RBS (LSE: RBS) shares have struggled this year. Year-to-date the stock has fallen a staggering 50%! Over the past 12 months, shares in the banking giant are off by 45% excluding dividends.
It’s easy to see why investor sentiment towards RBS shares has collapsed over the period. The coronavirus crisis and economic lockdowns imposed to try to control the spread of the killer virus have hit the UK economy like a sledgehammer.
RBS shares under pressure
Projections suggest that the economy is facing one of its worst slumps ever seen this year. This is likely to result in increased loan losses as well as lower profits from borrowing for banks like RBS.
However, RBS is in a strong position to weather the storm, I feel. The bank has already cut its dividend, and its balance sheet is significantly more durable than it was in 2008 when the government had to bail out the business. Therefore, it’s unlikely RBS will have to ask taxpayers to shore up its finances this time around.
Still, the group will have to deal with higher loan losses and a reduction in profitability from lending in the near term. These factors will weigh on the lender’s profits and, as a result, RBS shares should suffer in the short term.
Nevertheless, RBS shares look cheap at current levels. The stock is trading at one of the lowest levels in recent memory.
What’s more, even though the company has recently slashed its annual dividend payout, before the crisis, the bank was set to yield nearly 10% in 2020 and 2021. Management might not be able to return the payout to this level for a year or two, but RBS clearly has dividend potential.
In addition to the above, the stock is also dealing at a price-to-book value of 0.3 at current levels. That’s compared to the financial services sector average of around 0.6.
Margin of safety
These figures suggest that the shares offer a margin of safety at present. As such, now may be a good time to snap up the stock while it looks cheap relative to history.
Clearly, the lender is going to face further uncertainty over the next year or so as the UK economy tries to get back on its feet. But we’ve been here several times before.
In the past few decades, the UK economy has seen several peaks and troughs. After every downturn, it has always recovered strongly over the next few years. The economy has usually grown back bigger and stronger than it was before. The same scenario may play out this time around, which would provide a strong tailwind for RBS shares as the lender benefits from an economic recovery.
Therefore, investors with a long-term outlook may benefit from buying the stock today as part of a well-diversified portfolio. Using such an approach would allow you to benefit from any upside potential while minimising downside risk.
