3 Reasons Polaris Is One Of The Best Blue-Chip Stocks You Can Buy In 2020 – Polaris Inc. (NYSE:PII)

This article was co-produced with Dividend Sensei and edited by Brad Thomas

In my quest for building my very own “sleep well at night” pre-retirement portfolio, I’m constantly seeking to select the best dividend paying stocks. Many of you know me for my REIT-focused research (and that’s 99% of what I do), and my real passion is to own a diversified basket of stocks that gets me closer to retirement.

Don’t worry, I’m not retiring anytime soon, yet many of my followers and subscribers are seeking the same thing as me: Finding high-quality dividend paying stocks to help sleep well at night.

That’s why I decided to partner with Dividend Sensei to assist me with co-producing this article. Several of our Dividend Kings members have requested us to do a deep dive on Polaris (PII), one of my highest-conviction ideas right now.

This is a company that our portfolios have been steadily buying for several weeks – including in our 100% 11/11-quality Super SWAN Fortress collection.

Photo Source

For the record, Super SWANs are companies with 5/5 dividend safety profiles. They also feature 3/3 wide-moat business models and 3/3 management-quality/dividend-friendly corporate cultures.

In other words, they’re as close to perfect dividend-growth stocks as Wall Street can hold. And their track record for delivering income and compounding wealth is impressive.

Super SWAN Total Returns Since 2002

(Source: Portfolio Visualizer) portfolio 1 = Super SWANs

Super SWANs, of which there are 53, have nearly doubled the S&P 500 over the past 17 years. Their reward/risk ratio (aka Sortino ratio) – which amounts to excess total returns relative to 10-year Treasuries/negative volatility, the only kind investors care about – is 83% superior to the broader market’s.

They’ve even outperformed the legendary larger dividend aristocrats list since 2014, which is as far back as we have full annual performance data for NOBL.

Super SWANs Vs. Dividend Aristocrats Since 2014

(Source: Portfolio Visualizer) portfolio 1 = Super SWANs

Aristocrats are famous for beating the market over time, not to mention with lower volatility and higher risk-adjusted returns. Yet, over the last five years, Super SWANs have beaten them by 39% annually with 36% superior risk-adjusted returns.

Among that elite group of dividend growth stocks though, some stand out even more.

Meet Polaris Up, Close, and Personal

Polaris Total Returns Since 1988

(Source: Portfolio Visualizer) portfolio 1 = PII

Polaris’ strong growth rate has helped it put even the Super SWANs to shame.

It has shown sensational 19% compound annual growth rate (or =CAGR) total returns during the last 31 years. Its average rolling returns have crushed the broader market over every time horizon. And, in terms of reward/risk, its low beta PII beat the market by 19%.

7 Proven Ways to Beat the Market

(Source: Ploutos)

Polaris is known for stacking numerous alpha-factor strategies on top of each other, including:

  • Quality, as measured by returns on capital over time
  • Volatility, in which case it’s classified as a low beta
  • Size (it’s a midcap)
  • Dividend growth
  • Valuation, which is low.

In short, few companies have as great a track record for income and wealth creation as Polaris.

Of course, past performance is no guarantee of future results. However, there are three reasons we consider Polaris one of the best dividend growth investments you can make today in a diversified and properly risk-managed portfolio.

Those reasons are why we own Polaris myself and why Dividend Kings has been steadily buying this gem for weeks. So here’s why it might prove to be one of the best blue-chip stocks of 2020 and far beyond.

Reason One: A Very Safe Dividend You Can Trust to Grow Over Time

The first thing we analyze about a company is its dividend safety. Below-average or worse dividend safety automatically disqualifies a company from the Dividend King’s Master List. We won’t recommend buying it at any price.

