- A fundamental characteristic of defensive stocks is that they remain mostly unaffected during market volatility.
- Defensive stocks are often considered as lower-risk investments and belong to the industries that are engaged in the manufacturing of products that will continue to be in demand regardless of the economic conditions.
- In times of uncertainty, defensive stocks are sought after as they limit the potential losses investors are likely to face during such scenarios.
- Companies employed in the manufacturing or supply of consumer goods, healthcare and utilities fall in the category of defensive stocks.
Defensive stocks are those who provide constant returns in the form of dividends irrespective of the share market instabilities. Defensive stocks belong to the industries that are engaged in the manufacturing of products that will be in demand whatever the economic conditions, e.g. healthcare, FMCG, personal care, utilities etc.
The fundamental characteristic of defensive stocks is that they remain broadly unaffected during extreme market movements. Investors are always interested in adding some defensive stocks to their portfolio to protect their investment at times of high market volatility.
Even large companies with strong and steady cash flows and a fixed dividend rate for many years can be counted as defensive stocks. Generally, companies having dividend yields more than 6-7% are good examples of defensive stocks. These companies can absorb market fluctuations risks and remain unaltered to market change. This is the reason why defensive stocks are often considered as “lower-risk” investments.
Industries Covered by Defensive Stocks
Defensive stocks are also called non-cyclical stocks as they are not affected by the market movements. Let us look at a few sectors that fall under the defensive sector category and look at a stock each from these industries.
Stocks of healthcare companies form a part of defensive stocks as the healthcare products and services will always be needed by individuals irrespective of how the economy is performing. The sector can be broadly categorised as follows:
- Pharmaceutical Companies: These companies are also known as big pharma companies, which are engaged in the production of over-the-counter (OTC) drugs and medicines. Pharmaceutical companies also invest actively in the R&D of healthcare
- Biotech Companies: Biotechnology companies offer the same healthcare products as pharmaceuticals, but the difference is that medicines of biotech companies are derived from living organisms, whereas pharmaceuticals develop their drug from chemicals.
- Medical Device Manufacturers: Companies which are engaged in the manufacturing of equipment for healthcare and pharmaceutical services from surgical equipment to uniforms are also considered as defensive players.
Fisher & Paykel Healthcare Limited (NZX:FPH)
Dual-listed, on NZX and ASX, manufacturer of breathing equipment Fisher & Paykel Healthcare Corporation Limited is a leader in designing as well as the marketing of respiratory care products. Mainly, FPH operates into Hospital group & Homecare product group.
On 29 June 2020, the Company revealed its results for the fiscal year 2020 ended 31 March 2020.
- In the financial year 2020, Fisher & Paykel recorded a net profit after tax (NPAT) of ~NZ$287.3 million increased by 37% as compared to the previous corresponding period.
- The operating revenue stood at NZ$1.26 billion, an impressive growth of 18% compared to pcp.
Fisher & Paykel disclosed that the growth in revenue is primarily directed by increased use of nasal high flow therapy OptiflowTM, increased necessity for products to treat COVID-19 patients, and strong hospital hardware sales during the year.
On 10 August 2020, FPH stock last quoted at NZ$35.560, up by 0.42%, with a market capitalisation of nearly ~NZ$20.44 billion.
Companies employed in the manufacturing or supply of consumer goods also fall in the category of defensive stocks. As consumer goods comprise of products for day-to-day use like certain household items, food, beverages, hygiene products, tobacco and more. These items generate positive cash flow during economic conditions.
So, investors prefer adding consumer stocks in their portfolio to ride through weak economic conditions with minimal impact. Due to the consistent demand of these products, consumer staples shares tend to remain steady during various phases of business cycles.
The a2 Milk Company (NZX:ATM)
Continued impressive business performance was witnessed for a2 Milk Company (NZX:ATM) as both domestic and overseas demand were on the rise. The Company recorded robust revenue performance in all regions, especially concerning its infant milk formula sales across Australia and China.
Despite the uncertainty due to COVID-19, The a2 Milk Company has been moving progressively on the back of strong sales growth. The Company has raised its full-year EBITDA, from that advised in February, to 31-32%.
The second half EBITDA margin in FY20 is projected to be higher than it was previously anticipated primarily due to higher revenue, and hence gross margin. The Company expects revenue for FY20 to be in the range NZ$1,700-NZ$1,750 million.
On 10 August 2020, ATM stock last quoted at NZ$20.730, up by 1.02%, with a market capitalisation of nearly ~NZ$15.34 billion.
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Utilities and Services
Utilities include water, gas, and electricity and these are the basic requirements of livelihood. Whether in good or bad times, individuals still consume water, gas, and electricity. Thus, the demand for utilities remains the same during all phases of the economy, and are least affected by the market volatility.
Contact Energy Limited (NZX:CEN)
New Zealand’s second-largest energy player Contact Energy Limited remained resilient through the COVID-19 pandemic. The Company has over 500,000 customer connections across electricity, gas, and broadband.
CEN mentioned that decarbonisation-driven demand momentum with a long-term 13MW renewable contract signed and demand management platform customer base increasing promptly.
Contact Energy navigated threats concerning to constrained natural gas supply through a decline in sales of fixed-priced electricity and prudent management of gas and hydro storage.
Despite the robust operational performance and underlying efficiency improvements, Contact Energy’s EBITDAF in the Customer business fell NZ$17 million YoY to NZ$50 million.
On 10 August 2020, CEN stock last quoted at NZ$6.220, up by 1.97%, with a market capitalisation of nearly ~NZ$4.47 billion. The gross dividend yield of CEN was 7.987% as mentioned on NZX.
Investors want to protect their investments when there is an economic crunch or during market volatility. During such unprecedented times, defensive stocks come into play and have a critical role. These stocks provide steady returns and limit losses of investors during times of challenging economic scenarios.