Should You Switch To A Low-Risk Defensive Income Portfolio?

Includes: BWP, DPM, EPD, TCP, WPZ
by: Kurtis Hemmerling

Some say that defensive companies are not worth the tiny capital gains for the large downside risk in down market. Others say that the reliable dividend payouts from utility companies coupled with long-term price stability is a welcome oasis when looking at the trailing dry decade. We will take one defensive strategy and put it to the test and you can be the judge whether it is worth investing in looking forward.

One strategy that I recommend for investors desiring lower risk, who are willing to accept moderate gains, is based on utility companies. The premise is simple:

  • USA based companies
  • Yields over 5%
  • Utility sector only
  • 5 year earnings and dividend growth must be above 0
  • Market timing rules (optional)

Defensive utility companies have some risk-reduction measures built into them already (stable earnings compared to cyclical stocks, higher yields which may give some price resilience following a bear market, and lower valuations compared to growth stocks). Even though these companies may trade with volatility when fear is peaking, there is a strong case for the long-term holding of these stocks provided you are not seeking large capital gains.

How has this strategy fared over the past 10 years? Using bi-annual portfolio re-balancing (without market timing) we can see the historical gain of this system over long periods of time. (Chart compliments of Portfolio123).) Click to enlarge:

The average annual gain in share price alone is 6 percent. Add in a minimum of 5 percent dividend yields and you have 11% compound annual growth (taxes or other fees and deductions are not included in calculations).

If these gains seem acceptable to you as a long-term goal, then by all means use this strategy without the aid of market timing.

The current stocks that meet all our criteria are as follows:







Enterprise Products Partners L.P.


Natural Gas Utilities



TC Pipelines, LP


Natural Gas Utilities



Williams Partners L.P.


Natural Gas Utilities



DCP Midstream Partners, LP


Natural Gas Utilities



Boardwalk Pipeline Partners, LP


Natural Gas Utilities


How might timing the market assist these defensive stocks? Our market timing strategy will take advantage of future earnings estimate trends for the S&P 500 (NYSEARCA:SPY). I have written a lot on this already and you can read about the current market condition here if you so choose. Click to enlarge:

By adding in market timing, our gains popped up significantly while our downside was greatly reduced (maximum downside loss from peak to trough). Our upside gain is now 8.68% (compound annual growth rate) and once you factor in dividends this reaches up to 14%. Also, consider that during the 2 – 3 years which you were not actively invested (due to the market timing rules), you could have placed your cash in the money market, longer term bonds, or other products to boost the gains even higher.

The question is always this: just because a strategy worked in the past, will it work in the future?

My opinion is that it will. Our markets are increasingly volatile with huge looming downsides coming from all angles. At a time such as this is when high-yielding defensive products shine the brightest. They do not typically fall as far as higher valued cyclical stocks, yet they receive a large boost in share price appreciation during the succeeding bull market. During an extended bull market is when you will often see them under-perform with fewer companies able to keep yields above 5%.

As I look at the global economic teeter-totter, I recommend risk-averse investors to use such a strategy such as the one outlined in this article. Well… that is provided the E-CAT device does not start producing dirt-cheap cold fusion energy that puts the electrical companies out of business. Other than that, you should contemplate putting together a well diversified Aggressive Dividend portfolio.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.