Why Polaris has 5/5 Dividend Safety

Metric

Polaris

Safe Level

Industry Median

FCF Payout Ratio (2020 Consensus)

36.6%

60% or less

NA

FCF trend

Positive every year for 20 years, 12.3% CAGR growth over 20 years

Positive in most years, trending higher over time in-line with dividends

NA

Dividend trend

24 consecutive years of dividend growth, 14% CAGR over the last 20 years

Positive or stable across industry/economic cycle

NA

Debt/EBITDA

2.5

3 or less

2.9

Interest Coverage

6.6

8 or higher

7.3

Debt/Capital

61%

40% or less

35%

S&P Credit Rating

Not Rated (BBB implied by average interest rate)

BBB- or higher

NA

(Sources: Gurufocus, F.A.S.T Graphs, FactSet Research)

We fully admit that Polaris’ debt levels are the biggest concern when it comes to its dividend safety. But we consider them very manageable given how rapidly the company can pay down debt with retained cash flow.

Plus, its debt/EBITDA (earnings before interest, taxes, depreciation, and amortization) ratio isn’t dangerous. It has been approaching the three safe industry limit due to two semi-recent large acquisitions: Transamerican Auto Parts for $685 million in October 2016 and Boat Holdings for $805 million in August 2018. However, it hasn’t hit it yet.

(Source: Ycharts)

Deal Making and Profit Taking

Polaris paid 9x trailing EBITDA for TAP and 9.5 times for Boat Holdings. Those are very reasonable multiples, indicating that management didn’t overpay. And with synergistic cost savings, future cash flow should easily service and pay down that debt rapidly.

TAP is a leader in the $10 billion Jeep/Truck accessory market, and Boat Holdings is a leader in pontoons – part of the $8 billion boating market Polaris is expanding into. Since 2010, U.S. pontoon and accessory sales grew at an 11% CAGR.

Boat Holdings had $560 million in sales in 2017.

For its part, TAP had $740 million in trailing sales in 2015. And over the previous three years, it grew sales and EBITDA 15% and 17% CAGR, respectively.

Basically, PII paid a reasonable price for rapidly growing businesses. It’s confident it can accelerate them even more by incorporating those products into its supply and distribution network.

Plus, the company is expected to retain a good portion of post-dividend free cash flow in the coming years:

  • 2019: $193 million
  • 2020: $271 million

Here are some other numbers to account for:

  • Total retained free cash flow: $464 million
  • Long-term debt: $1.7 billion
  • Short-Term Debt: $67 million
  • Total Debt: $1.767 billion
  • Debt that can be paid off with retained cash flow by end of 2020: 26%

In 2020, PII should generate $824 million in EBITDA. So it could bring its leverage down to 1.6 by the end of this year.

As for 2021 and 2022, analysts expect 8% and 6% EPS growth, respectively. That means FCF should grow at least that quickly and help Polaris potentially complete deleveraging down to its 13-year median of 0.6 within three years.

A Dividend Track Record You Can’t Ignore

Polaris’ dividend track record is impeccable, with 24 years of rising dividends to its credit.

(Source: F.A.S.T Graphs, FactSet Research)

That includes a 14% CAGR dividend growth during the past 20 years. Yet only in 2015, when FCF fell 34% due to recalls did the FCF payout ratio exceed the 60% safe limit for this industry. And then only by 1%.

PII’s yield in 1999 was 2.4% or about where it sits now. Yet thanks to the dividend rising eleven-fold over two decades, its yield on cost rose to nearly 27%. And it generated 2.5 times your initial investment over that time.

That helped drive 13.5% CAGR total returns, which nearly tripled the broader market.

This year, the FCF payout ratio is expected to fall under 37%. Though once Polaris is done deleveraging (it normally sustains a very safe leverage ratio under 1), it should resume growth in-line with FCF and earnings.

FAST Graphs extrapolates that, should the dividend grow in-line with consensus EPS expectations, Polaris’ yield on cost for today’s shares should be about 6% within a decade. That could result in dividend lovers getting nearly 40% of their initial investment back in cash.

But a very safe and rapidly growing dividend from this future dividend champion is just one reason to love Polaris. One of many, which we’ll continue to explore below.

