Defensive stocks tend to reflect companies whose businesses are relatively immune to changes in economic conditions. These companies offer products and services that are needed in all economic conditions.
What Is a Defensive Stock?
Defensive stocks reflect companies whose earnings growth and performance have a low correlation to the economy. Revenue, profit and cash flow for companies whose stocks are considered to be defensive will remain stable regardless of the economy, as will the share price of the stock.
Defensive stocks tend to be in industries like utilities, personal care, healthcare and other consumer staples. The products and services offered by these companies usually have stable, if not growing demand, regardless of economic conditions.
Examples of Defensive Stocks
There are a number of different types of defensive stocks.
Utilities are one example. Water, gas and electric utilities represent companies whose services are vital. These are basic services that people need regardless of how the economy and the stock market are performing. These are companies that generally borrow a great deal of funds and they may actually benefit when the economy is weak since that is often accompanied by lower interest rates.
Consumer staples are another common defensive group of stocks. These are companies who produce and/or sell products such as tobacco, food, beverages, hygiene products and other household items that people need regardless of the state of the economy. The stocks of these types of companies will tend to outperform those of consumer cyclicals whose products and services are often discretionary in tough economic conditions. Consumers can often forgo purchases from these companies when the economy is slow.
Health care stocks are another group that has traditionally been considered as defensive. This group includes drug companies and manufacturers of medical devices. People get sick regardless of the economy and the demand for these types of products is not as sensitive to the economy as some others. In recent years, the character of many of these companies has changed and the group may not be as defensive as it once was. This is due to the onslaught of generic drugs and related products, as well as the uncertainties surrounding the regulatory environment for health care.
Defensive vs. Cyclical Stocks
Both defensive and cyclical stocks can have a place in an investor's portfolio. It is important to understand the differences so they can have proper expectations about the potential performance of both types of stocks.
Cyclical stocks tends to follow the ups and downs of the economy. Their performance can be volatile over time.
Cyclical stocks tend to reflect products and services that consumers can and will forgo if the economy hits a rough patch. Many cyclical stocks are issued by companies that sell luxury goods and services. This might be high-end jewelry, expensive resorts or luxury automobiles. These are "nice-to-haves" that may become too pricey when people are concerned about whether they will have a job going forward.
Cyclical stocks tend to have a beta that is close to the market. A beta of 1.00 means that the stock will move roughly in lock-step with the market. A beta of greater than 1.00 means that the stock will move up or down at levels greater than the market. Defensive stocks, in contrast, will be less correlated to the market. Many defensive stocks will have a beta of less than 1.00. They tend to be less susceptible to movements in the stock market and to changes in economic conditions.
There is room in a well-diversified portfolio for both cyclical and defensive stocks. In fact, the proper mix for an investor's individual situation can help them balance out the upside potential of cyclicals with the relative stability of defensive holdings.
Defensive Stocks for 2019 and Beyond
There are a number of top defensive stocks for investors to consider for 2019 and beyond. It should be noted that this list is in no way meant to be a recommendation nor should it be considered investment advice. Any decisions you make regarding whether to invest in these or any other stocks should be made based on your own analysis of your investing situation or in consultation with a qualified financial advisor.
NextEra Energy, Inc. (NEE - Get Report) operates a regulated utility, Florida Power & Light. Their site indicates they are the largest utility company in the world. The stock has gained 42.59% over the 12 months ending Sept. 27, 2019 compared to 27.57% for Morningstar's Utilities-Regulated Electric category of stocks. Over the trailing 10 years, NEE's stock has more than doubled the performance of the category. The current dividend yield is only 2.16%, but the actual dividend payout has increased from $2.90 per share in 2014 to a current annualized $5.00 per share based on the most recent quarterly payout.
Johnson & Johnson (JNJ - Get Report) is a broadly diversified healthcare company. Even though the company lost a recent judgement in an opioid case in Oklahoma, it's expected that the appeals process will take a number of years to play out. In the end, the amount may be reduced and this will not have a material impact on the company's financials. The stock's returns have trailed their Morningstar category in recent years, but the company is recognized as having one of the most diverse revenue streams in the industry. Dividends have increased from $2.95 per share in 2014 to a current annualized rate of $3.80 per share. The current dividend yield is 2.95%.
The Kroger Co. (KR - Get Report) is the largest U.S. grocery chain. Besides selling groceries, some 82% of the location have a pharmacy on site as well. The performance of the company's stock has been lackluster over the past several years, though it has seen a spike over the past three months. Its performance is a bit above that of it's Morningstar category Grocery Stores for the trailing 10 years. The dividend has increased steadily from 34 cents per share in 2014 to 64 cents per share on a current annualized basis for a yield of 2.48%.
These stocks are just three examples of the many defensive stocks that might make sense for investor's portfolios in 2019 and beyond.