Risk
Rolls Royce share price is down by more than 2% today, becoming the worst-performing stock in the FTSE 100. The stock has declined by almost 60% this year while the FTSE 100 has fallen by just 17%. This makes Rolls Royce, among the worst-performing stocks in the index this year. So, is Rolls Royce stock price a buy today?
To most people, Rolls Royce is the luxurious vehicle that is driven by the who is who in the society. They are partly right. But that Rolls Royce car brand has been owned by BMW, the German auto giant for decades.
Rolls Royce Holdings is a company that manufactures jet engines, ship engines, and other types of engines. Its aircraft engines belong in the civil aerospace segment, which accounts for almost half its sales. It is also a large defence contractor that sells a variety of engines that are used in the military. Its power systems are used in ships. Also, the company provides power engines for various uses.
The company competes with companies like General Electric, Honeywell, Safran, and Pratt and Whitney among others.
Interestingly, Rolls Royce does not make a lot of money selling aircraft engines. In fact, it sells most of these engines at a loss. Instead, it makes most of its money servicing those engines. It enters into long-term contracts with airlines to do this.
Rolls Royce share price has been a laggard for several reasons. First, the coronavirus pandemic has affected most of its customers. Indeed, most airlines have either received government bailout or gone bankrupt. Also, due to the pandemic, the need to repair and maintain the existing fleets has not been very necessary.
Second, Rolls Royce stock price has dropped because of the problems with its Trent 1000 engine. These problems started in 2018 when airlines started to report cracks in these engines. As a result, the company allocated millions of dollars to conduct those repairs. That led to its first annual loss in decades.
Third, Rolls Royce stock has dropped because of rate downgrades. The first downgrade happened a few months ago. And on June, Fitch downgraded the company’s debt to BBB- and gave it a negative outlook. In the report, the firm said that it expected its cash flow generation to be less than what was previously expected. It cited the civil aerospace aftermarket and services and the power division. The firm said:
“The Negative Outlook continues to reflect the uncertainties of a more extended coronavirus pandemic as well as the uncertain form and timing of a recovery for both aftermarket services and engine deliveries for Rolls-Royce’s civil aerospace division.”
On a positive side, the company could benefit from recent investments announced by government around the world. Just this week, the Johnson administration launched an ambitious investment program. Also, the company landed a lucrative deal to manufacture propulsion engines to the US Navy.
I have avoided looking at valuation metrics because of how little we know about the future. We don’t know the number of airlines that will make it and the demand for Rolls Royce products. Therefore, let us conduct a short technical analysis and see whether Rolls Royce share price is a buy.
On the daily chart, the price is below the 50-day and 100-day exponential moving averages. The price has also formed a downward bearish channel and is below the 23.6% Fibonacci retracement level. Therefore, in the near term, the price may continue to fall as the price heads to the important resistance at 235p.
On the flip side, a move above 356p will invalidate the bear cases. This price is along the 23.6% retracement level. It is also the highest level on June 16.
Therefore, while I remain bearish on Rolls Royce in the near term, I believe that the shares are a good speculative long term buy at these prices.