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Stock Screen: Stocks with Low Risk - July 2, 2012
Investors can usually find stocks with low risk or stocks with strong expected relative price performance fairly easily. The challenge comes when you want to combine these two features, as the presence of one attribute often means that a stock lags in the other. In this screen, however, we seek to combine the best of both worlds, and search for issues that meet both of these criteria. To generate our list, we first required that all stocks be ranked 2 (Above Average), or higher, for Safety and 3 (Average), or better for Timeliness (i.e. relative price performance in the year ahead), two of Value Line’s many proprietary ranks. Then, to further reduce the relative collective risk that is usually associated with stocks that offer high returns, we limited our cut to equities with a Price Stability Index (another one of Value Line’s proprietary measures) in the upper 10% of our universe (the Index runs from 5 to 100, with 100 being the top score). Finally, we required that each stock pay a meaningful dividend, with a floor set at a yield of 2.1%.
Not surprisingly, equities arising from this screen are largely considered defensive in nature, and our list is dominated by established and conservatively run companies, including Diageo PLC ADR (DEO) and Unilever PLC (UL).
Diageo PLC ADR
Headquartered in London England, Diageo is one of the world’s largest alcoholic beverage producers and distributors. The company’s operations include distilling, brewing, packaging, and marketing its extensive portfolio. The following 14 brands comprised 66% of fiscal 2011 sales and received 78% of the marketing budget, Whiskey: Johnnie Walker (the largest brand by revenue), Crown Royal, J&B, Buchanan's, Windsor, Bushmills; Vodka: Smirnoff, Kettle One, Ciroc; Rum: Captain Morgan; Liquer: Baileys; Tequilla: Jose Cuervo; Gin: Tanqueray; Beer: Guinness. Diageo organizes its business through four regions: North America, Europe, International, and Asia Pacific. North America accounts for the largest proportion of Diageo's net sales and operating profit. The International region is made up of three business units: Latin America and the Caribbean (including Mexico), Africa, and Global Travel and Middle East (GTME). In 2011, roughly two-thirds of net sales were derived from developed markets and one-third from emerging ones, expanding from a five-to-one split in 2005.
Greater volumes of premium and super premium brands (41% of sales growth) are driving decent results in North America. In emerging markets, favorable volume and pricing action for Diageo’s scotch, vodka, and beer brands (especially Johnnie Walker) are pushing companywide organic operating profit up in the high-single digit range. Latin America saw growth of 18% in the March quarter, and this rate likely improved further following the reversal of an unfavorable shipping pattern in the June quarter. In Asia, growth came in at 10% as the company’s focus on scotch, super deluxe categories, and product innovation appears to be paying off. We look for the premiumization trend to continue on both developed and emerging markets, assuming global economic conditions do not deteriorate further.
In general, the sheer size of Diageo’s portfolio, effective marketing and resulting brand awareness, as well as the rescission-resilient nature of its products gives it some security and limits risk. Indeed, the company scores favorable marks for Stock Price Stability and a Safety. An above-average dividend yield of 2.9% adds additional appeal.
Unilever PLC is one of the world’s largest producers of consumable products. The company is mainly responsible for the distribution of its goods, but sometimes depends on third-party distributors. It sells in over 100 countries worldwide through around 400 operating companies. Unilever’s product portfolio includes those in the personal-care category such as Axe, St. Ives, Dove, and Pond’s. In addition, it sells food items such as Blue Band, Knorr, Bertolli, and Slim Fast. In 2011, the company spent 2.2% of sales on research and development projects.
Unilever has faced a challenging operating landscape of late. Inflationary pressures coupled with the weakening of the euro led to a less-than-stellar performance last year. We anticipate that this trend will continue for the remainder of 2012, especially since the tapering off of demand in emerging markets is being reported. However, we expect economic conditions to improve next year and inflation to be kept at bay.
Furthermore, we anticipate that growth from emerging markets will eventually resume making meaningful contributions to Unilever’s top and bottom lines. Also, we expect a firmer footing in traditional geographic footholds, which will likely be aided by the company’s diverse product portfolio. For these reasons, we estimate that the bottom line will advance in the 5% to 10% vicinity over the next five years.
All told, this ADR carries our Highest rank for Safety (1) and has high scores for stock price stability and earnings predictability. The solid product portfolio along with Unilever’s far geographic reach ought to provide a stable performance ahead. Income-oriented investors should also be intrigued by these conservative shares given the above-average dividend yield.
At the time of this article's writing, the author did not have positions in any of the companies mentioned.