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By Josh Peters, CFA | 01-27-2014 03:00 PM

How Dividend Payers Can Protect Against a Downturn

A recession isn't imminent, but we're in the middle innings of the economic ballgame, which is why a defensive portfolio is ideal, says DividendInvestor editor Josh Peters.

Jeremy Glaser: For Morningstar, I'm Jeremy Glaser. Stocks have been off to a rocky start in 2014 after an outstanding 2013, but does this mean that we're on the verge of a correction, and should dividend investors be worried about it? I'm here with Josh Peters, editor of Morningstar DividendInvestor and also our director of equity-income strategy, to take a closer look.

Josh, thanks for joining me today.

Josh Peters: Good to be here, Jeremy.

Glaser: What's your opinion on where we are in the economic cycle? Is this bull market pretty much on its last legs? Are we looking at potentially the economy slowing down significantly, or do you think that we're more in the middle of this cycle?

Peters: I really try not to base my investment strategy around the idea that I have to correctly ascertain where we are in a cycle or the next cycle turn, but looking overall, I kind of feel like we're in the middle innings. This is a nine-inning ballgame typically, an economic expansion and a bull market. We are definitely well out of the first inning.

You think back to how this bull market started, how the economy started to recover back in 2009, you had a lot of things that were really working in our favor. Coiled springs, you might say. Stock prices were very low. Valuations were very low. Profits were low too, but they were poised to come back if the economy at some point came back, which it did. So you've seen excellent returns since that point, about a triple actually in terms of total return with reinvested dividends for the S&P 500 since that bottom in March 2009.

Now, profits are at record levels again. P/E ratios look kind of normal relative to the last 25 or 30 years, but there's not a lot of upside potential I think from here, unless you want to start predicting a big speculative bull phase that maybe we would be better off not having. But then again, usually you get your big bear markets and crashes in conjunction with some kind of a recession, and I don't really see a lot of the economic imbalances you would expect to trigger a recession have really had time to build up yet.

In my DividendInvestor cover story, I [used the ballgame analogy, saying] we may be in the middle innings. That doesn't mean that the game might not go into extra innings; it doesn't mean that the game might not be called early on account of rain. But I think the key takeaway here is that you want to shape your thinking as if perhaps we're in the middle or maybe closer to the end than the beginning at this point. You don't want to be stuck way out there in terms of risk.

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