What makes a stock "risky"? And are there ways to reduce your risk when investing in stocks?
Right off the bat, I'd say that buying at a cheap price sounds like a good first step. The cheaper the stock relative to its earnings, the less risk there should be that the stock can get even more cheap (i.e., decline in value).
A couple other things to look for if you hate risk might include: (1) a stable stock price, represented by a low "beta," or low volatility relative to movements up or down in the S&P 500, and (2) a big dividend, to ensure that regardless of whether the stock itself goes up or down, it pays you cash either way.
Lucky for you, these kinds of things are easy to screen for, and after conducting such a screen, I've come up with three names that look like they might appeal to investors who hate risk. Read on, give them a look, and see if you agree.
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ARMOUR Residential REIT
Let's start with the price. ARMOUR Residential REIT (ARR 1.58%) has had a good year, rising 31% from early January to a recent high north of $27 last month. Late last month, however, ARMOUR conducted a large follow-on offering of stock -- 4.5 million shares -- at a significant discount to its then-current stock price. Fear of stock dilution caused the stock to sell off, with the result that ARMOUR shares now sell for less than $25 -- just 3.4 times trailing earnings.
This one-off event notwithstanding, ARMOUR Residential REIT scores well on "beta," with a stock price that's ordinarily much less volatile than the stock market at large. Data from Yahoo! Finance gives the stock a beta of only 0.95, which is 18% less volatile than most stocks.
And ARMOUR's dividend? That's the best news of all. After its most recent announcement of a July monthly dividend of $0.19 per share, ARMOUR stock is currently yielding 9.1%. That's a pretty nice income stream, even if the stock doesn't regain its recent heights, and a good hedge against the risk that it won't.
Annaly Capital Management
Another REIT worth looking at is Annaly Capital Management (NLY 3.26%). Long a favorite of income investors, Annaly boasts an even fatter dividend yield than what ARMOUR pays -- 9.9% -- alongside a beta that's an even less volatile 0.45. In terms of price, Annaly costs a bit more than ARMOUR. But its P/E ratio is still a very cheap 4.5 times earnings.
Why is Annaly stock so cheap? Why is ARMOUR? As mortgage real estate investment trusts, both companies invest in mortgage-backed securities and earn interest based on the interest rates at which mortgages were sold in the past. Both companies stand to become less profitable if interest rates rise over time. And since the Federal Reserve has raised interest rates twice in the past four months, and may continue raising them, that explains why investors may be hesitant to reward Annaly and ARMOUR with higher multiples to earnings.
Still, the fact that their share prices have held up so well despite fears of rising rates suggests investors don't see a whole lot of risk in either of these stocks.
Innophos Holdings
Shifting gears now, we close with a few words about Innophos (IPHS) -- not a mortgage REIT at all, but a maker of specialty chemicals (phosphates in particular) for use in the food and beverages industry, in pharmaceuticals, and in other industries. It's a commodities business, but one that produces good cash flow for Innophos.
Priced at a below-market valuation of 18.5 times earnings, Innophos threw off roughly twice as much cash profit over the past year as it reported as net earnings on its income statement -- $94 million in free cash flow (FCF). Valued on this basis, the stock's $839 million market capitalization works out to a price-to-FCF ratio of only 8.9, which seems cheap given analyst estimates of nearly 8% long-term earnings growth and a dividend yield of 4.5%.
In terms of volatility, the stock sports a beta of just 0.71, which shows that historically, like the other stocks on this list, Innophos is significantly less volatile than your average stock. At a cheap valuation and with a dividend yield two times the market norm, it should continue to hold up strongly in years to come.
