MARKET COMMENT
Lloyds to lose Abbey?

By Christopher Spink
June 11, 2001

Banking is a very competitive business, particularly at present when interest rates are so low. Providers of financial services can offer attractive rates both to savers and borrowers. There is a battle to undercut rivals and yet still make a profit. Consumers can easily compare competing products by using tools such as the Internet. In turn the banks are encouraging this transparency. They wish to rationalise their branch networks, which are expensive to maintain, and save money by running as much banking activity online as possible.

Many banks have reacted to this harsh environment by attempting to save more money by merging their operations. This consolidation process has pushed up the share prices of many banks lately. Tomorrow the Competition Commission reports back to the Department of Trade and Industry on Lloyds TSB's (LSE: LLOY) proposed £20b bid for Abbey National (LSE: ANL). It's odd that the Government is concerned about consumer choice when banks' margins are falling. Surely lower profits are in the interest of customers?

Many expect the Commission to insist that the two groups meet specific criteria if the deal is to go ahead. For instance Lloyds may have to get rid of its Cheltenham & Gloucester mortgage business, since with Abbey it would dominate the home loan market. The combined group may also have to shed some of its current accounts business. The Commission is also concerned about the loss of a major brand and branch network, such as Abbey's, from the UK's high streets.

Lloyds may be unwilling to proceed on this basis. After all the dynamic driving this deal is the potential for cost cuts by creating synergies between the two participants. The Government's wish to widen competition is opposed to Lloyds TSB's aim. The bank wants to squash competition and thus create efficient economies of scale. This isn't necessarily bad for consumers since such synergistic savings could eventually lead to better interest rates for savers and lower ones for borrowers.

In any case it's so much easier for customers to change accounts nowadays. Governments and regulators should be focusing their efforts on encouraging this transparency and setting out rules to allow consumers to switch their financial agreements even more easily. Either way, tomorrow's decision looks like bad news for banks' share prices, which have enjoyed a strange premium because of the mergers. This has happened in spite of most banks suffering from a drop in operating margins. Thus expect all banks to be hit.

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