Reason Two: A Wide-Moat Business Model, Excellent Management, and Conservative Dividend Culture

After dividend safety, we check how stable a company’s long-term profitability is. For cyclical companies like PII – or those hit with recalls that reduce operating profits and cash flow – we analyze normalized periods outside of recessions or recall induced temporary higher costs.

Polaris shows relatively stable profitability, as evidenced in the following chart. Keep in mind that it remains temporarily depressed due to:

  • Merger and acquisition integration costs
  • Tariff effects
  • End-phase of recall-induced warranty costs.

TTM FCF margin is currently 4%. But it recovered to 10.2% in Q3 and historically averages 8%-10% across the economic cycle. (Five percent is considered an average-quality dividend stock.)

(Source: Ycharts)

As you can see, ROC in all its various forms took a big hit in 2015. That was after the recalls began, effects that have persisted. Tariffs haven’t helped either, but those effects too will likely wear off eventually.

Yet even with those issues, Polaris’ profitability and returns on capital remain far above its peers.

Metric

Polaris

Industry Percentile

Operating Margin

7.4%

top 30%

Net Margin

5.0%

top 35%

Return on Assets

8.0%

top 19%

Return on Equity

36.0%

top 4%

Return on Capital (EBIT/operating capital)

42.8%

top 8%

Return on capital (or ROC) is hedge fund manager Joel Greenblatt’s favorite quality metric. He even pioneered the idea of using it and valuation (EV/EBITDA) in his “magic formula that beats the market.”

(Source: imgflip)

Polaris offers 8% ROC, which should go much higher in the future, potentially tripling to more than 120% based on median return on invested capital (or ROC) vs. today’s levels. That’s certainly the hallmark of a wide-moat, top-quality firm.

This is what earns PII a 3/3 business model rating: Competitive advantages sustained with smart research and development. That and capital allocation decisions that support strong brand and pricing power over time.

Corporate Considerations

Polaris also gets a 3/3 rating for its quality/corporate culture.

Maintaining industry-leading profitability and ROC is one sign of excellent management. The conservative use of debt it’s known for, including leverage that never exceeds three even after two huge acquisitions, is another.

So is its soon-to-be 25-year dividend growth streak, and that’s through two recessions and a financial crisis.

Even so, let’s check with Morningstar, whose fundamentals-driven analysts offer specialist insights into how companies operate.

Here’s Senior Equity Analyst Jaime Katz explaining why her firm considers PII’s management so strong:

We view Polaris’ stewardship of shareholder capital as Exemplary. CEO Scott Wine, appointed in August 2008, has international experience at a range of companies, including Honeywell and Fire Safety Americas, where he was president.

Since taking the helm, Wine had delivered a solid record of execution, expanding the firm’s gross margin at a time when shipments were declining and making smart acquisitions to expand the company’s global presence and brand (until 2015, when the company was hit with paint mishaps and then a number of subsequent recalls).

His strategic initiatives, including shifting some production to different facilities, will probably deliver further cost savings. We think Polaris has a fairly deep management bench despite key departures in recent years (with long time COO and CFO employees leaving). And we have been impressed by the segment heads’ attempt to deliver company goals despite industry headwinds.”

For the record, Scott Wine also was a top executive at United Technologies Corporation (UTX) and Danaher Corp (DHR) – both global industrial blue chips.

We Couldn’t Agree More

Basically, our own research into PII confirms that this isn’t just a competent and trustworthy management team. It’s an exceptional one we can recommend entrusting with your hard-earned savings. Dividend Sensei bought it for his retirement portfolio. And he has three limits set to triple my position should it fall further.

