When Rolls-Royce (LSE: RR) announced in early October its proposed recapitalisation package, trading volume in the company’s shares went through the roof. It seems that investors – including many big-hitting institutions – were piling into the stock.
Why Rolls-Royce shares shot up
You don’t need me to tell you the outcome of all that buying activity. Indeed, the shares shot up by around 100% in just over a week. Such had been the extent of the stock’s downfall in the wake of the coronavirus pandemic. Grounded air-fleets meant much of the firm’s business dried up. The half-year results report in August was a wreck, and the balance sheet had dived from having a healthy position in net cash to having a nasty position in net debt.
Media speculation about the need for Rolls-Royce to re-capitalise was rife. And the directors said many times they were considering all options. Indeed, asset sales are on the cards along with a big redundancy programme. And the top management team also insisted it was considering issuing more equity (shares) as well as more bonds (debt).
No wonder the share price had fallen so far. Rolls-Royce had become almost unviable as a business. The firm needed to shrink its costs to suit its reduced income. With no change, there was a real possibility that the business would go bust.
So, the big move up in the share price is rational. Re-financing takes away the immediate danger and allows time for the company to execute the reduction of its costs and to complete its capital-raising asset disposals. Indeed, the company will be able to right-size its business for the trading conditions that exist now. Suddenly, Rolls-Royce became an investable proposition once more. That’s why, I suspect, there was such big buying of the shares when the re-capitalisation announcement hit the news wires.
Consolidation and opportunity
The interesting thing is, the trading volume in the shares has been compressing and attenuating over the past few days. That’s a good sign. If you look at the share-price chart you’ll see the stock has begun to fluctuate up and down. That’s another good sign because it means the share is trying to consolidate.
What a share-price chart does well is to reflect all the buying and selling activity in a share. And all that trading activity itself reflects overall investor sentiment and the levels of supply and demand for a stock.
Cleverer investors than me, such as Mark Minervini, Jesse Livermore, and many others have it that consolidations on price charts can make good buying points. Minervini, for example, goes even further and insists that if the up and down waves in a consolidation attenuate and get ever smaller, eventually we will arrive at a pivot point. And pivot points are good. Often, if a share breaks up from a pivot point, there’s a good chance the move will continue.
I wouldn’t act unless the fundamentals back up a bullish stance in a share. In the case of Rolls-Royce, I think they do. Now the company has organised its re-financing, there’s a good chance the business can go on to recover and grow in the years ahead. So, with the share price near 219p (80% below its August 2018 peak), I’d be a buyer of the stock now.
Kevin Godbold has no position in any share mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.