Broker tips: Aviva, European airlines, Weir Group

Aviva is likely to offer a risk-adjusted dividend as Solvency II (S2) legislation is set to drive a shift in the relative attractiveness of dividend strategies across the sector, UBS said.

“This is supported by double-digit growth, around 7% yield (fiscal year 2018) which is above consensus and critically, lower risk under S2 than peers which is under-appreciated, in our view.

“Management guidance implies double-digit dividend per share growth through increasing pay-out to 50% by 2017 and earnings per share growth >0%. This will screen at the top-end of UK life peers and pay-out flexibility implies lower reliance on earnings growth to drive this.”

UBS said insurers face the challenge of S2 leading to the reassessment of risk to dividends as disclosure emerges post fiscal year 2016 on transitional capital, matching adjustment and other items within S2 ratios.

However, UBS said it expects over time the market will pay a premium for insurers funding dividends sustainably from capital build rather than capital buffers.

“Aviva screens well on this basis with S2 dividend cover at the top-end of peer range and robust buffers to withstand shocks including credit rating migration.”

European airline stocks flew lower on Wednesday as Deutsche Bank downgraded its ratings on Ryanair, EasyJet, Air France-KLM and Lufthansa, saying forward-looking data is “simply too weak”.

DB said it looks like winter will be challenging for the airlines, with capacity data suggesting intra-European growth of around 8% over the next six months – levels that are at decade highs.

The same is true on the transatlantic, where capacity is growing around 9% over winter.

“History suggests adjustments to overcapacity can take at least six months. This time the adjustment may take even longer. In short-haul, EasyJet and Ryanair are unlikely to give up attractively priced delivery slots (indeed Ryanair’s CEO said it would only give up its 787s in an “Armageddon” scenario).

“In long-haul the question is whether there are any channels other than North America that can absorb material capacity redeployment.”

Deutsche Bank said demand was unlikely to be able to support these levels of capacity.

“We believe corporate travel budgets remain extremely constrained and early indications suggest only a mixed September bounce-back in activity. Airline promotional activity also seems unseasonably high which is generally not a good sign. Ramifications post-Brexit and the upcoming US elections may also temper traffic.”

The bank downgraded Air France-KLM and Lufthansa to ‘sell’ from ‘hold’, EasyJet and Ryanair to ‘hold’ from ‘buy’ and kept International Consolidated Airlines Group at ‘buy’.

Deutsche said IAG and RYA are still its preferred stocks in the space. It reckons IAG has been sold off far too aggressively on Brexit concerns, adding that management continues to actively pursue structural cost reform of every line item.

As far as Ryanair is concerned, it said the company has unmatched cost control in the space and digital developments that are sector-leading.

“We firmly believe it is a medium-term winner, but in the short term we see its significant capacity addition finally resulting in lower-than-expected pricing.”

As far as Air France and Lufthansa are concerned, it said that with the “happy days” of oil-based gains over, thoughts will again turn to whether the airlines can kick-start structural cost reform.

Deutsche said EasyJet is struggling to keep its cost base from inflating and yields unfortunately seem to be continually under pressure from FX and external events.

Morgan Stanley upgraded its recommendation on Weir Group, telling clients the mining cycle was stabilising and that miners´ ability to spend was set to improve, with capital expenditures on replacement described as a "sweet spot".

Combined with forecasts for an inflection in the rig count in 2017 and 2018 the broker´s estimates for earnings per share at Weir were now 11% and 33% ahead of consensus, respectively.

"Miners'ability to fund capex – set to improve: At spot rates (and MSe base case forecasts) miner post-dividend cash flows are on track to be positive in 2016 for the first time in 4 years and will be close to peak levels in 2019/20, leaving scope to raise dividends and/or investment in growth (ie capex). We believe this sets the scene for a sustained earnings recovery in mining equipmentnames," analysts Robert J Davies and Ben Uglow said in a research report published on 6 September at 2003 BST.

The broker upgraded its view from 'equalweight' to 'overweight' while maintaining its target price of 2,000p.