Dividend Sensei’s Retirement Portfolio PII Limits

Company

Current Price

Current Yield

Target Yield

Limit Price

Distance to Limit Price

Annual Dividend

Shares to Buy

PII

$91.49

2.7%

2.7%

$90.36

1.2%

2.44

6

2.8%

$87.13

5.0%

6

2.9%

$84.13

8.7%

6

(Source: Google Sheets)

We don’t try to time the market, which numerous studies have shown is impossible to do well anyway. Rather, we embrace volatility and use it to our advantage, setting limit orders at 0.1%-yielding increments. That way, we can opportunistically put my dry powder savings to work on high-conviction companies.

Like Polaris, it’s one of our highest-conviction Super SWAN recommendations right now. Not only is it one of the highest-quality dividend-growth stocks in the world, it’s also the most undervalued Super SWAN and one of the fastest-growing ones to boot.

Reason Three: Attractive Valuation Makes PII a “Very Strong Buy” With Over 15% CAGR Long-Term Total-Return Potential

The way we value a company is based on the actual prices real investors risking real money have paid for a company’s dividends, earnings, and cash flows during periods of similar fundamentals and growth rates.

That’s why we begin by looking at its growth profile.

Polaris Growth Profile:

  • Factset Research long-term growth consensus: 12% CAGR
  • Factset consensus growth through 2022: 4.9% CAGR
  • Reuters’ five-year growth consensus: 15% CAGR
  • YCharts long-term growth consensus: 15% CAGR
  • Historical growth rate: 10.9% CAGR over the last 20 years; -1%-37% CAGR rolling growth rates
  • Realistic growth range: 10%-15% CAGR
  • Historical fair value (for return modeling purposes): 17-20 P/E

Once we confirm a company will likely grow at its historical rate, it’s time to find the best time period to model fair value.

Metric

Historical Fair Value (21 Years)

2020

2021

2022

5-Year Average Yield

2.28%

$107

$110

$114

13-Year Median Yield

2.07%

$118

$121

$125

25-Year Average Yield

2.33%

$105

$108

$111

Earnings

16.9

$116

$126

$134

Operating Cash Flow

11.0

$116

NA

NA

Free Cash Flow

20.8

$143

NA

NA

EBITDA

10.5

$140

$150

$156

EBIT

14.1

$135

$135

$154

Average

$122

$125

$132

(Sources: F.A.S.T Graphs, FactSet Research, Reuters’, Gurufocus, YieldChart)

In the case of PII, 10%-15% growth potential means the 21-year time frame – the longest FAST Graphs has available – is appropriate. In that light, here are the multiples the market has determined is appropriate for Polaris’s consensus 2020 fundamentals.

The actual intrinsic value likely lies within the $105-$143 range of estimates. But, to me, its $122 average is a reasonable estimate of what this fast-growing Super SWAN is worth this year.

Further Assurances

Of course, forecasts aren’t always perfect. And, like most cyclical companies, Polaris could miss on expectations. However, outside of recessions or recall-induced earnings declines – as in 2015-2017 – it generally has a good track record of meeting or even beating analyst consensus forecasts.

Once we have a reasonable estimate of fundamental fair value, we apply the following scale to a company’s discount or margin of safety.

Quality Score (Out of 11)

Example

Good Buy Discount to Fair Value

Strong Buy Discount

Very Strong Buy Discount

7 (Average Quality)

AT&T (T), IBM Corp. (IBM)

20%

30%

40%

8 (Above-Average)

Walgreens (WBA), CVS Health Corp. (CVS)

15%

25%

35%

9 (Blue-Chip)

Altria (MO), AbbVie (ABBV), Bristol-Myers (BMY)

10%

20%

30%

10 (SWAN)

PepsiCo (PEP), Dominion Energy (D)

5%

15%

25%

11 (Super SWAN)

Polaris (PII), Simon Property (SPG), 3M (MMM), Johnson & Johnson (JNJ), Caterpillar (CAT), Microsoft (MSFT), Lowe’s Companies (LOW)

0%

10%

20%

Here’s how we classify the rapidly growing Super SWAN and 2020 dividend champion Polaris:

Conviction

Margin of Safety Required for Fast- Growing Super SWANs

2020 Price

5-Year CAGR Total Return Potential

Reasonable Buy

-4%

$127

11% to 21%

Good Buy

0%

$122

12% to 22%

Strong Buy

10%

$110

14% to 24%

Very Strong (Deep Value) Buy

20%

$98

16% to 26%

Today

24%

$92.7

17% to 27%

Long-Term Thinking

How do we estimate long-term return potential? By using the same model that Brookfield Asset Management (BAM), Vanguard founder Jack Bogle, and all the Dividend King founders have used for decades.

