Shares of Medibank Private Ltd (ASX: MPL) rallied strongly on Wednesday in the final session before the Christmas break. While they had previously struggled to break through the $2.30 mark (having done so on just two occasions) the shares closed out the week trading at $2.38.
At that price, retail investors who bought their shares in the November float are sitting on a paper profit of 19%. In the same time, the benchmark S&P/ASX 200 Index (Index: ^AXJO) (ASX: XJO) has risen just 0.6%.
At its current price, Medibank boasts a market capitalisation of roughly $6.55 billion. With FY15 net profit after tax (NPAT) expected to hit $258.2 million, the stock is trading on a projected P/E ratio of 25.4 times earnings. It also offers a yield of just 2.1%, with the company expecting to pay 4.9 cents per share in FY15.
To justify that high valuation, Medibank will need to reduce costs considerably and become far more competitive with its rivals, being BUPA, HCF and NIB Holdings Limited (ASX: NHF). Investors will be looking for significant improvements when the company delivers its half-year results in February and its full-year results in August, or else the stock could come under some heavy selling pressure to bring the shares to a more reasonable level.
Rather than buying at these potentially inflated levels, investors would be wise to add the stock to their watchlist until the shares fall in price, or until the outlook for the insurer becomes clearer. Until then, there are plenty of other compelling stocks worth taking a look at – some of which could deliver far greater returns than Medibank in 2015 and in the ensuing years.
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Motley Fool contributor Ryan Newman does not own shares in any of the companies mentioned. You can follow Ryan on Twitter @ASXvalueinvest.
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