Rolls-Royce and Aviva shares tipped to surge again

Upgraded price targets for Rolls-Royce Holdings (LSE:RR.) and Aviva (LSE:AV.) today powered the engines giant’s shares above 600p for the first time and lifted the insurer to a multi-year high.

City bank Jefferies sees Rolls at 800p a share as its top pick in European aerospace and defence, while UBS and JP Morgan revealed new estimates for Aviva of 675p and 615p respectively.

Both stocks played their part in another robust session for the FTSE 100 index as Aviva rose 19.2p to 513.2p and Rolls put on 12.8p to extend the rally of the past week to 8% at 606.8p.

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Rolls shares were less than 100p in early 2023, when newly appointed chief executive Tufan Erginbilgic likened the engines giant to a “burning platform”.

The company is now worth £50 billion as the 12th-largest stock in the FTSE 100, having repeatedly surpassed City expectations in terms of profit and cash flow delivery.

Erginbilgic’s focus on commercial optimisation and cost efficiencies has led to the restoration of investment-grade credit ratings, meaning Rolls is able to declare a dividend with annual results on 27 February. It intends to make a payout equivalent to 30% of post-tax underlying profit.

Engine flying hours (EFH) have returned above 2019 levels and the recovery has stayed on course despite significant supply chain headwinds across the aerospace industry.

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The 23% increase in the price target of Jefferies to 800p stems from a 6-7% improvement in its earnings forecasts for 2025 and 2026 due to a rejig of foreign exchange modelling and a wider re-rating of after-market engine names.

The bank favours Rolls heading into the earnings season. It said: “While 2024 EFH are now expected 2% above 2019 (vs. the guide at 0-10% above) we’re encouraged by the trading update comments of ‘increased confidence’ in the guidance.

“To us, this feels like the group is on track to reach the top-end and possibly even beat its full-year guide, versus consensus and our expectations which are more modestly set still below the top-end on both earnings and free cash flow.”

The support for Aviva by UBS reflects its view that the market has been overly conservative on the benefits of its proposed £3.7 billion takeover of Direct Line Insurance Group (LSE:DLG).

The bank has increased its price target by 14% as it sees the acquisition being at least 12% earnings accretive, fuelled by forecast cost synergies of £200 million compared with the company’s guidance of £125 million.

The deal will increase the insurer’s mix of capital-light and higher-return lines of business, meaning UBS expects Aviva to return about 40% of its market capitalisation to shareholders over the next three years. That compares with peers at less than 35%.

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UBS said: “Aviva delivers these superior returns at a lower cost of equity given its diversified business mix, low payout ratio and moderate sensitivity to a market downturn.”

The cash and shares deal for Direct Line, which was pitched at a 73% premium to its rival’s undisturbed share price in November, is expected to complete by the summer subject to shareholder and regulatory approval.

Aviva, which trades with a forecast dividend yield above 7%, is due to report annual results on 27 February.