(Source: Ploutos)

Created in 1956, the Gordon Dividend Growth Model has been reasonably accurate at forecasting five-year plus returns to about a 20% margin of error. In other words, a 10% CAGR long-term forecast means 8%-12% CAGR returns are likely.

That’s due to the timing of bear markets or bubbles all companies go through eventually.

Over time, you see, total returns are intrinsically a function of yield, long-term growth and valuation changes. They revert to the mean as long as fundamentals are similar.

So we apply the realistic growth range to the historical fair value P/E range to estimate a company’s long-term returns should it simply go back to fair value.

(Source: F.A.S.T Graphs, FactSet Research)

If PII just grows at the lower end of its growth potential and returns to the lower end of fair value, 17% CAGR long-term returns are possible over the next five years.

(Source: F.A.S.T Graphs, FactSet Research)

If it grows at the upper end of its growth potential – as both Ycharts and Reuters currently expect – and returns to the upper end of fair value, it could potentially quadruple your investment.

(Source: F.A.S.T Graphs, FactSet Research)

However, due to the ongoing effects of the tariff conflict and recall costs, 4.9% CAGR growth is expected through 2022. This means the consensus three-year return potential created by applying 2022 EPS forecasts to the historical fair value P/E range is 15%-22% CAGR.

That’s still exceptional return potential for a low-risk Super SWAN – much less one that’s offering a 0.8% higher yield than the broader market, and is likely to deliver double-digit dividend growth over time.

In fact, a good estimate of future dividend growth from the S&P 500 is 6%-7% CAGR. During the past 20 years, its earnings per share (or EPS) have grown at a 6.3% CAGR. And its dividends have increased at a 6.4% CAGR.

Polaris thus offers a:

  • 44% better yield
  • 41% better long-term expected growth (FactSet consensus for both)
  • Conservatively 151% better long-term return potential.

FactSet reports the long-term S&P 500 EPS growth consensus at 8.5% CAGR. Its John Butter’s reports that, over the last 20 years, analysts have averaged 1.8%-3.8% overestimates on earnings growth. (It depends on whether or not we’ve had a recession.)

But even if you assume 8.5% CAGR EPS growth, a return to the market’s 16.5-18 historical P/E would mean 6%-8% CAGR total returns over the next five years. Polaris can conservatively achieve 15% long-term returns or two (possibly even three) times what the market will likely deliver.

Risks to Consider

So, yes, Polaris is a quality catch trading at a deep discount to fair value. But that doesn’t mean there aren’t risks to consider.

Polaris has several fundamental risks to consider before buying shares.

The first is that integration risk is relatively high right now as PII digests its TAP and Boat Holdings deals.

The debt from those will have to come down over time, lest Polaris face higher debt service costs going forward – especially during a future recession where credit conditions tighten.

Right now, PII doesn’t pay for a credit rating as it can cost $500,000 per year per rating agency. But it does have an average interest cost of 4.04%.

(Source: Ycharts)

Since most of that debt was taken on in 2016 and 2018, Polaris’ average interest rate implies a BBB equivalent. It will need to pay that off rapidly to maintain good financial flexibility in the future as well as its very safe dividend status.

There’s also the risk of future recalls, such as the company faced in 2015-2017 when it recalled 450,000 ATVs. In 2016, those issues caused warranty costs to rise 165% to $195 million compared to $4.6 billion in sales.

