I think some of the best UK shares investors can buy today to take part in the economic recovery are financial stocks. Here are two such businesses I’d buy for my portfolio right now.
Top UK shares to buy
At the beginning of the pandemic, some analysts and economists were concerned that the banking sector would collapse. Rising loan losses coupled with poor economic growth would decimate balance sheets and profits, they argued. This would have a knock-on effect across the economy, sending businesses into a downward spiral. The result would be a financial crisis far worse than the 2008 crash.
Luckily, this didn’t happen. Banks today have far more capital and a stronger balance sheet than they did this time last year.
Further, even though interest rates have been pushed down to record lows, high demand for products such as mortgages has helped banks’ bottom lines.
At the beginning of the pandemic, the Bank of England, which is responsible for regulating UK banks, placed restrictions on lenders, limiting dividends and buybacks.
However, the regulator has now removed these restrictions in their entirety. According to its latest financial stability report, the regulator believes the sector is now strong enough to absorb any further economic shocks from the pandemic.
Both of these lenders have accrued giant cash cushions over the past 12 months. These are now being used to fund dividends to investors.
For example, at the end of 2020, NatWest reported a Common Equity Tier (a measure of balance sheet strength) ratio of 18.5%. From now on, the group has said it intends to pay out around 40% of profits. A minimum of £800m a year is scheduled for ordinary and special dividends for the next two years.
Analysts believe the company can earn £2.4bn in 2021. A payout ratio of 40% suggests a total distribution of nearly £1bn for the current financial year, equivalent to a yield of around 4%. As well as this cash return potential, I also think the stock looks dirt-cheap.
Of course, this is just a projection. The company may pay out more or less, depending on its fortunes. It could also use its excess capital to buy back shares from the government.
Meanwhile, analysts are expecting a dividend yield of 3.3% from Barclays this year although, once again, this is just a projection. Analysts are expecting the group to report a net income of £4.3bn for the full year.
I think these numbers show just how attractive both NatWest and Barclays are as recovery UK shares. This is why I’d buy both stocks for my portfolio today as income and growth plays.
Key risks the lenders could face include additional regulation, which may increase costs. Higher costs will push down profit margins and could reduce the potential for cash returns. Ultra-low interest rates are also proving to be a headache for the sector. The longer rates stay close to zero, the harder it will be for these lenders to earn a return on investment.