Late last year, the Aviva (LSE:AV.) share price hit levels not seen in over a decade. Over the past month, it’s fallen 8%, with some people saying the party’s over and that further gains from here could be hard to come by. But is this really the case?
Head in the clouds
One of the main reasons to support the argument is valuation. The stock’s big rally over the past couple of years has exceeded the pace of earnings-per-share growth. As a result, the price-to-earnings (P/E) ratio’s risen and now stands at 26.48. When you compare this to the FTSE 100 average P/E ratio of 18, it’s clear why some might feel the stock’s overvalued. Going forward, it’s harder for an overvalued stock to keep rallying as it’s less appealing to new investors.
At a business-specific level, I think some are worried about the integration following the recent Direct Line acquisition. Investors are expecting big synergies, with vast cost savings and earnings impact. Yet if regulatory problems arise, or if efficiencies are smaller or take longer than expected, the positivity could fade. Put another way, the optimism from last year, which helped to fuel the rally, could mean all the good news is factored into the stock price. Going forward, any negative adjustment could hurt the stock this year.
Finally, I recently read an interesting piece about how insurance stocks, more broadly, could be disrupted negatively by AI. When it comes to marketing and attracting clients, Avivia could lose out. If AI companion tools cut through the noise and provide consumers with instant comparisons with other companies, it might drive customers elsewhere.
Dividends keep interest high
On the other hand, there are plenty who might argue for buying the stock. Income investors likely would make up a large crowd here, given the generous 5.9% dividend yield. Over the past year, it’s stayed easily above 5%, well ahead of the index average.
The dividend cover’s 1.9, with anything above 1 showing that the current earnings per share more than covers the divdiend per share. As a result, I don’t see the dividend as being under threat anytime soon. This means that people might continue to buy the stock on the premise of future dividends.
Despite concerns about Direct Line, the flipside is that it could yield even greater benefits than currently expected. In the November financial update, the CEO reportedly said: “We now expect to achieve £225 million in cost synergies, nearly twice our original estimate”.
If we get future updates with better performance, the stock could enjoy a further surge.
The bottom line
I don’t think the party’s over for the stock, but I feel we could see a period of consolidation or even some share price correction in the coming months. However, I believe this is healthy, as no stock can simply keep rising forever. If we do see a dip, I think it could represent a good opportunity to consider buying for the long term, given the income benefits and roadmap relating to Direct Line.