Therefore, nearly 5% of sales were going to servicing recall claims. That explains the 48% decline in EPS that year, which sent the stock down 53% from its 2014 peak by the end of January 2016.

In 2018, it had to recall another 108,000 ATVs and pay a Consumer Products Safety Commission fine of $27 million. Thus far, sales have not suffered though. Consumers appear to still trust Polaris’ brand even though the company issued another (much smaller) recall in mid 2019.

Should such recalls continue, however, its wide moat could deteriorate, hurting its ROC, growth prospects, and quality score alike.

Not Really Recession Proof

Finally, there’s the fact that Polaris is an economically-sensitive discretionary expense company. During recessions, its earnings and cash flow (though not dividends) usually do take a hit.

Here’s Morningstar explaining that risk in detail:

Motorcycles, snowmobiles, and ATVs are all big-ticket items. And a slowdown in the global economic environment could hamper the replacement and adoption rates of these products. Another domestic downturn could also affect financing rates at the dealer (floor plan) and retail levels. In 2018, consumers financed about 35% of the vehicles sold in the U.S., and changes in lending standards could prove problematic.”

On average, since WWII, we’ve had a recession every 6.7 years. They’ve lasted an average of 11.1 months, ranging from six in 1980 to 18 in 2007-2009.

The average peak decline in GDP has been 1.4%. The 2001 recession is likely a good representation of what the next downturn might look like, and that was a very mild contraction that didn’t even last three quarters.

During that downturn, Polaris’ results weren’t affected at all. Though its stock price did decline to a P/E low of 9.2.

(Source: F.A.S.T Graphs, FactSet Research)

Ten thousand dollars invested at that absurdly great price – which was a 46% discount to fair value – would have resulted in 3.1 times your initial investment from dividends.

And total returns of 1,435%, or 15.1% CAGR. For the record, that’s measured from bear market low to the company’s second-worst bear market in history.

More Recession Talk

Speaking of such, was the 2001 recession bear market warranted by PII’s fundamentals?

As evidenced by the data below, the answer is “nope.”

  • 2000 EPS growth: 16%
  • 2001 EPS growth: 11%
  • 2002 EPS growth: 13%.

Free cash flow – what matters most to income investors – did admittedly take a hit due to the moderately capital-intensive nature of its business model:

  • 2000 FCF growth: -21%
  • 2001 FCF growth: 203%
  • 2002 FCF growth: 1%.

But the dividend remained safe and growing rapidly regardless:

  • 2000 dividend growth: 10% (47% FCF payout ratio)
  • 2001 dividend growth: 13.6% (18% FCF payout ratio)
  • 2002 dividend growth: 12% (19% payout ratio).

What about the Great Recession, the worst economic decline in over 60 years?

  • 2007 EPS growth: 14%
  • 2008 EPS growth: 13%
  • 2009 EPS growth: -13%
  • 2010 EPS growth: 40%.

Its FCF…

  • 2007 FCF growth: 80%
  • 2008 FCF growth: -27%
  • 2009 FCF growth: 53%
  • 2010 FCF growth: 56%:

And its dividend…

  • 2007 dividend growth: 9.7% (34% FCF payout ratio)
  • 2008 dividend growth: 11.8% (51%)
  • 2009 dividend growth: 2.6% (35%)
  • 2010 dividend growth: 2.6% (23%).

In 2020, 24% FCF/share growth and a modest 3% dividend hike should bring its FCF payout ratio down from 44% to 37%.

In a mild recession, FCF would likely decline modestly, resulting in several years of token growth. But even during the Great Recession, Polaris’ FCF declined a modest 27% and didn’t become negative. Plus, its EPS lost a very modest 13%.

That’s actually the average recessionary drop for the S&P 500, excluding the financial crisis.

(Sources: Moon Capital Management, NBER, Multipl.com)

Just to Be as Transparent as Possible…

Recession risk today is moderately high, but it has risen in recent weeks.

