommends Intel and Wells Fargo. The Motley Fool owns shares of Intel and Wells Fargo. Try any of our Foolish newsletter services free for 30 days. 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 Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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