The 12 Safest Dividend Aristocrats To Buy During This Recession

Summary

• My goal is to always provide you with the best evidence based long-term strategies for achieving their your financial goals. The latest economic news surrounding the COVID-19 pandemic is grim.
• The global recession we're facing will be severe, and we don't know how long it will last. Government stimulus efforts, rapidly approaching wartime proportions, are designed to minimize the damage.
• At times like these, it's more important than ever to trust your savings to a well diversified and properly risk-managed portfolio.
• GD, CAT, MDT, ADP, PEP, SYK, CL, KMB, JNJ, ITW, APD, and RHHBY are the safest and highest quality dividend aristocrats & champions to ride out this recession.
• Combined with the right allocation of cash & bonds, you can sleep well at night no matter how bad the economic news gets in the coming weeks and months.
• Looking for a helping hand in the market? Members of The Dividend Kings get exclusive ideas and guidance to navigate any climate. Get started today »

(Source: Imgflip)

This Looks Like It Will Be A Historic Recession...

Economists and analysts are updating their economic forecasts with the first hard data from the effects of the global fight against the coronavirus.

To say that the numbers are grim would be an understatement.

UBS estimates a 10% decline in Q2 US GDP.

Bank of America estimates a 12% Q2 contraction, worse than the 1958 single-quarter record of -10%.

Deutsche Bank exected -12.9% GDP growth in Q2 and -10% growth for the entire world.

JPMorgan expects -14% GDP growth and unemployment to rise to 6.3% by mid-year and falling to 5.3% by the end of the year, due to the pandemic passing and unprecedented fiscal and monetary stimulus.

Perhaps most frightening of all is Goldman Sach's revised economic forecast, which estimates -24% GDP growth. That's similar to Moody's estimate of about -21%, should the current status quo continue for a full quarter.

Goldman's forecast, which is the most severe thus far released, estimates it will take several years for the economy to recover.

The firm expects that after April that drag on the economy will gradually fade by about 10% per month... The firm expects the unemployment rate to increase to 9% from 3.5% over the next couple of quarters." - Business Insider

But as grim as these forecasts are, there are reasons for long-term optimism.

Look at how China, the first nation to lock down in order to stop this virus, is expected to recover rapidly. After a 26% GDP slam in Q1, Deutsche Bank's economists expect a 34% GDP surge in Q2.

Still, while a recession is inevitable and will be painful, the US economy should be able to rebound in the second half of 2020, according to the note. UBS said it thinks the social distancing directive that began in March will likely cease by July, at which point a modest recovery will begin - the firm is forecasting growth over 2%.

By the end of the year, growth should bounce back to about 7% as businesses return to stable footing, according to UBS." -Business Insider (emphasis added)

These same economists expect the crisis to largely have passed by July and Q4 growth to be a rather impressive 7%.

That's courtesy of $1.7 trillion in global stimulus that has already been announced, and that likely will end up being far more. The Fed has pledged at least $5.7 trillion in support, across every tool it has, to keep credit markets liquid and avert another financial crisis.

Are we headed for another Great Depression? Nobel laureate Robert Shiller doesn't think so and neither do I, based on the best available data we have right now.

What about concerns that the virus will become endemic and never stop circulating among humans? That it could keep coming back and result in a permanent global depression?

(Source: CNBC)

Vaccines take 12 to 18 months to develop because, as Dr. Mike Ryan, executive director of WHO’s emergencies program explains “We have to be very, very, very careful in developing any product that we’re going to inject into potentially most of the world’s population.”

The race for a vaccine is not about stopping the current pandemic, it's about having a way of preventing this from happening again.

The flu is endemic and comes back each year. About 650,000 people die each year, and billions are infected (most never develop symptoms). Yet the reason this pandemic is so frightening is precisely that it's the first one that has brought the global economy to a screeching halt.

Once we have an effective vaccine, the probability of another such black swan will be relatively remote, though I'm sure that future viral outbreaks will create plenty of market fear and volatility.

Just as the Financial Crisis resulted in the long-term scaring of most investors, so too will the ghosts of this pandemic haunt the nightmares of many people on Wall Street for years to come.

I believe in only being as concerned as the facts say is prudent, and never panicking. A properly designed portfolio can withstand even black swan events like this.

I want to reiterate that we, as a nation, and a planet, are all this his together.

