The UK economy’s improving outlook suggests we could see a stock market rally over the next few months. And with that in mind, I’ve been looking for the best shares to buy to profit from this potential for recovery. The Rolls-Royce (LSE: RR) share price is one investment that features at the top of my list of recovery plays.
Stock market rally
The UK’s rapid vaccine rollout and economic reopening plan could help the economy return to 2019 levels of activity by the beginning of 2022. That’s according to the most optimistic economic forecasts. Of course, these are just projections at this stage. There’s no guarantee they’ll turn out to be correct. As such, it doesn’t make sense to rely on these figures entirely.
That said, figures show the UK economic outlook has improved over the past few months. This has helped investments such as the Rolls-Royce share price recover strongly. Over the past six months, shares in the aerospace engineering group have increased by 42%. Unfortunately, despite this performance, the stock is still down 45% over the past 12 months.
Still, if the economy does return to growth, I think the Rolls-Royce share price could be one of the biggest beneficiaries.
Since the pandemic began, the aerospace group has been struggling to stay afloat. Rolls generates the majority of its income from engine service contracts. Even though the corporation is far more than an engine manufacturer, these contracts provide a steady stream of cash flow for the company for years after the product is sold.
Revenues on these contracts are tied to the number of hours flown by each engine. Therefore, if the machines are not in the sky, Rolls won’t be paid. As much of the aerospace industry has been grounded throughout the past 12 months, this has had a significant impact on the group.
If the industry begins to open up in 2021, this could power Rolls’ recovery. The company could also benefit from several other tailwinds.
Rolls-Royce share price tailwinds
The company is also developing so-called Small Modular Reactors, mini nuclear power plants, which could have an enormous market. The organisation wants to have the first of these up and running in the UK by the 2030s.
The group is also investing heavily in green technology and was recently awarded a contract by the UK government to develop its Artificial Chief Engineer technology. This is an “autonomous machinery control system, which allows Naval vessels to undertake long endurance missions with less human interaction.“
The development of these technologies suggests to me Rolls has tremendous potential as we advance. Its investments in artificial intelligence and renewable energy could yield huge dividends in the years ahead.
At this point in time, the company is still incredibly dependent on the aerospace industry. It could take years for other divisions to start contributing to the bottom line. They may fall victim to cost-cutting as the business struggles to stay afloat.
Rolls faces other challenges as well. There’s no guarantee the aerospace industry will recover any time soon. This could put additional pressure on its already weak balance sheet.
So, while it could be an excellent way to invest in the stock market recovery for 2021 and the future of the UK economy beyond that, I wouldn’t buy the stock for my portfolio today.
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Rupert Hargreaves owns no 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.