If I had a lump sum of £5,000 to invest today, I’d buy Aviva (LSE: AV) shares. There are a couple of reasons why I’d invest such a substantial sum in this business.
For a start, I think the stock looks cheap. At the time of writing, shares in the insurance giant are trading at a price-to-book (P/B) ratio of 0.8 and a price-to-earnings (P/E) ratio of 7.7. That’s compared to the industry average of 1.6 and 12.4 respectively.
As such, it seems to me Aviva looks cheap compared to its insurance industry peers.
However, just because a stock looks cheap isn’t necessarily a good reason to invest a large sum. Indeed, before investing any money in a cheap business, I think it’s always best to try and understand why the market has such a low opinion of the enterprise in the first place.
What’s gone wrong?
With Aviva, I don’t believe there’s a single, straightforward answer to this question. I think investors have been avoiding the Aviva share price for many reasons, most important of which is the group’s lack of growth. For example, in 2016, the organisation reported revenues of £55.3bn. Analysts are forecasting sales of just £34bn for 2021.
Management is trying to do something about this. Historically, Aviva has operated as a group of international businesses. Some of these enterprises haven’t been as profitable as others. Many have lacked the scale required to compete effectively in their respective markets.
To deal with this issue, the company’s new management team has taken the axe to overseas divisions. Alongside its full-year results for 2020, published at the beginning of March, the group announced the sale of Aviva Italy for €873m, building on the previously announced sale of Aviva France for €3.2bn.
Not only will these deals allow the company to focus on its home market, but they’re also going to free up capital. These two deals alone will add around £3bn of excess capital and £3.9bn to cash on hand. This is a significant cash infusion, which gives management plenty of options to pursue growth opportunities, return cash to investors, or pay down debt.
This additional capital is another reason why I’m incredibly excited about the outlook for the Aviva share price.
What’s more, by focusing on what it does best and slimming down to its home market, I think Aviva should be able to achieve more stable growth rates in the long run.
Aviva share price headwinds
Those are the reasons why I’d invest a large sum in Aviva today. But as well as these opportunities, the company faces some significant headwinds as well. The insurance industry is incredibly competitive. The firm needs to stay alert, or it could suffer significant market share loss.
Further, as a life insurer, the company’s outlook is tied to interest rates. A sudden rise in rates could significantly negatively impact its balance sheet, which would likely harm shareholder returns. This risk, and the general complexities of insurance, suggest this stock might not be suitable for all investors. This risk factor will always hang over the Aviva share price.
Still, I’m comfortable with the level of risk involved. That’s why I’d be comfortable buying the stock.