According to the Cleveland Fed/Haver Analytics GDP Growth/Recession Risk model – which is based on the 10y-3m yield curve – 13-month recession risk is currently about 30%.

(Source: Cleveland Federal Reserve)

That’s based on the current +16 basis-point yield curve. That and the fact that, over the last three months, each 1-bp decrease in the curve raised 12-month recession risk by 0.25%.

If the current curve were to remain at 16-plus for a month, it would become the new average. Thus, 30% is what the Cleveland Fed’s next monthly update would likely indicate.

Since September, we’ve had a range of 13-month recession risk of 25%-48%. So 30% is not anything to be alarmed about.

Then there’s the Chicago Fed’s National Activity Index, a meta analysis of 85 leading indicators. Its three-month rolling average is a good proxy for recession risk.

(Source: Moody’s)

Though my favorite tool for assessing the economy in near real time is David Rice’s Baseline and Rate of Change, or BaR grid.

(Source: David Rice)

This tracks 19 leading indicators that, collectively, predicted the last four recessions. One of those is the Chicago Fed’s National Activity Index, so this grid tracks 120 total economic reports each month.

It measures how high above historical recessionary baseline each is, and how fast they change month to month. It also plots the collective average as the mean of the coordinates, or MoC (the red dot).

The green LD dot represents the eight most sensitive indicators. This includes the yield curve, the St. Louis Financial Stress Index (comprised of 18 separate indicators), and weekly unemployment claims.

(Source: David Rice)

Every two weeks, the table above gets updated, showing precisely how different parts of the economy are doing.

(Source: David Rice)

Not So Likely

According to Mr. Rice, there are two important tipping points to watch:

  • Sub 20% above baseline = economy will likely keep slowing
  • Sub 15% above baseline = recession likely in 6-8 months

As such, we probably won’t see any immediate recessions, only slowing growth.

GDP Consensus From the 15 Most Accurate Economists

(Source: Marketwatch)

Specifically, consensus from the 15 most accurate economists tracked by MarketWatch is for about 1.5% GDP growth.

And the IMF’s recent global growth forecast is cautiously optimistic about global growth in 2020 and 2021.

Admittedly, it’s less optimistic about U.S. growth due to the trade war’s ongoing effects. However, the average growth rate for 2020/2021 is still 1.8%, which is actually above this year’s 1.5% blue-chip consensus estimates.

In terms of valuation risk, Polaris’ 24% discount to fair value means it’s relatively low. Barring a severe growth forecast miss, investors can expect good-to-great returns over the coming 3-5 years.

But volatility risk always exists, even for deep-value Super SWANs.

Polaris Peak Declines Since 1988

(Source: Portfolio Visualizer) portfolio 1 = PII

While Polaris’ beta is 0.5, its standard deviation is 32% – 130% that of the S&P 500 over time. So it tends to fall more during market declines, as you can see above.

The current bear market is the second worst in its history, beginning when it was about 30% overvalued and trading at a P/E of 24. Back then, Polaris was poised for a bear market the moment something went wrong. And then the recall crisis hit.

Today though, that’s likely over. And the effects of the tariff conflict are now abating.

That said, the broader market is 15%-20% overvalued, poised for a historically normal, healthy, and frequent correction.

A Thing or Two About Pullbacks

(Source: Guggenheim Partners, Ned Davis Research)

Since 1945 and 2009, the broader market has suffered a 5%-plus pullback/correction every six months.

Since 1990, stocks’ average intra-year peak decline has been 13.8%. They’ve gone up 75% of those years, yes. But periods of short-term volatility and market fear are perfectly normal and to be expected.

Polaris, Dividend Aristocrats, and Stocks During Late 2018 Correction

(Source: Ycharts)

In late September, Polaris was trading at a 16.5 P/E – basically at fair value. And its valuation risk was moderate. Yet that didn’t stop it from crashing 32% during the worst correction in a decade.

