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ETF Specialist

Defensive Sectors, the Playground of Dividend-Themed Funds, Look Overvalued

Demanding a quick return and shorter payback, investors bid up higher-yielding but potentially slower-growing stocks.

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These days, equity investors seem to be following the playbook of "Jerry Maguire": Show me the money! The higher the yield, the better. No one has the patience or risk tolerance to wait around for the return on long-term or capital-intensive projects.  Apple (AAPL) just issued $17 billion in debt so it could hand over the money to shareholders.

The preference for current income is reflected in the fact that companies from defensive sectors are currently trading at a premium valuation. Defensive stocks typically have higher dividend payouts because they are in mature industries, have few opportunities for organic growth, and have less of a need to reinvest cash internally. Because of their slower growth, we would expect them to trade at a discounted valuation. But that is not what we see in the current environment. The table below shows the 10 Global Industry Classification Standard sectors applied to the stocks in the S&P 500 Index. Consumer staples stocks currently trade at the highest price/earnings valuation despite the fact that their earnings are expected to grow more slowly than in other sectors. Even utilities are trading at a high price/earnings valuation despite only a 5% earnings growth forecast.

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Michael Rawson does not own shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.