Historically, buying shares of Lloyds (LSE:LLOY) hasn’t exactly been a lucrative move for investors. Over the last five years, the stock price has fallen by nearly 20%. And while dividends have helped offset the losses, the returns remain mediocre.
But over the last 12 months, the Lloyds share price has been rising. In fact, it’s up by over 45%! So, what’s behind this momentum? Will it continue in 2022? And is this an investment opportunity that I can’t miss? Let’s explore.
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What happened in 2020?
Being the UK’s largest bank, Lloyds is a pretty complex organisation with a lot of moving parts. But the basic business model behind any commercial bank is to accept deposits, issue loans, and profit from interest payments. That final part helps explain why Lloyds shares have performed so poorly in recent years. Interest rates have been exceptionally low for over a decade following the 2008 financial crisis.
In 2020, further cuts to interest rates by the Bank of England made it even more challenging for Lloyds to profit from its lending business. Coupled with a surge of loan impairments courtesy of the pandemic, the bank’s statutory profit fell from £3bn in 2019 to £1.4bn in 2020 – a 53% drop!
That’s obviously not a great sign. So why are the shares climbing at the moment?
The momentum behind Lloyds shares
2021 was a year of significant economic recovery in the UK. As such, Lloyds has begun making new loans at a lower risk of default, and delayed payments from 2020 have started flowing in. Consequently, when management released its third-quarter trading update, pre-tax profits for the first nine months of 2021 came in at a staggering £5.1bn. That’s about 16% higher than for the whole of 2019.
So, seeing the Lloyds share price move in upwards last year is hardly surprising to me. But can it continue throughout 2022?
Time to invest?
Upon closer inspection, the explosive rise in profits can largely be attributed to a significant reduction in impairments rather than issuing new loans. That’s because net interest income actually fell by 1% compared to a year ago, according to the third-quarter trading update. Does this mean the boost in profits is a one-time gain? Not necessarily.
I think expecting triple-digit profit growth in 2022 is too optimistic. However, thanks to the Bank of England raising interest rates to tackle inflation, Lloyd’s interest income is set to grow significantly from this tailwind.
Needless to say, if profits continue to climb in 2022, then the Lloyds share price will likely follow suit. Yet this is far from guaranteed. The pandemic is still with us, and many businesses are still struggling. As infection rates are hovering near all-time highs at the moment, speculations of another lockdown persists. In the worst-case scenario, that could quickly interrupt the current momentum of Lloyds shares.
Personally, I feel this is a risk worth taking. I do believe adding this bank to my portfolio could be a smart move to grow my wealth in 2022.