The first secret of a defensive stock is resilience.
That resilience is due to the fact that there is always a demand for the product that the company is selling even during a recession or difficult economic times. For example, there is always a demand to buy food, gas, electricity, healthcare, water during a recession.
Though, people may cut down on other pleasures or luxuries, basic needs like water, electricity and food are essential everyday needs that one could not leave out a shopping basket.
Therefore, stocks that belong to the utilities, healthcare and food sectors are defensive during economic downturn.
Note that the word defensive means protective or safe because defensive stocks protect trading or investing portfolios during recessions. They also compensate for other losses. Generally, they are safer than other investments in a sense that they are more resilient, and less likely to take too much beaten.
The second secret of defensive stock is source of income.
A stock becomes defensive if the company regularly pay dividend to its share holders. Though, the stock may not be intrinsically defensive, it becomes attractive or defensive during economic downtrend because of the juicy dividend that the company is paying. The advantage here is that those regular dividends will accumulate over time. Moreover, they will compensate for the capital loss depreciation. A portfolio manager will endeavor to have income stocks that protect against other cyclical losses.
Third secret of defensive stock is a strong balance sheet.
The first thing one is looking for is how much money does the company have in the bank. One is really looking for an excess cash that can allow the company to weather the downtrend without too much stress.
The stock may decline but the company can quickly bounce back instead of taking many years to get back on its feet. For example, a company with plenty of disposable cash may purchase other competitors that could not survive the recession. It can also buy back its own shares or return some cash to the shareholders. A stock of a company with highly disposable cash or excess cash is very defensive. Quite often ordinary investors failed to include those defensive stocks in their portfolio.
One example of those stocks is Apple Computers stock who got excessive cash on its balance sheet. The question the smart money will be asking is what are they going to do with all that cash?
The fourth Characteristic Of A Defensive Stock is Gold
Gold producers with a strong balance sheet that are about to start a bullish trend at the start of the economic downturn can also help a portfolio manager or investor to strengthen financial holdings. One should give precedence to those gold producers that also pay dividend. During a recession, there is a huge demand for gold. The precious metal becomes more valuable asset, and it is prudent to hold gold producers stocks that are ready to rise, but also paying nice dividend.
Fifth Secret Of Defensive Stocks
A defensive stock could also be a stock with an excellent directors team.
There are reputable company directors with a proven track record, that have also demonstrated their skills to increase shareholders' value even in a bearish economic environment. Many times, they have saved shareholders and investors from the negative impact of a downtrend by implementing strategic business policies. One can refer to those directors as safe hands. Truly, one does not want to hold stocks that belong to companies that are mismanaged during a recession. For example if one is buying a stock in a defensive sector like healthcare or utilities, one will filter out those with mediocre directors. A defensive stock is also a stock of a company with highly clever directors who know exactly what to do in a downturn.