Weakness in the mining sector pulled leading shares back from recent record highs, but insurer Aviva bucked the market’s downward trend.
Its shares rose 6.5p to 561.5p as a number of brokers began coverage again following the completion of its deal to buy Friends Life. Barclays, Morgan Stanley and JP Morgan all issued overweight ratings, on the prospect of a stronger balance sheet and dividend increases after the acquisition. Barclays said:
The Friends Life acquisition is a transformational deal for Aviva. Prior to suspension, we were underweight on Aviva with a view that its balance sheet was weaker than the market believed, and would have taken several years to fix. Along with significantly strengthening the balance sheet immediately, Friends significantly improves the group’s cash generation. Furthermore, we had believed Friends to be an underappreciated highly cash generative asset with an over- capitalized balance sheet, and little gearing. We believe investors’ focus in 2015 will increasingly be on capital resilience given the implementation of Solvency 2, and also on income. Aviva now offers both a strong, well diversified balance sheet and a very attractive dividend profile coupled with restructuring opportunities.
Aviva’s last three chief executives have all cut the dividend, but we believe the acquisition of the cash generative Friends will make Aviva a dividend stock again. We forecast a dividend of 29.5p in 2017 (5.3% yield), in line with Aviva’s 50% payout target.
We see no reason why Aviva could not pay out 100% of its net cash generation of £1.6bn or 40.7p a share, equivalent to a 7.3% yield, by 2017. In this scenario, if the yield dropped to 5%, the stock would be trading on 812p, offering a potential 46% upside in this scenario.
Morgan Stanley was also positive:
Following the completion of the Friends transaction, we believe Aviva shares can re-rate as cost synergies are delivered and the dividend is increased. Our new price target of 633p offers 15% upside potential.
And JP Morgan Cazenove said:
Following a period of restriction, we are moving to an overweight recommendation and December 2016 622p target price as we see Aviva to be well placed in the UK life insurance market following the acquisition of Friends Life. Key points we flag are: 1) high free cash flow yield (free cash flow yield of 5.6% versus UK life insurer average of 4.4% in 2016), 2) better capitalized business as the Friends Life acquisition has reduced the risk in the business with complementary risk profiles and also helped reduce the leverage to around 36% by 2015 and 3) growth prospects in UK life business and asset management have increased due to the increased scale, albeit, it could take couple of years for growth to be visible in IFRS earnings we believe.
But the rise in Aviva was not enough to keep the FTSE 100 in positive territory, with the index closing down 25.47 points at 7064.30 ahead of Tuesday’s UK inflation data and amid uncertainty over the outcome of the forthcoming election after conflicting poll results.
A major factor was disappointing trade data from China which renewed doubts about the country’s future economic growth, hitting the commodities sector. A series of downgrades from Citigroup and the prospect of Standard & Poor’s cutting its ratings on a number of miners to reflect falling iron ore prices did not help sentiment. So BHP Billiton lost 47.5p to £14.16, Antofagasta fell 18.5p to 722p and Anglo American dropped 23.3p to 998.7p.
Rio Tinto was 23p lower at £28.14 despite analysts at Bernstein renewing the suggestion that Glencore, down 4.5p at 285.15p, might return to bid for the mining group:
We still believe that the logic behind the combination is compelling, despite the fact that the deal cannot be justified at spot commodity prices. If Rio falls further on the crashing iron ore price, or the iron ore price recovers, Glencore could pounce.
Miners were not the only companies hit by the weak Chinese figures. Burberry lost 28p to £17.78 on concerns of a luxury goods slowdown in the region.
Retailers also suffered from concerns that Tuesday’s UK inflation figures could see a negative figure. So Tesco fell 6.7p to 244.30p and Marks & Spencer ended down 8.5p at 567p.
But banks were in favour, with HSBC 5.9p higher at 618p as Morgan Stanley raised its recommendation:
Challenges remain on revenue, capital, and complexity, but with the stock now close to our price target and upside broadly in line with the sector, we upgrade HSBC to equal weight [from underweight], noting that the stock has underperformed the STOXX Europe 600 Bank Index by around 17% year to date.
Lower down the market Epistem Holdings jumped nearly 21% to 320p after its molecular diagnostic device, Genedrive, received regulatory approval from the Indian Drug Authority. The approval allows the company to commercialise Genedrive as part of the tuberculosis eradication programme being undertaken in India.
Finally three oil explorers active in the Falklands shelved plans to drill a second well in the south and east of the region following the sharp drop in crude prices. Analysts were generally positive on the news, since it allowed the companies to concentrate on other parts of the Falklands.
Of the three, Falklands Oil & Gas was unchanged at 29p, while Noble Energy and Edison International saw their US shares slip back. On Falklands Oil & Gas, analysts at SP Angel said:
While some observers might point towards today’s news as a negative for the company, we believe that the fact that the management team is managing its risk profile on a portfolio basis and not becoming too attached to any one individual asset is a strong, positive statement.
