With the recent chaos surrounding UK gilts, investing in shares of a financial institution like Lloyds Banking Group (LSE:LLOY) may seem like a mad idea. However, while the bank isn’t immune to the latest swings in the pensions industry, something else has caught my attention.
The recent changes in monetary policy by the Bank of England (BoE) have significantly impacted consumer behaviour. And as it turns out, this could be immensely beneficial to Lloyds and its share price. Given the stock’s lacklustre performance lately, that’s certainly a refreshing prospect.
Am I looking at a unique buying opportunity?
Double-digit growth for Lloyds shares?
The BoE recently published its latest Money & Credit report. As a reminder, this provides an overview of the performance of the UK banking system. And while there are some interesting statistics to explore, the one that’s caught my attention is household deposits.
In July, deposits nearly doubled from £2.6bn in June to £4.3bn. That’s the highest rate of savings since November 2010. And signals that consumers are both reducing spending to offset inflationary pressure as well as capitalising on higher interest rates provided by savings accounts.
Why does this matter? Looking at Lloyds’ latest interim results, customer deposits have steadily increased throughout the year. That means the bank’s dependency on the increasingly expensive secondary money market to issue mortgages is dropping.
Today, the group controls around 18% of Britain’s mortgage market, with its rival, NatWest, coming in second at 12%. But that figure could be primed to climb even higher in the coming quarters.
Lately, we’ve seen property buying activity begin to slow, thanks to rising mortgage rates. But with a growing pile of deposits, Lloyds appears capable of reducing the interest spread on its mortgages.
While that will hurt profit margins, the ability to offer more competitive rates in a tight lending environment versus smaller institutions will likely result in increased volume.
That’s an advantage that only gets more effective as the BoE raises interest rates further. So much so that analysts from Berenberg have forecast pre-tax profit growth for large UK banks to be between 8% and 20% for each 1% boost in interest rates. If accurate, Lloyds shares might be primed to thrive.
Why Lloyds?
With NatWest likely to benefit from this trend as well, why do I think Lloyds shares are more attractive? On a forward net interest margin basis, Lloyds is actually more profitable. Yet despite this, it’s lagging behind NatWest with a P/E ratio of just 6.8 versus 8.3.
That looks like mispricing to me. But there might be a good reason for it.
Offering cheaper mortgages than alternative lenders may stimulate some growth. But I doubt it will be enough to offset the predicted decline in house prices throughout 2023 and 2024. What’s more, depending on the severity of the looming storm, having a mortgage-heavy loan book may be less than ideal.
The continued shortage of UK housing makes the long-term trends look promising. But what will happen in the near term is anyone’s best guess.
So, should I buy Lloyds shares at 42p today? I’m still on the sidelines due to this uncertainty. But if the share price continues to fall, I may reconsider my position.
