The shares have fallen precipitously, are bank shares now so cheap that they are at a bargain basement level? Is it time to buy banks?
Is it time to buy banks?
Over the last few years I have been super pessimistic about banks. For me, they were among the prime candidates to be disrupted by technology. I want to revisit the disruptive threat, and see if those arguments still apply.
Four years ago I argued that banks were vulnerable for the following reasons:
- IT legacy; banks are stuck with technology developed several decades ago, new players are at an advantage in that it is arguably easier to create the technology from scratch.
- Low barriers to entry; now the bank branches are a less important part of a bank’s base, barriers to entry have fallen.
- Open banking regulation; this is handing new banks such as Monzo or Starling bank a big advantage.
- Trust; post 2008 trust in the banks among customers had all but disappeared, various surveys had suggested that younger customers would be more interested in a banking proposition from one of the giant techs.
- Alternative forms of lending such as peer to peer lending.
Four years on, has anything changed? Well, blockchain as a threat to banks feels more like hype than reality to me. Many of the larger techs have lost trust, while the banks have slowly regained it. The trust ratio of banks to big techs may have partially reversed.
Look at bank share prices and I am tempted to argue that these disruptive threats to banks are now priced in.
Take shares in Barclays, they have halved since 2015. Lloyds is down by 40 per cent, RBS is down 45 per cent since 2014, even HSBC is down 20 per cent since January 2018, although it is up by more than a third since 2016.
The case for HSBC is pretty much the same as the case for other FTSE 100 companies which are popular with the tipsters. Last year’s sell-off has made shares look cheap, but whether they are indeed cheap depends on whether you think the 2018 sell-off just was justified. My own feeling is that last year markets correctly priced an economic slowdown in 2019 which may get worse in 2020. But the economy should recover at some point in the next couple of years, and with that shares will recover.
If you think the economic problems are worse than that; then shares have further to fall.
If we see self-inflicted wounds, such as a hard Brexit and an escalation in a trade war, or if populism changes into something nasty, then things will deteriorate, I am assuming these things won’t happen. If that assumption is right, then stocks look pretty cheap to me.
Barclays, RBS and Lloyds
But Barclays, RBS and Lloyds are special cases.
Are they now cheap? Certainly, looking at Lloyds, the prospective dividend yield is 6.7 per cent and market cap is just seven times projected earnings in 2019.
Or take Barclays, third quarter profits were up 23 per cent, the P/E is modest, market cap is around 60 per cent of the bank’s book value. Dividend yield is around five per cent. Of course, the bank has problems, for example, active shareholder Edward Bramson wants Barclays to rein back on the investment bank and focus more on the consumer division. He is now pushing for changes to the bank’s board.
As for RBS, well, it’s a special case, even in comparison to the special cases of Barclays and Lloyds. The bank is making a tidy profit these days; up ten per cent to £961 million in its third quarter, and certainly is slowly looking a lot more solid; dividends are forecast to rise steadily.
Uncertainty relates to:
- The slowing housing market.
- Potential banking crises in Italy and Australia. The UK banks have limited exposure to these markets. But banking is complex, and this does not mean they don’t have exposure to other institutions that do have exposure to say Italy.
- Trade war.
- Whatever ‘stupid’ thing populism creates next; right now there are some dangerous politicians out there who make me nervous.
Cheap is cheap
Even so, shares have fallen so sharply that I can see why investors may be tempted to move into banks. Sure, shares may fall even further yet, but guessing the low point is a mugs game.
And bear in mind that UK banks are much better capitalised than they were in 2008. Yes, times are uncertain, but banks are a lot more solid than they were in 2008.
These views are those of the author alone and do not necessarily reflect the view of The Share Centre, its officers and employees
These views are those of the author alone and do not necessarily reflect the view of The Share Centre, its officers and employees.