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Hedge Your Portfolio by Playing De-fense! De-fense!

This means three things: consumer staples, utilities and dividends


There’s been some slightly encouraging news coming out of the economy lately. One of those is that corporate profits have rebounded. The problem, though, is that when you really examine those profits, you realize a lot of it has to do with cost-cutting. So if you still are concerned about where the economy is headed — and what to do about your stock positions — you definitely should fill out that diversified portfolio with some defensive names.

“Defense” means different things to different people. To me, it means at least these three: Consumer staples, utilities and dividends.

Consumer staples are those products that you and I must buy if we are going to live in a relatively normal fashion: food, beverages, household products, prescription drugs and the like. I know a stock is a consumer staple if I look around my house and find a bunch of its products. This morning I did my treasure hunt and found all of the following: CD-ROMs, Nexcare bandages, Scotch tape, Scotch tape dispenser, Scotch-Brite detergent (and pads), Oxy Carpet Cleaner, Post-It Notes, Scotchgard (on the couch), O-Cel-O Sponge cloth, Scotch Cassette Deck Head Cleaner, Scotch micro-fiber cleaning cloth, 3M cushioned mailers, 3M glue sticks …

OK, so I finally gave away the company’s name. It’s 3M (NYSE:MMM), which just beat estimates by 4 cents in Thursday’s earnings report. With $3.7 billion in cash, and FY 2011 operating cash flow of $5.3 billion, 3M can weather any storm, and it pays a 2.6% dividend.

If you want to go broader, try the Select Sector Consumer Staples SPDR (NYSE:XLP), which contains some of the most well-known global brands as its top 10 holdings.

Utilities are great choices because they are regional monopolies that are regulated by the government, and those regulations allow them to enjoy sizable profits. Obviously, the best thing about a utility is that it provides a product nobody can do without — energy. Utilities also traditionally provide stable and reliable dividends. Even better, because regulators permit inflation-indexed price increases, utilities are an effective inflation hedge.

I like National Grid (NYSE:NGG), a U.K.-based utility that provides gas and electricity to both U.K. and northeastern U.S. customers. It yields 4.5%. Likewise, you also can diversify your choices with Select Sector Utilities SPDR (NYSE:XLU). Plenty of familiar names here as well, with a 3.8% yield.

As for dividend stocks, there is no shortage of them. It might be difficult to choose exactly which ones are right for your particular strategy, though. Dividends are not exclusively large-cap names that have been around forever. Many smaller companies offer payouts as well. You also have to be cautious about overweighting in financial stocks, which I still am wary of in this environment, and those stocks are usually the big dividend payers.

Instead, I like the WisdomTree Dividend Ex-Financials Fund (NYSE:DTN), which consists of non-financial dividend-paying stocks. I also like that there are some unusual names in the top 10 holdings. DTN pays 3.17% and has returned a solid 10% over the past year.

There are many other ways to play defense in your portfolio, but the trick is always to customize it for your own risk tolerance and long-term strategy.

As of this writing, Lawrence Meyers was long DTN.

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