Broker tips: Barratt Developments, Royal Dutch Shell, Wood Group

RBC Capital Markets downgraded Barratt Developments and Taylor Wimpey as it tempered its view on housebuilders ahead of a potential interest rate rise.

The Canadian broker maintained that the structural demand drivers and land-buying trends are positive, and that the sector has become more disciplined regarding capital allocation. However, it said margin expansion, cash-flow generation and potential shareholder returns were now reflected in sector valuations.

It cut Taylor Wimpey to ‘outperform’ from ‘top pick’, saying the stock has now re-rated considerably, but lifted the price target to 220p from 190p.

RBC said Wimpey has been the strongest performer in the sector, outperforming by 10% year-to-date.

“We see 2015 as the end of its investment programme, with Taylor Wimpey moving to land replacement mode. We believe that this has been a catalyst for the shares, driving outperformance.”

The bank downgraded its stance on Barratt Developments to ‘sector perform’ from ‘outperform’ but lifted the price target to 680p from 575p.

It said Barratt has successfully shifted from being a volume housebuilder and it is now focused on the expansion of return on capital employed, with capital discipline supported by cash returns to shareholders.

“We believe that the improved mix is now largely being reflected in the share price,” the analysts said.

Jefferies upgraded Royal Dutch Shell to ‘buy’ from ‘hold’ but cut its price target to 2,150p from 2,220p.

The broker said it still had reservations about the price of the BG acquisition. However, post-transaction it believes significant further value can be added through divestitures/share repurchases and further cost savings and synergies.

“We expect the combined entity to have amongst the most resilient cash cycles within the sector at a wide range of oil prices,” Jefferies explained.

The bank said it may be early with this upgrade, at least on an absolute basis. It estimates that the oil market remains oversupplied by about 1.3 million barrels per day in the third quarter and said oil prices could weaken further.

“Hence oil equities could face further headwinds in the near term,” analysts at the American broker added.

Nonetheless, they added that at these relative valuation levels, Shell has become compelling.

In addition, they said the oil price had reached a level that was not sustainable over the medium-term.

“An oil price recovery over the coming 18 months would coincide well with the progress we would expect to see from Shell/BG corporate integration. This is when we believe absolute outperformance will occur.”

Numis has upgraded shares in Wood Group to 'buy' from 'hold' after it reported encouraging results last week.

While revenues declined 19%, more than Numis expectations of a 13% fall, the engineer demonstrated the benefits of its asset-light business model by making significant cost savings to protect margins, with guidance for FY15 raised from cost cuts to $80m from $30m.

"We believe its 1H15 results have demonstrated management’s ability to flex its cost base effectively to largely offset the effects of volume pressure on margins," the broker said.

To reflect these results and the increasingly tough outlook for the 2016 financial year Numis has upgraded its full year 2015 earnings per share expectations by 1% and downgraded its 2016 EPS forecast by 7%.

While believing 2016 earnings consensus has further to fall, analyst Kathryn Leonard said she believed that this is now broadly reflected by the price and should not be surprising to the market given the most recent rout in oil prices.

"Despite downgrading our FY16 forecasts today, we believe Wood Group will ultimately end up being a relative outperformer this cycle as it is one of the few constituents that can aggressively cut its coat according to its cloth, without damaging its business prospects, and has the balance sheet flexibility to make value enhancing acquisitions that inorganically grow the top line in the short term, and provide opportunities for additional organic growth in the medium to long term."