• The Power of the Human Spirit

At times like these, it's more important than ever to come together, and realize that this is World War 3 against the COVID-19 Virus, and we must all think, act and come together in a wartime mentality.

The reaction of a London worker at the time paints the picture for you:

In the midst of the Blitz, a middle-aged laborer in a button-factory was asked if he wanted to be evacuated to the countryside. He had been bombed out of his house twice. But each time he and his wife had been fine. He refused. “What, and miss all this?” he exclaimed. “Not for all the gold in China! There’s never been nothing like it! Never! And never will be again.”

I have faith that the human spirit will get us through this. We have survived worse than this.

MacCurdy notes:

We are also prone to be afraid of being afraid, and the conquering of fear produces exhilaration.…

I have confidence in the power of the human spirit to help us get through this and come out stronger on the other side of this." - Ben Carlson, Ritholtz Wealth Management (emphasis original)

• We are not going to participate in this recession

Bank of America Merrill Lynch anticipates something like 3.5 million American jobs lost by the end of the 2nd quarter and a doubling of the unemployment rate. We have no control over that. We only have control over our response to it." - Joshua Brown, CEO Ritholtz Wealth Management

I consider Mr. Brown's rally cry to his firm's clients and employees to be precisely the right mindset we all need to take right now. It's the exact mindset that I and all the Dividend Kings have right now, an "all hands on deck, wartime footing."

We can help people and people need help. We're not going to sit back, we're not going to relent, we're not going to stop. Work at home conditions, shelter in place conditions are not going to stop us from delivering the help that people are asking for and need." - Michael Batnick, Ritholtz Wealth Management (emphasis added)

(Source: Imgflip)

So let's take a moment to come together and appreciate all the unsung heroes of this pandemic, who are essential to our country's functioning and who are being impacted the most.

Are there causes for concern right now? You bet. Specifically, rapidly rising financial stress in global credit markets.

(Source: Ycharts)

During normal recessions, the St. Louis Financial Stress Index (0=average stress since 1993) generally hovers around 1.

The BBB-risk premium (the spread between BBB bond yields and 10-Year US Treasuries) is between 3% and 4% during normal recessions.

(Source: Ycharts)

Corporate borrowing costs are rising rapidly, with junk bond rated companies finding themselves in a liquidity crunch.

But note how A-rated bond yields, while also rising, are much lower and rising less quickly.

In a crisis, bond investors only want to lend to those who need it least, the strongest companies in the world. Such is the nature of severe recessions.

I'm monitoring the credit markets closely and have a plan for updating the Dividend Kings' Master List to account for this rising credit risk.

I have a plan, for which I've included a new column into the Master List, as well as a list of "Fallen Angels". Those are companies whose dividends have become unsafe, or have been cut, but whose long-term thesis is still intact, once the crisis is over. Fallen Angels are a "hold" unless fundamentals deteriorate to the point that bankruptcy risk is high enough to warrant a sell.

As economic, credit market and company fundamentals change, I'll be updating the Master List and all specialty lists each week, to ensure our members have the best possible data with which to navigate this unprecedented crisis.

But this brings me to the topic of this article, which is managing your portfolio during a period of crashing economic and corporate fundamentals.

...So Dividend Safety Is Paramount For Income Investors

Due to the unprecedented nature of this recession, which has the potential to be relatively short but also extremely severe, I want to focus this month's best aristocrats screening article on safety through important quality metrics.

First, let's see how all the aristocrats/champions look in total.

Fundamental Stats On 107 Dividend Aristocrats & Champions

• average quality: 9.5/11 blue chip quality vs 7.0 average S&P 500 company & 9.7 official aristocrats
• average dividend safety: 4.7/5 very safe vs 3.0 S&P 500 average & 4.7 official aristocrats
• average yield: 3.7% vs. 2.4% S&P 500 and 2.6% NOBL
• average valuation: 17% undervalued vs 20% official aristocrats and 15% S&P 500
• average dividend growth streak: 40.5 years, almost Dividend Kings
• average 5-year dividend growth rate: 7.9% CAGR
• average analyst long-term growth consensus: 7.9% CAGR vs. 6.3% S&P since 2000
• average forward P/E ratio: 15.4 vs 13.9 S&P 500
• average PEG ratio: 1.95 vs 1.64 S&P 500
• average return on capital: 96% = 83rd industry percentile (very high-quality by Greenblatt's definition)
• average 13-year median ROC: 9 % ( stable moats/quality)
• average 5-year ROC trend: +3% CAGR (improving moats/quality)
• average credit rating: A- (strong balance sheets, very high-quality)
• average annual volatility: 23.3% vs. 15% S&P 500, 26% Master List Average, 22% average official aristocrat
• average market cap: $38 billion, large cap
• average 5-year total return potential: 3.7% yield + 7.9% growth +3.7% CAGR valuation boost = 15.3% CAGR (11% to 20% CAGR with 25% margin of error)

