Lloyds (LSE: LLOY) shares look attractive at their current price of 47p based on the fact that the stock is trading around 25% below its year-end 2019 level.
However, over the past year, shares in the lender have added nearly 50% as they have rallied from the lows printed in 2020.
The question is, after this performance is the stock fully valued considering the current economic environment, or can it push back to 2019 levels?
Further, I want to know if it is worth adding the stock to my portfolio ahead of further growth?
Lloyds shares outlook
The answer to the above is not simple. The only way to produce a definitive answer to my questions is to know what the future holds for the UK economy. Unfortunately, that is impossible.
Still, there is some limited data available that provides information on the UK economic recovery, and more news arrives every week.
This information shows that business and consumer confidence is increasing. What’s more, consumer spending has risen back to near-2019 levels.
These are positive developments. Lloyds makes money by lending customers’ deposits out to borrowers. It lends money through traditional banking channels as well as its credit card division, which includes MBNA. Figures show spending on credit cards has also recovered substantially over the past few months. I think this bodes well for the credit card business.
Demand for mortgages and business/personal loans should also recover as confidence improves. This could have a positive impact on Lloyds shares.
That being said, with interest rates currently held at record low levels, the bank’s profit margins are presently depressed. Even if loan volumes recover to 2019 levels, the bank will earn less money for every £1 lent, thanks to lower profit margins. This is probably the biggest challenge the enterprise faces right now.
This is one reason why City analysts believe the bank’s net profit will only reach £4bn in 2021 and £3.8bn in 2022. In comparison, the group reported a net profit of £3.6bn in 2017 and £4.4bn in 2018.
Despite this mixed earnings outlook, the stock still looks cheap. It is currently selling at a forward price-to-earnings (P/E) multiple of 8.3. It is also trading as a price-to-book (P/B) value of 0.7.
In theory, profitable businesses should trade at or around book value. Meanwhile, the rest of the banking sector trades at a P/E ratio of around 10.
These numbers imply that Lloyds shares still look cheap despite their recent performance.
However, they don’t guarantee the stock will produce a positive return. The bank still faces multiple headwinds, not least the fact that coronavirus is still circulating around the world. This could lead to further economic pain in the years ahead.
But even considering this, I think Lloyds shares look cheap. As such, I would buy the company for my portfolio today. Compared to its sector and looking at the book value, it seems to me the business is undervalued by around 20% to 30%, although this is only a back-of-the-envelope calculation.
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Rupert Hargreaves has no position in any of the shares mentioned. The Motley Fool UK has recommended Lloyds Banking Group. 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.