While it’s trading at a forward P/E of just 13.4 today, it’s still likely to fall significantly in any broader market decline, especially one brought about by fears of a slowing economy and rising recession risk.

With that said, if the market wants to freak out and make Polaris an even better deep value buy. We’re only happy to oblige by taking shares off scared investors’ hands.

(Source: imgflip)

As we’ve said before, we don’t worry about short-term price action. In fact, we don’t bother checking my portfolio value at all outside of once per year. That’s when we do annual performance review articles.

Drum-tight risk management is what we count on to keep our nest egg safe.

Drum-Tight Risk Management, Indeed

These are the risk management rules we use to run Dividend Kings and our retirement (or pre-retirement) portfolios. Note that asset allocation is the first rule, since messing that up causes 75% of historical investor underperformance.

(Source: Dalbar, Lance Roberts)

The other 25% is financial necessity – a fate avoided by having sufficient bonds/cash equivalents to cover unexpected expenses.

Besides, 50% of underperformance is psychological, meaning market timing/panic selling. If the December 2018 correction kept you up at night, it probably means your portfolio is too exposed to equities.

Bonds are supposed to be the ballast that hedges your portfolio and reduces volatility to levels you can personally stand. Since 1945, in 94% of years that stocks fall, bonds were stable or appreciated in value.

That non-correlated characteristic also is why owning enough bonds/cash equivalents to cover expenses during downturns is crucial.

While some people have portfolios big enough to live off dividends alone – allowing them to ignore stock prices entirely even during intense crashes and making them viable candidates for 100% stock portfolios – they’re the exception. Normal Americans will likely need to live off some form of the 4% rule in retirement.

(Source: Synchrony Financial)

That’s why the Dividend Kings’ $1 Million Retirement Portfolio is:

  • 30% bonds/cash equivalent
  • 10% preferred shares
  • 60% blue chip high-yield stocks.

(Source: Sharesight)

Its goal is to pay $45,000 in annual dividends, growing about 4.5% over time with far less volatility. You can see it accomplished this during the August mini-pullback, when the broader market freaked out over tariff/recession risk and even low volatility stocks fell 6.4%.

In contrast, our portfolio fell 1.7% at most, allowing members to sleep well at night anyway. For the prepared SWAN investor, volatility isn’t something to be feared, just ignored or profited from.

Bottom Line: Polaris Is the Most Undervalued Super SWAN in America and a Great Buy for 2020 and Beyond

We can’t tell you what will precisely happen with the U.S. economy or stock market in 2020. No one can.

Nor can we assure you that fast-growing deep value Super SWANs will soar this year. Again, no one can.

What we can tell you is that, from a fundamentals and valuation perspective, Polaris represents one of the best low-risk dividend growth investments you can make for 2020 and beyond.

This 11/11 Super SWAN-quality dividend champion has proven it has what it takes to deliver:

  • Relatively generous, very safe and rapidly growing income
  • Market-smashing double-digits returns over time.

From today’s 24% discount to 2020 fair value, Polaris can realistically deliver double-digit income growth for the foreseeable future, and 17%-27% CAGR total returns over the next five years.

For anyone looking to put new savings to work in a reasonable and prudent fashion, minimizing valuation and medium-term volatility risk, Polaris is one of our highest-conviction recommendations right now.

Author’s note: Brad Thomas is a Wall Street writer, which means he’s not always right with his predictions or recommendations. Since that also applies to his grammar, please excuse any typos you may find. Also, this article is free: Written and distributed only to assist in research while providing a forum for second-level thinking.

Turning Up The Heat At iREIT

Driven by popular demand, we are launching the all-new “Ultimate High Yield REIT Portfolio”. We have hand-picked each company utilizing fundamental research tools and our years of experience analyzing REITs.

Keep in mind that you can lock in last year’s rates by acting now and subscribing for our 2-week free trial.

For more information about iREIT on Alpha, please visit our LANDING PAGE (where you can activate your 2-week free trial).

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: Dividend Sensei owns shares in Polaris.

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