Royal Mail (LSE: RMG) shares have experienced a significant sell-off in 2022. At the start of the year, the RMG share price was above 500p. Today, however, it’s under 300p.
Buying stocks after a big fall like this can sometimes pay off down the track. Should I buy Royal Mail shares for my portfolio then? Let’s take a look.
Royal Mail shares look cheap today
Looking at Royal Mail’s current valuation, there could be some value on offer here after the recent share price fall. At present, analysts expect the group to generate earnings per share (EPS) of 20.7p for the year ending 27 March 2023. That means that at the current share price of 262p, the forward-looking price-to-earnings (P/E) ratio is about 12.7. That’s relatively low and well below the median FTSE 100 P/E ratio of 14.6.
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On top of this, there’s also a chunky dividend yield on offer. Currently, the dividend forecast for this financial year is 18.7p per share. At today’s share price, that equates to a yield of around 7.1%. That’s no doubt attractive in today’s low-interest-rate environment.
Is this a value trap?
My concern, however, is that Royal Mail could be a ‘value trap’. These are stocks that appear undervalued but turn out to be cheap for a reason, and often perform poorly as investments.
Looking at the company’s recent Q1 trading update, posted last month, it’s not performing well right now. For the three months to the end of June, revenue in the Royal Mail division fell 11.5% year on year due to weakening retail trends, lower Covid-19 test kit volumes, and the ongoing structural decline in letters. This division also posted an adjusted operating loss of £92m.
“We are seeing the impact of macro-economic trends on Q1 performance – high inflation and increased cost of living for consumers – plus the unwinding of the exceptionally high volumes of parcels we saw during Covid-19 restrictions,” said the company in the update.
Worryingly, the group also advised that its transformation programme ‘Pathway to Change’ had stalled and that some of its planned cost savings were at risk.
Meanwhile, looking ahead, workers are planning to strike over a pay dispute. Today, Royal Mail has warned that it will be “materially loss-making” this financial year if four days of strikes called by the Communications Workers Union (CWU) in August and September go ahead. This is certainly a risk to consider.
Share price pressure
Aside from this poor operational performance, one thing that concerns me in relation to Royal Mail shares is that City analysts are downgrading their earnings forecasts quite significantly. Over the last month, the consensus EPS forecast for this financial year has fallen by 19.6p to 20.7p. That’s an enormous cut to estimates. The issue here is that EPS downgrades can put negative pressure on a company’s share price. So, this could keep the stock depressed for a while.
Royal Mail shares: my move now
Putting this all together, I won’t be buying Royal Mail shares for my portfolio today. To my mind, the risk/reward proposition is not so appealing.
All things considered, I think there are better, safer stocks to buy right now.
