After sailing through its best first quarter since 1998, the stock market is starting to lose some momentum. The Standard and Poor's 500 stock index, a broad market benchmark, is up just 1 percent this quarter after jumping 5.4 percent in the first three months of the year, in large part because of conflicting data about the health of the economy.
One group — defensive stocks — is doing just fine. Utilities, health care and consumer staples are all considered a good defense against a slowdown because they tend to have stable profits no matter what happens in the broad economy. The items they sell aren't ones people stop buying when their budgets are tight. And for the last six weeks, investors have been putting money into stocks of companies like Aetna or Kraft Foods that cater to everyday needs, like health insurance or coffee.
Each of the defensive industry groups has gained more than 5 percent this quarter. Health care — the best of the three — is now up 14.2 percent for the year, after lagging sectors like energy and industrials during the first quarter. What's more, the number of shares exchanging hands in defensive industries is also increasing. Higher volume often signifies that a stock on the rise will continue to rise — or that a declining stock will keep falling — because it reflects increased investor interest in a stock. The daily trading volume of the SPDR Consumer Staples Select ETF, for example, is double the rate it was in January.
Meanwhile, industrials, a group that investors buy more when they expect an economic pickup to lead to new buildings or machines, are flat for the quarter. Energy companies are down 6.9 percent this quarter because several reports have indicated demand for oil is falling as gas nears $4 a gallon.
"People are becoming more conservative in their outlook and their spending as oil prices have risen," said Quincy Krosby, the chief strategist at Prudential Financial. Investors have begun to worry that energy prices will sap consumer and business spending, she said.
There has been good news about the economy recently. More companies in the S&P 500 are beating analyst sales estimates this quarter than at any other time since the recession ended nearly two years ago. Companies are also adding jobs at the quickest pace in five years, with 700,000 jobs added in the last three months.
Even so, Andrew Goldberg, a market strategist for J.P. Morgan Funds, believes defensive stocks will continue to do well until it's clear that oil prices will not be a drag on overall growth.
"If Americans are spending more money on gasoline, that means less money will be spent on flat-screen TVs and vacations," said Goldberg. "You have to view this economic recovery as a patient in the I.C.U. We're off the respirator and well on the way to a full recovery, but oil prices can cause a relapse."
Investors who think that the growth rate of economy isn't going to lead to higher corporate profits are attracted to defensive companies for two reasons. These companies — in the business of providing everyday needs like electricity, toilet paper, and telephone service — are in industries that deliver reliable earnings. Kraft, for example, saw its sales fall only 4 percent in 2009 even though consumers cut back elsewhere. Even with that drop, the company has increased sales by an average of 7.6 percent annually over the past five years.
That allows defensive stock companies to pay higher dividends than, say, a technology company that may be expanding its business rapidly. AT&T Inc. pays a quarterly dividend of 43 cents per share, giving it a 5.5 dividend yield. That's far higher than the 3.18 percent yield on a 10-year Treasury note and vastly more than an investor would get from, say, consumer favorite Apple Inc., which doesn't pay a dividend.
Defensive stocks are also a cheap way to get dividend returns compared with the S&P 500 index, which currently costs 15 times earnings and yields 2 percent. AT&T costs just 9 times earnings, despite gaining 2.8 percent this quarter.
Coca-Cola Co., another defensive stock, costs 13 times earnings after gaining 2.8 percent this quarter and comes with a 2.8 percent yield. Google, by comparison, costs 23 times earnings and doesn't pay a dividend. It's fallen nearly 10 percent over the quarter. Higher yields mean that investors will still benefit even if stock prices stall, Goldberg said.
Of course, some investors are buying defensive stocks simply because many underperformed over the past two years.
Dimitre Genov, the portfolio manager at the $58 million Artio Global Equity Fund, bought Dean Foods last year when its 52 percent drop landed it among the five worst-performing stocks among the 500 companies that make up the S&P index. The Dallas-based company, the country's largest dairy, is up 34 percent this quarter, thanks in large part to quarterly results that topped Wall Street's expectations after the company cut costs and raised its forecast for full-year earnings because grocers are raising costs for store-brand milk, the company's chief competitor.
"The laggards of last year are the winners now," he said.
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