Buy Provident Financial Plc

Provident Financial is a rare financial company that offers double-digit earnings growth (EPS CAGR of 15%), resulting in 25% potential upside to our price target of 1970p, coupled with a high and growing dividend yield of 5.4%.

Recent investor concern that PFG’s major shareholder may be looking to sell part of its significant 25% holding appears overblown and we believe that the recent share price weakness provides an ideal entry point for investors looking for both capital growth and income.

Sell Smith & Nephew / Buy Shire

Today, we are recommending our clients to sell Smith & Nephew Plc and switch into Shire Plc.

Smith & Nephew Plc has performed well since we added the stock as a ‘special situation’ in our model portfolio. We are now advising our clients to take profits as though the business is in reasonable shape, we see limited near-term scope for either higher earnings expectations or for further capital deployment to drive the share price much higher. Technically, the stock is at all-time highs and fundamentally, the risks are now to the downside with the consensus broker price target coming in at 741p, 5% below current levels. Indeed, trading on a 15.6x forward P/E multiple, Smith & Nephew’s prospects are by and large already reflected in the share price.

Shire is a leading specialty pharmaceutical company, with a balanced portfolio of differentiated products focusing on life-altering conditions such as rare genetic diseases and behavioural health such as Attention Deficit Disorder and Depression.

A cheap valuation, both compared with its peers and its historical P/E multiple, indicates that the current share price represents a very attractive entry point to a long-term industry winner. Potential EPS upside in the form of clarity on legal challenges and positive developments in its pipeline could propel the stock further than expected, as indicated by Goldman Sachs’s optimistic 2675p price target (indicating 30% potential upside).

On top of that, Shire has been cited as a takeover target for many years. With improved clarity on the pipeline and the legal front, this scenario seems like a real possibility more than ever.

Sell Prudential / Buy Aviva

Today we are advising our clients to switch from Prudential to Aviva.

Prudential has had a great run of late. The stock is up 30% year-to-date and 13% since the evening before the FY12 results were published. The stock is trading on a 2.9% yield and 1.4x Price/EV (enterprise value), a premium sector’s 4% yield and 1.1x Price/EV. The consensus price target amongst the analysts is 992p, versus the current share price of 1082p (suggesting 8% downside). We concur that the stock looks pricey on valuation terms and are recommending our client switch into Aviva.

Aviva has fallen heavily since it recently cut its dividend. In its preliminary results, it demonstrated delivery on its plan to date and commitment to forming a cleaner, more transparent and profitable business going forward. The stock is currently trading on trading on a 2014E PE of 6.6x (vs. sector 9.7x), dividend of yield of 4.8% and a 0.9x Price/EV. We feel that this is an opportunity to benefit from this turnaround story. The consensus price target amongst the analysts is 400p. Currently, the stock is trading at 309.45p, suggesting ~29% potential upside.

Click here to read our last research note on Aviva. Aviva is one of Citi’s top picks for the European insurance sector and is on the Citi Focus List Europe with a price target of 432p.

Sell AstraZeneca / Buy GlaxoSmithKline

Today, we are recommending our clients to sell AstraZeneca (“Astra”) and switch into GlaxoSmithKline (“Glaxo”).

AstraZeneca has had a good run as late, rising from 2792p to its current 3024p share price in just two months (a 8.3% gain). Though we originally switched from Glaxo into Astra, this call has not performed as we would have liked. Poor sales in Europe, falling drug prices and a shift to lower-cost generics have not been kind to the company’s share price. With that, J.P.Morgan Cazenove has today reiterated its underweight position with a 2970p price target citing declining earnings for the remainder of the decade on the back of an insufficuient drugs pipeline.The dividend may also be at risk, with the company having recently halted its share buyback ptrogramme prompting talk of a possible “strategic” acquisition.

We are using the low price of Glaxo as an opportunity to buy back in. Though priced on a higher p/e multiple (11.8x vs. 7.9x) and yielding slightly less at 5.5% (vs. 6.1%), we feel its more stable earnings mean a more secure dividend. The company’s growing business in emerging markets and its large consumer healthcare operation are both doing well, both justifying the valuation premium and securing its dividend. The company is also countering the pressure on ‘white pill’ markets in developed economies by restructuring its manufacturing operations, which is forecast to generate £500m of savings by 2015, which comes on top of the £2.5bn of annual savings the company has already found over the last four years.

Most investment banks appear to be more positive on Glaxo than Astra with Deutsche Bank having a price target of 1450p vs. 3000p for Astra. Combined with a solid 5.5% dividend, rising to 5.8% next year, we rate the shares a core holding in everyone’s portfolio.

Sell SSE / Buy Centrica

Today, we are recommending our clients to sell SSE and switch into Centrica.

SSE has had a good run as late, outperforming European utilities, and is now sitting on an expensive March 2014 12x earnings. Citi has just cut its price target to 1270p (current price is 1398p), which would see SSE trade at 11x P/E for 2013e. J.P.Morgan Cazenove do not see the current valuation as fully reflecting the challenges and remain Underweight with a 1190p price target. They see pressure on the balance sheet coming from depressed spark spreads, falling coal profits and lower investment in renewable power due to uncertainty around government policy. They also dislike SSE’s significant capex requirement, high net debt and low dividend cover.

We would use the recent rally in the share price as an opportunity to take profits and switch into Centrica, a FTSE 100 company we believe to be poised for a rerating. The company is increasing its gas production, seeing improvements in its home services division and is expanding into North America, an attractive market characterised by lower political risk, higher profit margins and less regulation.

