So you bought Direct Line... What now?
Filed under: Investing
If you bought shares in Direct Line (LSE: DLG) you are not alone.
Apparently, some 25,000 or so private investors like you took the plunge when the insurer floated earlier this month. What's more, many people applying had reportedly never bought a share before.
After all the applications were received, assessed and processed, retail punters ended up – on average – with shares worth about £5,000 each at the 175p float price. These armchair investors collectively now represent about 5% of the group's share base.
So far, Direct Line's shares have done well – they've risen to 189p. But if you're a newbie investor and Direct Line is among your very first investments, what now?
Tune in to the news
Well, the first thing I'd recommend is to keep an eye on Direct Line's news and results. You see, in the long run, it will be the performance of the underlying company that dictates where the share price goes from here.
Simply put, if Direct Line can sell more insurance policies and lift its profits and dividends from year to year, then the share price ought to rise accordingly.
You can keep track of Direct Line's statements through the group's corporate website. The site provides a financial calendar that can alert you to forthcoming news – the group's next statement occurs on Friday, 2 November – as well as a recap of the firm's past accounts.
If you're anything like me, then you check your share prices a few times every day! Sure, we Fools know that investing in the stock market is a long-term proposition, but it's still fun to see how you're doing!
But the truth of the matter is that share prices on their own don't tell you too much. In particular, you need to assess them in relation to how the underlying company is doing.
So, if Direct Line's shares rise – but the insurer's profits improve also – then perhaps the shares may still tempt other investors to buy... and could be worth keeping hold of.
Buy, sell or hold?
I always use profits and dividends to help me judge whether to buy, sell or hold a share.
For example, I've looked at Direct Line's latest results and it seems annual post-tax profits are running at £317 million, or about 21p per share. My calculation therefore values the 189p shares at nine times profits.
I've also read on Direct Line's corporate website that the company plans to distribute between 50% and 60% of its underlying profits as a dividend each year.
So if my profit prediction is accurate, current holders could in time receive an 11.5p per share annual payout. That means anyone buying at 189p may in return collect a 6% dividend income.
Direct Line versus the market
To put my sums into perspective, the entire FTSE 100 index – a measure of the 100 biggest public companies here in the UK – is valued at about 11 times profits and yields a 3.8% dividend income.
So the shares of Direct Line look cheaper than the wider market, which leads me to believe there's scope for the share price to advance further... if the company can perform well.
Certainly, the fact that Royal Bank of Scotland (LSE: RBS) was ordered by the European authorities to sell Direct Line could explain why the shares might appear good value. As in most walks of life, good deals can often be had from 'forced sellers'!
In the short term, Direct Line's cost-cutting initiatives should save £100 million a year and ought to help profits move in the right direction.
No matter how convinced you may be about Direct Line and the insurer's future, there is always the chance things may go wrong and the share price takes a beating.
That's why at The Motley Fool, we encourage all investors to build a diversified portfolio and spread their risk among various businesses and sectors. In today's uncertain economy and tricky markets, there are many companies that can be relied upon to deliver faultless progress.
Indeed, you only have to look at Tesco (LSE: TSCO) to discover how even the bluest of blue chips can let investors down.
For years, the supermarket was a model of consistency, lifting its profits and dividends to push the share price ever higher. What's more, Tesco even had legendary investor Warren Buffett among its shareholders.
But all that could not stop Tesco from issuing a profit warning earlier this year, wiping 20% from the group's market value and scaring many shareholders away.
Make the most of the market
So to help you make the most of the stock market, we've put The Motley Fool's brightest analysts to work looking for great shares that could sit alongside Direct Line in your portfolio.
Certainly, the team of share-pickers at Motley Fool Share Advisor has already recommended a number of companies that look attractive to me.
Although a hint of modesty and a large dose of regulation forbid me from revealing exactly how well the team's past recommendations have performed (you are welcome to see for yourself), I'd like to think many newbie investors have already benefited from The Motley Fool's advice.
I do hope that, after buying Direct Line, you can now let Motley Fool Share Advisor help find your very next investment!
The Motley Fool owns shares in Tesco.
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