Investors Appear to Get Defensive as the Consumer Staples Sector Breakout on Friday

Equity index futures are pointing slightly higher on Monday morning as investors appear to be a little tentative ahead of the Fed meeting later this week. Friday’s Consumer Price Index (CPI) shouldn’t stand in the way of any plans by the Fed to reduce its amount of stimulus. On Tuesday, the Fed will get more inflation information with the Producer Price Index (PPI). Then on Wednesday, the retail sales report will be released in the morning, followed by the FOMC interest rate statement in the afternoon. Investors hope the statement will describe any change to the Fed’s tapering plans.

The Fed isn’t the only central bank meeting this week; announcements are also expected from the Bank or England (BoE), European Central Bank (ECB), and the Bank of Japan (BoJ). The Fed is expected to accelerate the pace of reducing its bond-buying economic stimulus program. The Bank of England is expected to stand pat as it waits to see the impact of the Omicron variant on the United Kingdom’s economy, but the BoE is feeling pressure to raise rates to combat inflation. The ECB is expected to follow the Fed’s lead by reducing its bond-buying programs. The BoJ may stand alone because it’s expected to continue with its low-rate policy.

Stocks added mild gains to a relatively solid week on Friday. Technology and consumer staples were the top-performing sectors of the day. The United States saw inflation grow at a rate of 6.8% from a year ago—the highest rate in nearly 40 years. However, inflation grew at a slower pace than it did in October, which many investors saw as a good sign that inflation may continue to slow after the holiday shopping season.

Some stocks that are moving on Monday morning include Arena Pharmaceuticals ARNA, which is expected to be acquired by Pfizer PFE for $100 per share. Arena rallied 90% in premarket trading and Pfizer was up 1.10%. Peloton PTON rallied 2.7% in premarket trading after the company released an ad in response to the negative publicity from a Sex in the City ad placement where a fictional character died of a heart attack while riding the exercise bike.

Pfizer, along with a few other stocks, was upgraded Monday morning by UBS analysts. Apple AAPL is rising ahead of the market open after receiving an upgrade from JP Morgan’s analysts. Apple could make the record books this month by becoming the first $3 trillion company. JP Morgan also upgraded Coca-Cola KO prompting a 1% rally before the opening bell.

Is Defense the Best Offense?

Last week, I discussed how the Consumer Staples Select Sector Index ($IXR) was trading near resistance and Friday’s rally in the sector created a breakout. You may remember that consumer staples tend to be a place where investors go when they’re concerned about the direction of the market. The break of resistance may suggest that at least some investors are looking at getting a bit defensive.   

Another defensive sector tends to be utilities. Utilities are commonly characterized by their stability and higher dividends. Stability and dividends tend to be the name of the game when getting defensive because they work to preserve investment principal while still providing some return. In fact, many consumer staple stocks tend to have higher dividends as well. 

CHART OF THE DAY: DEFENSIVE DUO. The Consumer Staples Select Sector Index ($IXR—left) recently broke resistance, and its relative strength indicator is starting to rise against the S&P 500. The Utilities Select Sector Index ($IXU—right) is trading below resistance but is also exhibiting increasing relative strength. Data Sources: ICE, S&P Dow Jones Indices. Chart source: The thinkorswim® platform. For illustrative purposes only. Past performance does not guarantee future results.  

Forgotten Strategy: If you’ve been investing for very long, you’ve probably heard about the battle between growth and value strategies. However, there’s another strategy that many people don’t hear about, or at least not until they retire—income. Income investing focuses on building a portfolio that is structured to generate consistent dividend and interest payments as well as preserve capital. In fact, the TD Ameritrade Income Investing course can teach you about building an income portfolio, but right now, I’m going to focus on equities alone.

Identifying income stocks can be similar to identifying value stocks; in fact, some value investors will have a dividend aspect to their search criteria. In addition to valuations, income investors tend to look for stocks with higher-than-average dividend yields, a history of dividend increases, high free-cash-flow, and so forth. What they hope to find are stocks that have dividends, raise their dividends consistently, and have the financial strength to continue these habits.  

Interest in Income: Despite income being a less popular strategy, more than $521 billion in dividends from S&P 500 stocks were paid to investors by Q3 of 2021 per Yardeni Research. That’s nearly three times what was paid 20 years ago. Additionally, instead of paying out dividends or just paying dividends, many companies are opting for share buyback programs as a way to reward investors. By Q2 2021, $795 billion were spent in S&P 500 stock buybacks.

With that said, the Dow Jones U.S. Select Dividend Index ($DJDVP) has risen about 24% year to date, just shy of the S&P 500 (SPX), which was up about 28% for the year. In the last five years, the dividend index has consistently underperformed the S&P 500 except from October 2020 to April 2021 when compared on a thinkorswim® chart. Before then, you must go back to 2008 to find a time when dividend stocks outperformed. This suggests that dividends tend to gain popularity during bear markets.

Income Snobs: However, there are many investors who are devoted dividend investors. A tool that dividend investors often is the S&P 500 Dividend Aristocrats. This is a list of companies that are a part of the S&P 500 and have consistently increased their dividends for the past 25 years. Many companies have streaks longer than 25 years.

Currently, there are 65 companies on the list including 3M MMM, AT&T T, Chevron CVX, McDonald’s MCD, and so forth. If you want smaller companies, there are other lists for small- and mid-cap indices too.

Companies on this list tend to take their status very seriously. In 2020, Exxon XOM was faced with cutting its dividend in response to historically low oil prices. Instead, the company halted contributions to employee retirement plans. Per Reuters, Exxon did restore contributions in 2021 and even increased the amount it was giving employees to make up for the dividend-saving move.

As you can see, dividends are serious business, and it may behoove investors to consider the role dividends might play in their portfolios.

TD Ameritrade® commentary for educational purposes only. Member SIPC.

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