Load Up on This Defensive Stock for a Potential Recession

If you're climbing the wall of worry, you need to get defensive.

Sep 24, 2024

Though major market indices continue to post records, anxiety persists. The market appears to be climbing a wall of worry.
Investors continue to face uncertainty, as ambiguous economic data and a dis-inverting yield curve hint at a possible recession.
Defensive sectors like REITs and healthcare tend to outperform during economic downturns, as they provide essential goods and services with inelastic demand, making them more resilient to market fluctuations.
We have identified a stock with solid investment fundamentals in a defensive sector, with the potential to help investors’ portfolio positioning in the event of economic decline.

Source: PGIM

The Yield Curve and its Opposite

Investors are adrift in a sea of uncertainty as markets have slipped on the back of ambiguous economic data. The August jobs report released last Friday showed a decrease in the overall unemployment rate, albeit only marginal, and contributed to the Nasdaq and S&P 500 posting their worst weeks since 2022 and 2023, respectively. Given September’s poor historical track record, investors should consider how to position a portfolio for a potential recession.

Another indicator that has caught market-watchers' attention is the dis-inverting yield curve. The yield curve, also known as the 2/10 curve, visually represents the difference in returns between short-term and long-term bonds. Normally, the yield curve slopes upwards, with higher yields paid for longer-term maturities, compensating investors for risks like inflation associated with long-term investments.

Conversely, those invested in shorter-term maturities take less risk and receive a lower payout until the security matures. However, an inverted yield curve can occur when yields for shorter-term maturities exceed those of longer-term maturities. This has been the case, twice in the last year.

Normal vs. Inverted Yield Curve

Since 1955, the inversion and subsequent dis-inversion of the yield curve have preceded recessionary periods every time, except in 1966. The most recent inversion of the yield curve took place in March of 2022, as short-term rates were ratcheted up to fight the ballooning inflation in the US. However, in August the curve briefly dis-inverted for just the second time since 2022, and once again last week, which could be a sign that the looming recessionary period is on the horizon.

However, it is worth noting the curve’s reliability as a prognosticator has been disputed and may not be as strong an indicator of imminent recession as we would like. Regardless of whether or not a recession is imminent, the confluence of soft labor data, historical September volatility, and interest rate reductions on the horizon could be reason enough for investors to build up their defensive positioning in their portfolios.

Top Defensive Stock For Accumulation

Businesses in defensive sectors are less sensitive to economic fluctuations because they provide products and services consumers will buy despite downturns. Food, health services, and electricity are examples of sectors that offer resilient qualities and tend to outperform during recessionary periods. Consumer staples, utilities, and health care outperformed the market by an average of 10% in six of the last seven recessions since 1960, excluding the two-month COVID downturn in 2020, when the S&P 500 plummeted over 30% but rebounded to finish the year +15%.

This article spotlights a top rated stock in another defensive sector that we score highly as a strong buy. It has the potential to outperform market movements in September and beyond.

Arbor Realty Trust (ABR)

You can earn $300.00 in quarterly dividend income or $1200.00 in yearly income from this stock. The company currently pays a consistent and reliable dividend of $.43 per quarter. It has been consistently and rapidly growing its dividend for over 15 years. In order to derive $300.00 of quarterly dividend income, an investor would simply need to buy 697 shares:

697 X $.43 quarterly dividend = $300

Cost of 697 shares at current prices:

$15.00 current stock price X 697 shares = $10,455.00

Current dividend yield is 11.47%

About Arbor Realty Trust

Arbor Realty Trust, Inc. invests in a diversified portfolio of structured finance assets in the multifamily, single-family rental, and commercial real estate markets in the United States. The company operates through Structured Business and Agency Business segments.

It primarily invests in bridge and mezzanine loans, including junior participating interests in first mortgages, and preferred and direct equity, as well as real estate-related joint ventures, real estate-related notes, and various mortgage-related securities. In addition, the company offers bridge financing products to borrowers who seek short-term capital to be used in an acquisition of property; financing by making preferred equity investments in entities that directly or indirectly own real property; mezzanine financing in the form of loans that are subordinate to a conventional first mortgage loan and senior to the borrower's equity in a transaction; junior participation financing in the form of a junior participating interest in the senior debt; and financing products to borrowers who are looking to acquire conventional, workforce, and affordable single-family housing.

Further, it underwrites, originates, sells, and services multifamily mortgage loans through conduit/commercial mortgage-backed securities programs. The company qualifies as a real estate investment trust for federal income tax purposes. It generally would not be subject to federal corporate income taxes if it distributes at least 90% of its taxable income to its stockholders. Arbor Realty Trust, Inc. was incorporated in 2003 and is headquartered in Uniondale, New York.

Tax Advantages

Under current tax laws, REITs benefit tax payer-investors. Individual REIT shareholders can deduct 20% of the taxable REIT dividend income they receive (but not for dividends that qualify for the capital gains rates). There is no cap on the deduction, no wage restriction and itemized deductions are not required to receive this benefit.

In the current case, this would mean that 20% of ABR’s $1.72 annual dividend can be excluded from taxation:

20% of $1.72 = $.34

This means that $231 of your dividend income from this name avoids taxation.

$.34 X 679= $231

Recent Catalyst

With the Fed’s recent announcement of a 50 basis point interest rate reduction on the Federal funds rate, interest rates will be coming down soon on all manner of loan rates.

This is especially important for companies like ABR since their revenues and profits are strongly tied to their profit margin which is derived by the difference between the rate they are charged to borrow funds to expand their portfolio, and the rates they can charge to their own borrowers.

This margin expansion will be highly accretive to ABR’s bottom line and should keep expanding its profitability as rates continue a downward trajectory for some time to come in this new cycle of looser monetary policy.

Your Takeaway

The recent dis-inversion of the yield curve, coupled with tempered economic data and the anticipation of rate cuts, has sparked discussions about the potential for an upcoming recession. While the yield curve’s reliability (or lack thereof) as a predictor of recessions can be argued, its track record, and the current financial climate suggest that investors might want to adjust their portfolios for a sustained period of economic uncertainty.

Defensive sectors like REITs and healthcare have historically outperformed during recessionary periods. At those times, investors turn away from more speculative growth stocks to more defensive income-producing stocks. We have identified a well-rounded defensive stock with the potential for capital appreciation and possible increasing dividend payments as well. Arbor Realty is rated a “strong buy” based on the factors identified above.

We have many more stocks with strong buy recommendations that you can learn about by upgrading your subscription to Paid so you can take full advantage of our comprehensive service.

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Other articles you may find valuable reading:

Investing in Realty Income: A Smart Choice for Monthly Dividends

Is September the Most Bearish Month? That Depends

What If No One Ever Sold Even One Share of Stock?

Most Recipients Aren’t Interested in Waiting to Claim Social Security Benefits

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