The Lloyds Banking Group (LSE:LLOY) has joined with the broader FTSE 100 in surging in price at the start of 2023.
At 53.6p per share, the Black Horse Bank is up 16% from levels recorded at the start of the year. Yet at current prices, the company still looks — at least on paper — like it could be too cheap to miss.
Lloyds shares presently trade on a price-to-earnings (P/E) ratio of 7.1 times. On top of this they provide a 5.2% dividend yield.
Could this be the best-valued UK blue-chip stock out there?
Rate talk
High inflation has been tough for consumers over the past year. But it’s been a blessing for Britain’s banks as it’s translated into rapid rate hikes from the Bank of England (BoE).
Rate increases boost bank profits by increasing the margin on the rates they offer on savings products and loans.
Encouragingly for Lloyds et al, the BoE is tipped to keep raising rates too. The benchmark is expected to rise another quarter to half a percent from current levels of 4%.
That said, there’s no guarantee that they will go much higher. There’s also a chance that interest rates could be cut later in the year to aid the slumping UK economy.
In telling comments last month, BoE governor Andrew Bailey speculated that “a corner has been turned” in the fight against inflation. He also suggested that inflation will fall “quite rapidly” from the spring. Will Threadneedle Street really want to keep hiking rates in this environment?
Danger ahead
However, let’s put interest rate uncertainty to one side. BoE policy may or may not boost Lloyds’ profits in 2023. But there several more easily predictable reasons why the FTSE 100 bank’s earnings could drag.
One is the likelihood that the British economy will perform more poorly than other developed overseas economies in the near term and beyond. This could mean a prolonged period of weak revenues and higher-than-normal loan impairments for UK-focussed banks like Lloyds.
Economic forecasters often get it wrong. But a raft of evidence paints a bleak picture for Britain and its economy. Inflation is falling but remains much higher on these shores than elsewhere. Other structural problems like low productivity and worker shortages are also more pronounced here than elsewhere, and cast a long-term shadow over the bank.
I’m also concerned about the rising competition that high street banks like Lloyds face. On the plus side, the company continues cutting the number of branches it operates to reduce costs. This will make it better placed to compete with the ultra-attractive products that online-only banks are able to offer.
Yet costs here remain considerable, as do the bills Lloyds is racking up to boost its digital services. It plans to spend £4bn over five years to achieve its aim. And of course there is no guarantee its transformation strategy work against the digital operators who continue rapidly growing their market shares.
As I say, the Lloyds share price looks low on paper. But to me its low valuation fairly reflects the huge risks the bank poses to investors. I’d rather buy other low-cost FTSE 100 shares for my portfolio.