If you were to buy all of the aristocrats and champions you'd probably do very well over the long-term.

BUT in today's historical economic times, with credit markets tightening and economists forecasting potentially the worst recession since WWII, let's dial up the quality to 11.

1. eliminate any company without an A credit rating or better (not even A-): 31 companies remain
2. eliminate anything less than 9/11 blue chip quality: 20 companies remain
3. eliminate anything with less than 5/5 dividend safety: 15 companies remain
4. eliminate any overvalued companies (no sense in taking on valuation risk on top of normal volatility risk): 12 companies remain

What are the average quality metrics for these 12 remaining aristocrats?

Fundamental Quality/Safety Metrics On Remaining 12 Dividend Aristocrats & Champions

• average quality: 10.8/11 SWAN stock
• average dividend safety: 5/5 very safe
• average valuation: 15% undervalued
• average dividend growth streak: 40.6 years
• average return on capital: 77% = 91st industry percentile (exceptionally high-quality by Greenblatt's definition)
• average 13-year median ROC: 77% (stable moat/quality)
• average 5-year ROC trend: +7% CAGR (stable moat/quality)
• average credit rating: A+ (very strong balance sheets, very high quality)
• average market cap: $108 billion mega-cap (vast financial resources)
• average annual volatility: 20% vs 23% all aristocrats

These 12 companies are the best dividend aristocrats for a deep recession. That's not just my assessment but based on the works of Graham, Greenblatt and S&P.

Companies that achieve a high return on capital are likely to have a special advantage of some kind. That special advantage keeps competitors from destroying the ability to earn above-average profits." - Joel Greenblatt

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These 12 companies are higher quality than 91% of their industry peers, meaning they represent wide moat tightens most likely to survive even a severe recession like this one.

Over the past 30 years, less than 3% of A+ rated companies have defaulted on their bonds. (Source: S&P)

Fears of debt defaults could make things very tough for lower credit quality companies if this contraction lasts longer than the one or two quarters currently expected by most economists.

What's more, during this bear market credit quality has been closely correlated with stock returns.

(Source: Ploutos)

These 12 companies have long-term average volatility of 19%, which is 10% and 13% less than official aristocrats and all champions, respectively.

What about sector diversification, which is an important component of prudent risk management?

These 12 companies represent six sectors

• 4 healthcare (recession-resistant sector)
• 3 consumer staples (recession-resistant sector)
• 1 technology
• 3 industrials
• 1 basic material
• 7/12 defensive sectors least likely to be impacted by the recession

While buying all 12 in equal amounts would be a bit healthcare heavy, I'll show in a minute how you can create a balanced and properly risk managed sleep well at night, or SWAN portfolio with these 12 companies.

What are these companies that conservative income investors can trust with their long-term discretionary savings (money you won't need for 3-5 years at least) during this recession?

Here they are sorted by most to least undervalued.

(Source: Dividend Kings Valuation Tool) green = potentially good buy or better, blue = reasonable buy

• dividend aristocrat General Dynamics (GD) - buy in stages
• dividend aristocrat Caterpillar (CAT)- buy in stages
• dividend aristocrat Medtronic (MDT)
• dividend aristocrat Automatic Data Processing (ADP)- buy in stages
• dividend king Pepsi (PEP)
• dividend champion Stryker (SYK)
• dividend king Colgate-Palmolive (CL)
• dividend aristocrat Kimberly-Clark (KMB)
• dividend king Johnson & Johnson (JNJ)
• dividend aristocrat Illinois Tool Works (ITW) - buy in stages
• dividend aristocrat Air Products & Chemicals (APD) - buy in stages
• dividend champion Roche (OTCQX:RHHBY)

Notice how I have "buy in stages" on the cyclical and economically sensitive companies. By no means am I saying the CAT, GD, ADP, or ITW are at their bottoms.

