Low beta stocks will never let you down

When the going gets tough, the tough get going...

The old adage appears more than inspiring, given the current situation in the stock market. By any measure, times are really tough for equity investors. After the free fall last Tuesday, the benchmark indices lost within a week what it took them three months to gain. Most of the stocks saw their fabulous returns wane, perhaps much faster than the popularity of Britney Spears!

While investors are jittery over the one week mayhem in the market, ETIG believes that it's time the tough guys took centre stage.

By tough, we mean the stocks that tend to render a rock-solid behaviour in a volatile market. These are the stocks that traditionally have lower beta. Beta indicates the sensitivity of a stock's returns to the changes in the benchmark index.

For instance, a beta-one stock will change by the same percentage as the change in the benchmark. A beta lower than one, indicates a lower sensitivity to the benchmark. Thus, a stock with a beta of 0.6 will fall by 6% if the index falls 10%. However, this also means that low-beta stocks are laggards during a bull run, as they are less sensitive to market movements. So, low-beta scrips lose their charm during a bull stampede. But they provide the much-needed solace during times of sharp declines.

This week, ETIG brings you select low-beta stocks to take on the tough times. While we selected stocks with a beta of less than 0.7, there were other metrics which the chosen companies had to match. Within the universe of low-beta stocks, we picked up those companies whose dividend payouts had a compounded annual growth rate (CAGR) of 20% in the past five years.

Another requirement was that their earnings per share (EPS) should have increased at a compounded rate of 15% during the same period. Also, preference was given to those companies which had a dividend yield (a ratio of annual dividend payment per share and current market price) of over 3%. However, the last condition was relaxed for those companies which have shown a high growth in dividend payout.

In troubled times, we believe that the stocks which match the above criteria offer opportunities for productive investment. Not only do these stocks fetch you annual dividend cheques which keep growing year-on-year (yo-y), they also ensure that your initial investment keeps appreciating in line with the company's earnings growth. And, of course, the best part is that the dividend income remains tax-free in the hands of shareholders.

Globally, companies in the consumer goods sector, especially those manufacturing FMCG and pharma products, are considered to be non-cyclical and are thus, low-beta in nature.

This is because such companies tend to grow steadily and gradually over time. In contrast, companies in the investment-led demand sector, such as commodities and capital goods, tend to grow very fast in boom times and show an equally rapid decline in their earnings during an economic slowdown. Since India is no exception to this rule, five out of eight companies in our list belong to these two sectors.

Topping the charts is GlaxoSmithKline Pharma (GSK Pharma), one of the leading pharmaceutical manufacturers in India. It has a strikingly high dividend yield of 3.5% and a low beta of 0.63. This makes it a perfect defensive stock.

In the past five years, its dividend payout has grown at a compounded rate of 50%, while earnings have posted a CAGR of 65%. Going forward, if its dividend grows even at 30% y-o-y, an initial investment of Rs 1 lakh in the stock will fetch an investor cumulative dividends of nearly Rs 2 lakh over the next 10 years (see adjacent table). Moreover, the investment will continue to appreciate as the company grows.

At a beta of 0.68, Aventis Pharma is another defensive stock in the pharma sector. The company has an attractive dividend yield of 3.3, along with a five-year dividend payout growth of 41% y-o-y. Its earnings have grown at a compounded rate of 20% over the past five years.

Godrej Consumer Products is another star performer in this segment and has an attractive dividend yield of 3.3%. A low beta of 0.6 makes it a safe bet in times of market turbulence and if the company is able to maintain its historical dividend growth, it will reward the investor with a dividend income of over Rs 1 lakh in the next 10 years. ITC, the largest FMCG company in the country in terms of revenue and market capitalisation (m-cap) is another stock worth investing. In the past five years, ITC's earnings have seen a CAGR of 18%, while its dividend payout has grown at 30% y-o-y.

The faster growth in dividend more than compensates for a relatively lower dividend yield of 1.6% at its current price. Similarly, Nestle India, one of the biggest multinational FMCG companies in India, has a dividend yield of 1.8%. Its dividend has shown a CAGR of 12.7% in the past five years and there's no reason to believe why it can't maintain a similar growth rate in the future as well.