Centrica’s shares look attractive from both an income and a growth perspective. Based on current forecasts, the shares are yielding 5.1% and the cash-generative nature of the business means this looks secure, being covered 1.3 times by earnings. Centrica looks set to increase Earnings Per Share by 4% this year and the shares look attractive on a 2013 earnings multiple of just 11.9x. J.P.Morgan Cazenove has a 365p price target, providing a potential 13% return on top of the 5.1% dividend yield.

Halfords – Sell

Our Halfords recommendation has not performed as we would have liked, with an initial innocent-looking warehouse distribution problem being followed by a series of profit warnings.

We are now recommending investors cut their losses following the tremendous 75% rise from the July low of 188p. This rally was driven principally by expectations of an Olympics boost, a better than anticipated Q2 update (retail sales benefitted from pent-up cycling demand caused by poor Q1 weather) and the positive appointment of new CEO Matt Davies, former Chief Executive of ‘Pets at Home’.

JPMorgan Cazenove believes that the appointment of Mr Davies is a strong positive, as his background is in large scale, service orientated retailing. They expect a strategic review of the business will include a substantial downsizing in the store portfolio and a pricing review, given the competitive nature of the online leisure industry. However, the initiatives that are necessary will obviously take time to implement and take effect.

In the meantime, expectations have moved higher and even flat gross margin guidance looks demanding. Fundamentally, the share price looks fully valued now trading on a forward P/E multiple of 12.5x and it has surpassed the price targets of most brokers (UBS=285p, HSBC=330p, Deutsche Bank=300p, Peel Hunt=280p etc).

Technically, the shares are overbought with the RSI above 80 level (an extremely overbought reading) and the shares are potentially at a ‘double-top’.

Given the stock’s outperformance in both relative (+50% vs. the sector over the last 3 months) and absolute terms (+75% since late July), the near term risk lies to the downside

Daimler AG – Buy

UBS has recently raised its 2012 S&P 500 price target to 1,525 on the belief that the near term liquidity-driven rally will continue. Over the short-run, they believe that pro-cyclical groups such as energy, materials, autos, homebuilders and diversified financials are likely to lead the market.

With that in mind, we have looked at the auto sector, where Goldman Sachs sees 44% upside potential. In periods of increasing equity risk premia, well-positioned companies with sector-leading returns tend to outperform. Autos have shown the highest earnings momentum of any sector in the European market over the last one and a half years. Still, Goldman Sachs states that European autos is by a significant margin the least expensive cyclical sector in the region.

Our pick of the sector is Daimler AG. The company looks to be in the right place at the right time and the stock’s low valuation (8x P/E) and high dividend yield (6%) certainly sets a floor to the share price. Added to that the sectors earnings momentum and low valuation, and we see the stock poised for a period of strong share price performance ahead. Goldman Sachs has a €98 price target, 153% above the current level. Whilst this seems fanciful, even Citi’s more conservative €45 price target points to 22% possible upside.

General Accident 8 7/8% Preference Shares – Buy

With base rates remaining stubbornly at 0.5%, income seekers are finding it hard to generate the kind of income they have grown accustomed to in recent years. However, for those prepared to widen their income-seeking horizon, there are attractive opportunities.
A hybrid of an ordinary share and a bond, preference shares stand in front of (i.e. are preferred to) ordinary shares in the queue for cash when a company is wound up, but behind all forms of company debt. They are also preferred to ordinary shares for dividend payments; indeed, no ordinary dividend can be paid until all dividends due to preferred holders have been paid.
We are recommending to our clients the General Accident 8 7/8% Preference Shares. A wholly-owned subsidiary of Aviva Plc, they are cumulative, meaning if the dividend is not paid one year, it is rolled up to the next. Priced at 104.5 pence per share, the current yield is yield 8.5%. Please find attached further information along with our guide to the preference share market.

ETFX DAXglobal Gold Mining ETF

Please read our complimentary research on what we believe could offer a potential 20% return this year, which is suitable for investors with a high risk tolerance. The price of gold bullion and gold mining shares has diverged to such an extent that we feel the gold miners are a ‘buy’ for the following reasons:
1) Gold miners are cheap trading at 20x earnings, a level not seen since the 2008 financial crisis.
2) Gold miners are oversold against the wider market, having fallen 11.75% since October compared with the S&P 500’s 28.56% rise.
3) Gold miners are low against the price of gold bullion.
4) Technically, the shares are at the lower end of a falling wedge, a bullish pattern.
We are recommending the purchase of the ETFX DAXglobal Gold Mining Fund, a low cost ETF that provides diversified exposure to the theme.

Dogs of the Dow 2012

Read this year’s stock selection from the Dogs of the Dow, a theory that uses yield and price to determine stock selection.
The single stock selection, RSA Insurance Group Plc, turns out to be the same as last year. Despite the fact that the performance has not lived up to expectations (-16% compared to -5.6% in the FTSE 100, though 9.04p in dividends reduces the loss to -6.9%), we believe the stock warrants further attention and holders should remain invested.
For those who did not invest last year, the company is rated as a “Buy” by most analysts (Citigroup has a 145p price target, indicating 34.9% potential upside not including the 8.8% projected dividend yield). Despite its exposure to bad weather and other global disasters, RSA had £1.3bn surplus capital which represents twice its regulatory requirement and 89% of its investment portfolio is invested in high-quality bonds, with less than 1% in Eurozone Government bonds.