Neither necessarily are the seven defensive stocks.

(Source: Ycharts)

In any given downturn anything can happen. CAT has slightly outperformed the broader market and most aristocrats. JNJ has been the most defensive, but even Pepsi has fallen 23%.

ADP, understandably, has been hard hit, because of the massive wave of layoffs that are coming.

I never advocate any form of market timing, such as attempting to go "all in" at some estimated market bottom. Rather I advocate buying in stages, such as the Motley Fool's rule of thirds.

• buy 1/3rd of your position today
• buy another 1/3rd if stocks fall some predetermined amount (plans only have to be reasonable not perfect)
• buy a final third if stocks fall some more

(Source: Imgflip)

But first, let me show you exactly why these 12 dividend aristocrats represent such potentially attractive long-term buys. We've already seen their quality/safety metrics, but here are the rest of their stats.

Remaining Fundamental Stats On These 12 Dividend Aristocrats & Champions

• average yield: 3.0% vs. 2.4% S&P 500 and 2.6% NOBL
• average 5-year dividend growth rate: 8.5% CAGR
• average analyst long-term growth consensus: 7.7% CAGR vs. 6.3% S&P since 2000
• average forward P/E ratio: 15.8 vs 13.9 S&P 500
• average PEG ratio: 2.05 vs 1.64 S&P 500
• average 5-year total return potential: 3.0% yield + 7.7% growth +3.7% CAGR valuation boost = 14.4% CAGR (10% to 18% CAGR with 25% margin of error)

The broader market has long-term consensus return potential of about 13% CAGR.

(Source: F.A.S.T Graphs, FactSet Research)

These 12 dividend aristocrats are unquestionably higher quality than the broader market, as shown by objective fundamental metrics. Yet they also have slightly superior long-term return potential.

That's not surprising given that they combine value, low volatility, dividend growth and quality, four of the seven alpha factors.

12 Best Aristocrats Since 2004 - Annual Rebalancing

(Source: Portfolio Visualizer)

These companies have managed to outperform the S&P 500 by 2.5% per year since 2004 while doing so with 1% less annual volatility resulting in a reward/risk ratio that was 44% better than an index fund.

But I know what you're probably thinking. "Are you crazy! Stocks are going to fall off a cliff, it's pure insanity to buy any stocks at all right now!".

12 Best Aristocrats Peak Declines Since 2004

(Source: Portfolio Visualizer)

It's certainly true that an all-stock portfolio can, and will fall significantly in a recessionary bear market.

But this is where proper asset allocation and risk-management comes into play.

How To Safely Buy These 12 Aristocrats In A Balanced Portfolio

NO DIVIDEND STOCK IS A BOND ALTERNATIVE. The fact is that if the market falls lower, these 12 companies, while likely to maintain and grow their dividends (at a slower rate naturally), are likely to fall lower.

Let me show you what I mean by a diversified and prudently risk-managed portfolio. Given the current credit conditions, and the potential for asset correlation to approach 1, let's be very conservative and use the following asset allocation

• 25% SPDR Bloomberg Barclays 1-3 Month T-Bill ETF (BIL): cash equivalent
• 25% SPDR Portfolio Long Term Treasury ETF (SPTL): long bonds Fed will be buying in QE which serve as a good recession hedge
• 50% equally weighted into these 12 aristocrats

The purpose the 25% cash allocation is to provide you several years worth of living expenses, to ride out this bear market.

(Source: Guggenheim Partners, Ned Davis Research)

The average bear market lasts about three years, measured from peak to peak. The recovery period averages 15 months.

Cash is what you can spend to fund expenses during such times. What if this turns into a 40+% crash, which can take almost six years for stocks to recover from? That's where the 25% long-bond allocation comes in.

First, you spend down your cash, then you sell bonds. Never should you need to sell quality stocks bought at reasonable or attractive valuations?

Bonds can provide dry powder to rebalance into the stock market or pay for current expenses when the stock market inevitably goes through a nasty downturn. " - Ben Carlson, Ritholtz Wealth Management, (Emphasis added)

As the saying goes, "stocks let us eat well. Bonds let us sleep well".

