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The Metro Bank share price is soaring. Should I buy?

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Back in early November, Metro Bank (LSE: MTRO) CEO Daniel Frumkin spent £1.1m of his own money buying the bank’s shares at 60p apiece. He’s doubled his money already, as Metro Bank’s share price has since risen to over 130p.

Despite the bank’s widely-reported problems, I think it’s fair to say Metro Bank shares were too cheap back then.

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But what about today? Valuing banks is never easy, but I’ve been taking a fresh look at Metro. I reckon there could be an opportunity here but, as I’ll explain, it still looks quite risky to me.

Why I’d buy Metro Bank shares

There are several things I like about this stock. In December, it sold £3bn of mortgages to NatWest Group at a slight premium to their book value. The cash raised from this sale enabled the bank to avoid issuing any new debt, which would probably have been expensive.

The sale could also help to create a more profitable business in the future. Frumkin says the cash will be used to shift the firm’s lending into more profitable areas, such as specialist mortgages and unsecured lending.

Competing with the big banks on mainstream mortgage lending is tough for smaller banks like Metro. I think that focusing on smaller, more profitable lending markets makes sense. It could be a good way for the bank to get back to profitable growth.

Another attraction is that, even at its current share price, Metro Bank still trades at a discount of around 80% to its last-reported book value of around 780p. Buying shares at a discount to book value is a traditional value investing technique that can generate big gains. However, it’s not without risk, as I’ll explain.

Metro Bank share price: too good to be true?

Before buying, I’d ask myself why Metro Bank shares trade so far below their book value. Are they cheap for a reason?

Broadly speaking, when a bank trades at a discount to book value it’s because the market is unsure about the quality and profitability of its loan book. Metro Bank’s track record certainly doesn’t fill me with confidence. The bank has lost money in six out of the last eight years.

Although Frumkin’s turnaround plan targets a return on tangible equity of 8.5% by 2024, that’s still a long way away. As things stand, City analysts expect Metro to report a loss of £132m in 2021 and £99m in 2022.

I don’t know how things will pan out over the next couple of years. But Metro Bank’s low share price suggests to me the market expects a slow return to profitability. I share this view. I think the bank still has a lot to prove.

In uncertain times such as these, I’d rather invest in banks that are already profitable and financially secure. For this reason, I don’t plan to buy Metro Bank shares.

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Roland Head has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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