Let’s be honest — anybody who didn’t buy Rolls-Royce (LSE: RR.) shares prior to 2024 are probably regretting it. The stock’s up over 700% in the past three years and shows no signs of slowing.
At the same time, buying now feels risky. The price chart looks like a speculative tech stock in bubble territory — surely, a correction is imminent?
However, looking at the company’s most recent full-year results (released 26 February), there’s no reason to expect any issues. Revenue rose 14% to £20bn and underlying operating profit jumped to £3.5bn — a 17.3% margin. Free cash flow reached £3.3bn and left the group with a £1.9bn net cash position.
Still, with a forward price-to-earnings (P/E) ratio of 33, buying at this price doesn’t feel cheap. There’s little doubt the company will continue to deliver spectacular results in the long run, but a lower entry point would be nice.
That’s where a brief market crash could provide a once-in-a-decade opportunity.
Market jitters
Both the FTSE 100 and S&P 500 have enjoyed unusually strong growth in the past few years. Subsequently, most major indices are looking overvalued, leading analysts to fear a short-term correction. The S&P 500’s Shiller cyclically adjusted price-to-earnings (CAPE) is just under 40 and the Fed’s own stability report notes forward valuations are near the top of their historical range.
Both Morgan Stanley and Goldman Sachs have spoken about the possibility of a 10%-20% pullback over the next year or two. Key triggers that could spark a downturn are the artificial intelligence (AI) bubble bursting, inflation staying too high, or a policy mistake from central banks.
Factor in geopolitical tensions driving up oil prices, and the chances of a full-blown crash are looking stronger than ever.
That’s not exactly the news most people want to hear. But for investors like myself — eyeing high-priced shares — it’s not all doom and gloom. Sure, my overall portfolio value might dip for several months but I could get the chance to scoop up some cheap Rolls shares before they come back stronger than ever.
What are the risks?
Of course, there are risks when planning to buy shares during a correction. There are no guarantee when — if ever — the shares will recover.
On top of that, an economic downturn could have detrimental effects for Rolls-Royce. The government may be forced to cut defence spending and air travel could take a hit if tightening purses put holidays on hold.
Both events would likely hurt Rolls’ profits.
Preparation is key
A stock market crash is an event nobody looks forward to — in an ideal world, they would never happen. But like it or not, they’re a fact of life and in many cases, a necessary one.
The key is to be prepared, rather than fearful. Keeping cash aside to take advantage of lower prices is a popular method, one touted by famous investors like Warren Buffett.
Following a spectacular recovery, Rolls-Royce looks stronger than ever and is on track for a bright future. For investors who missed the boat in 2023, a dip could provide a rare chance to buy some shares at a more rational price.
But whether a crash comes or not, it’s still a top quality company that’s worth considering for UK investors with a long-term outlook.
