Thought about buying into Rolls-Royce (LSE: RR) shares during their rapid ascent in recent years but worried that their price looked increasingly hard to sustain?
The turnaround in the FTSE 100 aeronautical engineer’s fortunes has been one of the biggest stories among UK blue chips in recent years.
More than one bite at the cherry
So, how long has it taken an investor to double their money?
The current Rolls-Royce share price is around twice what the shares cost in the first week of last year. So, someone who put £500 into Rolls-Royce shares less than a year and a half ago would now be sitting on a shareholding worth £1,000 – even before taking dividends into account.
The share has also done brilliantly over the past five years – up 1,018%. But lately it has wobbled.
In fact, by February it would have been up at around £1,137 in value before falling back down to today’s level of ‘just’ £1,000.
Am I now too late? Sometimes, it seems as though after missing a booming share, the chance is gone.
But even great-performing shares can move around a fair bit over time. So might the current dip be a good opportunity to add Rolls-Royce to my own portfolio?
Looking at the reason for a share price move
Given the incredible performance Rolls-Royce shares have put in over the past few years, it is understandable that an investor might see a dip and weigh up whether it is a potential opportunity to scoop up a bargain.
But another question is also worth asking in such a situation. Why has the share price fallen – and what does it suggest about the investment case and attractiveness of the valuation?
Rolls-Royce’s defence business continues to benefit from strong demand – and I think the conflict in the Middle East could boost that. Similarly, elevated oil prices could be good news for demand in the company’s power systems division.
What about the firm’s biggest division, civil aviation?
Rolls is sticking to its outlook for its biggest business division
So far, Rolls has been making upbeat noises on this front.
Indeed, in a trading update at the end of last month, the company reiterated its financial guidance for the current year.
It explained that confidence partly by saying that it is “proactively mitigating the impact associated with the conflict in the Middle East”.
Rolls deserves credit for that, in my view. Management setting ambitious guidance and delivering on it has been core to the shares soaring in recent years, so the confidence here is welcome.
Still, as the pandemic demonstrated, Rolls-Royce’s fortunes are inextricably linked to demand from civil aviation customers for buying new engines and servicing existing ones.
High jet fuel prices, weakening consumer confidence, and heightened geopolitical risks strike me as a bad combination when it comes to civil aviation demand.
That is a risk to the investment case I think helps explain the recent price fall.
Even now, Rolls-Royce shares sell for 39 times earnings. I am uncomfortable with the risks at that valuation, so will not be buying the dip.
Christopher Ruane does not hold any positions in the companies mentioned.
