Why I’m still a big buyer of Lloyds Bank shares
No other large British company offers such future value with so little risk as Lloyds Bank, says Adrian Sykes.
A week or two before the election, I suggested that buying Lloyds Bank might be a good way to play the result. I believed that a Conservative-led administration would favour the banks in general, and Lloyds in particular. In the event, the Blues did win an overall majority, but slightly spoiled things by saying that the Treasury would be selling its 20% holding at some point. It is worth bearing in mind that it has banked a £1.5bn profit so far, with much more to come. Please George, bring it on as soon as possible.
There has been a declared overhang of the government's holding, which is now down to less than 20%, from 42% in 2009, for the last two years, made especially excruciating by gifting a two-way business of 5% to Morgan Stanley in December. This programme sat on the share price until completed a month ago, ensuring that the shares rarely rose above 80p for long.
However, that's past now 2015's first quarter figures were announced on 1 May, and the shares surged 10% (to 89p). The bank, carefully and cleverly led by Antonio Horta Osorio since January 2011, has done everything anyone could have possibly asked of it it is now time for the government to get out of the way and leave him to finish the job. He is only 51, so he has plenty of time to do so; and every opportunity, now that a pro-business government has been elected.
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So today I want to tell you why I think you should hang on to your Lloyds shares or buy in if you haven't already.
The long and winding road to recovery
I must make my own position clear. I first bought the shares (down from £5 before the banking crisis) at 22p in early 2009, as a punt on recovery. I also bought a Lloyds bond at a ridiculous price, which proved far more profitable.
When I was a stockbroker in the early 1970s, I remember two clever colleagues buying Southern Rhodesian bonds (deemed by the market as virtually worthless) at 3p in the pound. They were redeemed at par a few years later. One of the happy pair bought a chunk of Portugal with his profits. The other died, as cheerful as one can be under the circumstances I presume.
The lesson of history, they observed, was that sovereign states always repay their debts, however long it takes. China repaid, though the face value of its bonds had been reduced by inflation practically to zero; Russia paid out for its outstanding Tsarist debt too, again at little cost.
My bet was based on a similar view: that a bank founded in 1765 would repair its balance sheet, run down its borrowings and honour its debt as soon as it could. That it took so long was mostly due to the treatment inflicted on the sector by holier-than-thou politicians and over-zealous regulators, who appeared totally to forget that the country needed lending to small businesses and to buy houses more than hypocritical witch-hunts. It is good that a more pragmatic regime seems now to be the Bank of England's chosen way forward.
With that in mind, I bought the Lloyds 7.5884% ULS at 16p (yielding 47.5%), and more as the price rose and I became braver. I sold this at 112p 18 months ago (yielding 6.8%), and bought a new Lloyds issue (7.625%) at par with the proceeds. This stock now stands at 107.5p, still yielding a safe-as-houses 7%. I expect it to rise further.
I bought more of the ordinary shares at 32p and topped up at 38p. I still hold them, but boy, have I had to sweat it out. Having said that, I believe that they will reach 140p within two years (yielding 5% from my forecast 7p dividend in 2017).
Why Lloyds is set to rise much further
Lloyds sat out the years before the crash, looking like a boring Cinderella while the likes of HBOS and RBS were doing the deals that brought them to their knees in 2008. But then it was inveigled into buying HBOS; in doing so, it saved the UK's financial system. Gone were the days of Sir Brian Pitman's sound stewardship. The bank was now headed for the scrapheap, while being reviled for doing so.
However, these dire circumstances are behind us. Lloyds is now the darling of the sector, having outperformed it (and the market) convincingly.
Lloyds was the first bank to accept responsibility for PPI mis-selling and has repaid £12bn to its customers. Despite the latest headlines, these reparations have just about ended.
Lloyds meanwhile is unaffected by threats to enforce 'ring fencing', as it has no investment bank. It is not involved in the LIBOR scandal, for the same reason.
It has so little exposure to Europe (or any foreign country, other than the Republic of Ireland), that Grexit will come (and probably go) without an indrawn breath; ditto from Draghi's QE; ditto the forthcoming EU referendum; ditto any fall out for laundry work done on behalf of Splat Butter and his merry deviants at Fifa; ditto Ukraine or ISIS; and above all, ditto any nasty surprises imposed by US regulators.
As for the upside, consider the following:
- Lloyds now provides the recovering UK's high street with 30% of its banking services (having sold off TSB with 5%, as the EU required).
- Banks really make money when interest rates rise.
- The Halifax share of mortgage lending has been prudential.
- The bank's return on capital is now the highest in the UK sector.
- It does not depend on the wholesale market to finance any of its loans.
- Finally, its core Tier-one capital ratio is nearly 14% (among the highest in the world) and rising.
None of these observations are contentious. I won't bore readers with lots of statistics that offer little guidance for the future and are difficult to understand, such as some analysts' meaningless preoccupations with net asset values, which could hardly matter less. This obsession is a salutary example of an inability to see the wood from the trees, and an unwillingness to accept the steady transformation of the bank into the safest and best managed of all UK majors.
Instead, I will confine myself to a few forecasts of profits, dividends and the stockmarket's future value of the business.
Lloyds' earnings per share were 1.7p in 2014. The City expects to see nearly 5p in 2015, 7.5p in 2016 and up to 10p in 2017. The dividend, 0.75p in 2014, is projected to rise to at least 2.5p this year, 5p in 2016 and 7p in 2017.
By then the bank will be a glorified (and dull) ATM, showering cash on its long-suffering shareholders (who received no dividends for six years), having become the UK's second-largest company. The present capitalisation is £64bn, making it the UK's number seven. Remember the old adage: that the only long-term stores of value are banks, agricultural land and real estate? Everything else has a shelf life.
At 88p, Lloyds' shares stand on a 2016 price/earnings ratio of 11.7, with a dividend yield of nearly 6% with more to come, in my opinion, as the economy grows and interest rates rise.
The next important event will be the first-half figures in two months' time. The shares will go up and down while we wait, but the big picture is very attractive.
HMG's disposal of its last 19.8% will reflect the strongly rising dividend outlook, and, though briefly disruptive, will be both successful and probably, soon. The sale will mark an end to political meddling, and maybe offer a cheap opportunity to buy. It's my belief that the shares will fly afterwards.
I wonder if canny Antonio has thought about finding £15bn to buy this stake and then write down his shareholders' equity by the full amount. It would be the 'buy back' of all time (Vodafone did something similar last year) and would be wonderful news. In short, I cannot think of a large UK company that offers such future value with so little risk.
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Adrian Sykes was born just after WWII in Quetta, Baluchistan: now a regional HQ of the Pakistani Taliban, then in British India. Though his family lived in Calcutta until he was 19, he was educated in Britain, before joining the British Army. He served for five years, mostly in Germany and London, with tours in Libya and South Arabia.
He worked for 45 years, first as an analyst and stockbroker in the City, then as an investment banker based in Hong Kong; and finally, as an adviser to a major Swiss bank.
He is married, with four children and and lives in East Anglia. He published a history, Made in Britain, the Men and Women who Shaped the Modern World, in 2011, which is now available in paperback.