I vividly remember a book series from my childhood called “value tales.” Each book chronicled someone famous and a trait that personified their success.
Now, years later, I’m reading those same books with my kids. We just read “The Value of Humor,” which profiles the life of Will Rogers. Rogers’ prime years were during the Great Depression, a time during which he lent his humorous take on society as a writer, radio personality and comedian, bringing light to an otherwise dark period in U.S. history.
After explaining the meaning of the Great Depression to my oldest son, he said, “I hope that doesn’t happen to us.”
With the Great Recession only seven years behind us, I think that eternal seeds of worry have been planted in the back of most investors’ minds. After a bumpy 2015, we have had a record-setting rough start to 2016; and those seeds of worry that were planted years ago are starting to sprout.
With oil near $30 a barrel threatening U.S. jobs in the energy patch, China slowing down, tensions rising across the Middle East, North Korea testing H-bombs, and American politics in the throes of a heated race for the White House, I’m often asked how I can stay calm through all of these unsettling times.
For me, the answer is that I know I own quality stocks and bonds that both produce income. It’s that simple. But what does quality really mean? Here are three things that help me identify quality:
1. A diversified income stream. Meaning that the company isn’t a “one trick pony” and ideally has multiple lines of business selling into many different industries.
2. They haven’t borrowed too much. A Wall Street analyst would refer to this as having relatively low and serviceable net debt. This simply means they have no problem paying their bills and haven’t overextended themselves with debt.
3. They consistently make a profit. There are several metrics that measure profitability, namely net income and free cash flow.
It doesn’t take a Great Recession for a company to fall off the tracks — think about Blockbuster. It was a one-trick pony (movie rentals) that had borrowed too much money. In late 2004, its total market value was around $1 billion, while its debt level was a whopping $1.3 billion. By 2010, the stock had essentially fallen to zero; and today nearly all 9,000 Blockbuster stores are gone.
If Blockbuster has an antithesis, it’s Procter and Gamble. P&G is deeply entrenched in the global economy and generates almost $84 billion in revenue from about 80 core brands including Bounty, Charmin, Crest, Dawn and Gillette. They generate 20 times the cash flow required to service their debts and also pay a nearly 3.4 percent annual dividend. These qualities don’t mean P&G’s stock price doesn’t fluctuate, but I do sleep better at night knowing these facts about their business.
P&G is just one example of a company that checks all three of my quality boxes. I’m not saying it’s a stock you have to own or even want to own, but using these basic criteria as a guide helps give me the resolve to feel comfortable about what I own regardless of how the stock market is doing.
I’m sure Will Rogers would have found some humor in what’s happened so far in 2016, but he’s also the same guy who said, “Everything is funny, as long as it is happening to somebody else.”