12 Best Aristocrats Balanced Portfolio-Annual Rebalancing

(Source: Portfolio Visualizer)

• S&P 500 volatility since 2008: 15.1%
• 60/40 stock/bond balanced portfolio volatility: 9.4%
• This balanced portfolio: 7.1%

Now 50 stocks/50 cash& bonds is a VERY conservative allocation. The reason I'm using it is that the goal is to deploy the excess cash/bonds into these stocks should they fall lower.

However, as you can see, even if you had bought this balanced portfolio near the market peak before the Great Recession, you would have enjoyed nearly 50% lower peak declines, just -17% compared to -31% for a standard balanced portfolio.

Yet thanks to the market-beating power of these aristocrats, you'd have still outperformed a 60/40 portfolio, by nearly 1% annually. But with 2.2% annual lower volatility and thus a reward/risk ratio (excess total returns/negative volatility = Sortino Ratio) that was 51% better.

(Source: Portfolio Visualizer)

Not only did this conservative balanced portfolio fall significantly less during precisely the kind of market crash so many now fear is coming, it was a very low volatility asset choice during normal economic times, never falling so much as 5%.

Talk about sleeping well at night!

These 12 Dividend aristocrats, Combined With A Prudent Selection Of Bonds/Cash Equivalents Can Help You Sleep Well During This Recession And Come Out Far Richer When It's Over

Obviously past performance doesn't guarantee future results. All it can tell us is what usually happens in periods of similar fundamentals. This recession will likely be unprecedented, thus the cause for so much investor angst right now.

While there are no 100% certainties on Wall Street, the best any of us can do is make high probability/low-risk decisions with our hard-earned savings.

I don't know about you, but when it comes to five-year investing probabilities, I'd call an 87.5% chance of making money pretty great. It's about as close to certainty as you find on Wall Street.

In fact, the probability of making money in the long-term is likely far higher, from these starting valuations.

The Bigger The Decline The Higher The Future Returns

(Source: Michael Batnick)

With the market down about 32% from its peak, the average 12 month returns data from 1945 indicates we might be up about 14% a year from now.

Or we might be a lot higher, given the average 12 month forward returns for periods when volatility was 40+ since 1990.

We simply don't know how this recession will unfold, when it will end, and how long the effects on economic growth and corporate profits will last.

And with the VIX currently at 75, now seems like a better time to buy stocks than almost any other. As Baron Rothschild once said:

"The time to buy is when there’s blood in the streets."

If you have cash to buy stocks now and you won’t buy, when will you? What’s your plan?

If you are afraid of losing money, then why are you even considering stocks at all?"- Nick Maggiulli (emphasis original)

But as Nick Maggiulli, a data scientist for Ritholtz Wealth Managment points out, the odds are so in your favor right now, that it is reasonable and prudent to start buying top quality companies right now.

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Our nation, and the world, will get past COVID-19. It may be a quarter from hell, or perhaps even a few quarters. But America has survived tragedies in the past, including the 1918 Spanish flu, which occurred during WWI and is estimated to have killed between 17 million and 100 people globally.

While the next few months are going to suck for most people, focus on what matters.

• your health
• family
• friends
• pets

Financially focus on riding out this economic storm in a SWAN portfolio that has the best probability of generating safe and growing income, as well as compounding your wealth over time.

The reason for these articles is to provide you with frequent and fact-based updates about this pandemic and our current recession, but also to bring hope to those that might be running out of it.

(Source: quote fancy)

So allow me to leave you with the words of Joshua Brown, CEO of Ritholtz Wealth Management, and who has decades of experience in asset management.

I'm proud to stand side by side with Mr. Brown, in calling for unity, determination and a relentless resolve to not participate in this recession, or the panic that it could understandably induce is so many people.

The economic news about the US economy was not getting better at the end of the financial crisis. But stocks stopped going down every time that bad news hit. It took a lot of pain to get to that point, but eventually, bad news fatigue had set in. This happened with regard to potential terror threats in the wake of 2001. It happened during the Asian currency crisis of 1998. It happened during the Latin American defaults of the same era. It happened during the Ebola scare of 2014. It will happen now.

We are not going to have a 75 Vix for six straight months.

If we know one thing for sure, it is this." - Joshua Brown, emphasis added

Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.

Disclosure: I am/we are long GD, CAT, ITW, JNJ. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.