Rolls-Royce Share Price is 73.6% Undervalued. Is it a Buy?

Summary:

The Rolls-Royce share price is undervalued by about 73.6%. We explain why it is still a buy or sell at the current level.

The Rolls-Royce share price is in a steeep freefall as investors react to the rising number of coronavirus cases around the world. The RR stock is trading at 96.30p, which is 4.7% below the highest point on Monday and 15.2% below the highest point last week. The shares have also declined by more than 25% from the year-to-date high.

Rolls-Royce Holdings news. Rolls-Royce is the second-biggest aircraft engine manufacturing company after General Electric. The company is well-known for its Trent 1000 engine that is mostly used in Boeing 787 plane.

Unlike other jet engine manufacturers, Rolls-Royce makes most of its money from the long-term service contracts it has with airlines. Therefore, the Rolls-Royce share price is highly susceptible to the new developments on Covid. The stock rose to 128p early this year as the optimism on vaccination rose.

Since March, the shares have declined by more than 20% as investors worry about the pace of the recovery. Recently, there have been concerns about the new Delta variant that has led more countries to add some travel restrictions. Indeed, other aviation-related stocks like EasyJet, IAG, and Ryanair have also declined sharply recently.

Still, in the long-term, there is a likelihood that the Rolls-Royce stock will do well as the sector recovers. In fact, there are signs that the aviation industry will do well past the pandemic. For example, many airlines like United Airlines and Delta have recently reported strong bookings. Since people barely travelled in 2020, there is a possibility of revenge travelling when the virus subsides.

Another catalyst will be the other two divisions – military and power – will keep doing well. Fundamentally, the stock seems undervalued, as shown below, a DCF valuation shows that the stock is 73.6% undervalued.

Rolls-Royce share price forecast

The daily chart below shows that the RR share price has been in a narrow range in the past few weeks. The stock has even crossed the 50-day and 25-day moving averages. It remains between the important support and resistance levels at 86.97p and 134p. Also, the stock seems to be forming a head and shoulders pattern, which is usually a bearish signal. Therefore, like I wrote yesterday, the stock is in a path to 85p. However, I suspect that it will rebound in the long term as the aviation sector bounces back.