Hargreaves Lansdown investors are buying Rolls-Royce shares and IAG. Here’s what I’d do

The IAG and Rolls-Royce share prices have staged a powerful rally since November. Roland asks if it’s too late to buy in to these reopening stocks.

| More on:

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than you put in.

Read More

The content of this article is provided for information purposes only and is not intended to be, nor does it constitute, any form of personal advice. Investments in a currency other than sterling are exposed to currency exchange risk. Currency exchange rates are constantly changing, which may affect the value of the investment in sterling terms. You could lose money in sterling even if the stock price rises in the currency of origin. Stocks listed on overseas exchanges may be subject to additional dealing and exchange rate charges, and may have other tax implications, and may not provide the same, or any, regulatory protection as in the UK.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

Rolls-Royce Holdings (LSE: RR) shares were the most popular choice with investors on share trading platform Hargreaves Lansdown last week.

British Airways owner International Consolidated Airlines Group (LSE: IAG) wasn’t far behind, in second place by value.

Both companies are ‘reopening stocks’, which depend heavily on air travel getting back to normal over the next year. I’ve been wondering whether I should buy one of them for my portfolio, or whether it’s too late to get on board this trade.

What happens next?

The IAG and Roll-Royce share prices have both risen by more than 100% from the lows seen in early October. Vaccine news in November put a rocket under these stocks, as it did with many others.

Despite these gains, both Rolls-Royce and IAG are still trading at share prices 50% lower than in January 2020. At first glance, this might seem cheap. But I don’t think it is.

The reason for this is that both companies have taken on extra debt and issued large numbers of new shares over the last year. They’ve been focused on survival. But as a potential investor, I’m focused on dilution.

What this means is that from 2021 onwards, Rolls’ and IAG’s profits will be split among many more shares than in the past. This means that earnings per share will be much lower, even if profits return to pre-pandemic levels.

The extra debt these companies have taken on also worries me. Debt payments always come ahead of shareholder dividends. These payments will now be bigger than they were before the pandemic.

I think it could be a while before IAG and Rolls-Royce can start to pay attractive dividends again.

Rolls-Royce shares vs IAG: what I’d buy

The other concern I have as a potential buyer is whether these are really good businesses. Airlines have a long history of boom and bust. But before the pandemic, many investors — even Warren Buffett — were starting to think things might be different now.

It turns out they aren’t. Airlines still have high fixed costs that are difficult to manage when demand is disrupted. And they still face very tough competition from multiple rivals.

Mr Buffett ditched his airline stocks early last year when the likely impact of the pandemic became clear.

In my view, Rolls-Royce is a better business than IAG. This is because Rolls-Royce offers essential products with few competitors and a large base of existing customers. These customers are tied into Rolls on long-term maintenance contracts. When flying restarts, airlines will have to start spending money with Rolls-Royce again.

To sum up, I don’t think Rolls-Royce shares or IAG shares look particularly cheap today. But if I did invest, I’d certainly choose Rolls. I think the engine maker is much more likely to deliver attractive long-term returns for shareholders.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Roland Head has no position in any of the shares mentioned. The Motley Fool UK has recommended Hargreaves Lansdown. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

More on Investing Articles

Investing Articles

How much would I need to invest in income shares to earn £300 a month?

What kind of lump sum would be required to earn £300 a month by taking advantage of some of the…

Read more »

Investing For Beginners

Up 31% in a month, could this FTSE 250 stock be getting bought out?

Jon Smith takes a look at speculation that's pushing the share price of a FTSE 250 share higher and considers…

Read more »

Investing Articles

Here’s how I’d follow Warren Buffett to start building passive income in 2025

Ben McPoland highlights one FTSE 250 firm with a strong competitive edge that he thinks can continue rewarding investors with…

Read more »

Investing Articles

Burberry shares: undervalued FTSE gems that are ready to rocket?

Burberry shares soared at the beginning of the week as the takeover rumour mill went into overdrive. Is Paul Summers…

Read more »

US Stock

Here are the latest share price forecasts for S&P 500 giant Amazon

Amazon has generated monster gains for investors over the last decade. And Wall Street analysts believe the S&P 500 stock…

Read more »

Man writing 'now' having crossed out 'later', 'tomorrow' and 'next week'
Investing Articles

2 high-yield FTSE 250 shares I’d buy today — and 1 that I’d avoid

UK markets have felt some volatility after last week’s Budget and the FTSE 250 was no stranger to it. Our…

Read more »

Investing Articles

3 reasons the Rolls-Royce share price could soar over the next decade

Sustainable aviation fuel, narrow-body aircraft, and small nuclear reactors could all keep the Rolls-Royce share price climbing over the next…

Read more »

British flag, Big Ben, Houses of Parliament and British flag composition
Investing Articles

Here’s how much income I’d get if I invested my entire £20k ISA in cheap BT shares

BT shares are on the up but still cheap, while the FTSE 100 telecoms stock offers a good yield too.…

Read more »