Investors should buy Lloyds shares as the interest rate outlook improves

Dr James Fox explores what BoE interest rate commentary could mean for Lloyds shares. The bank’s recent bull run came to an end in early February.

| More on:

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

Mature Caucasian woman sat at a table with coffee and laptop while making notes on paper

Image source: Getty Images

When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than you put in.

Read More

The content of this article is provided for information purposes only and is not intended to be, nor does it constitute, any form of personal advice. Investments in a currency other than sterling are exposed to currency exchange risk. Currency exchange rates are constantly changing, which may affect the value of the investment in sterling terms. You could lose money in sterling even if the stock price rises in the currency of origin. Stocks listed on overseas exchanges may be subject to additional dealing and exchange rate charges, and may have other tax implications, and may not provide the same, or any, regulatory protection as in the UK.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

Lloyds (LSE:LLOY) shares fell this week after results disappointed in February. But, for me, this is one of the most attractive companies on the FTSE 100, and recent commentaries on interest rates have reinforced this.

So let’s take a closer look at why I think investors should buy Lloyds shares, and why I’m buying more.

Results didn’t disappoint me

In the 2022 earnings report, I was a little shocked by the size of the bank‘s impairment charges — £1.5bn — but, broadly, I was happy to see profit remain flat.

In 2022, net income rose 14% to £18bn, driven by higher rates. The net interest margin (NIM), essentially the difference between lending and saving rates, rose 40 basis points, ending the year at 2.94%.

In truth, considering the concerns about the health of UK economy, it didn’t disappoint me.

Interest rates drive revenue

Lloyds is now targeting a NIM of more than 3.05% for 2023. The bank is more interest rate sensitive than its peers, due to its funding composition and the lack of an investment arm. It’s also much more focused on the UK — 100% of sales take place in Britain and the majority of income comes from mortgages.

Higher rates also mean that banks can earn more interest on the Bank of England (BoE) deposits. It had £145.9bn of eligible assets with £78.3bn held as central bank reserves at the end of the second quarter last year.

Analysts suggest each 25 basis point hike from the BoE will add close to £200m in income solely from holdings with the central bank.

However, it worth highlighting that demand for loans goes down the higher interest rates get. So investors should be pleased to hear BoE governor Andrew Bailey saying that more rate rises are not inevitable, despite very sticky inflation.

Central banks around the world are trying to carefully reduce economic activity in order to bring down inflation without causing untold damage to the economy. Essentially, there isn’t enough strength in the UK economy to push rates much higher.

What we may be looking at in the UK is a lower terminal rate, but for a longer period of time as inflation is stickier than expected. I believe this would benefit Lloyds and its peers.

However, I am a little concerned — as is the market — that China’s rebound could engender even more inflation globally.

A new Brexit deal

The UK economy is estimated to be 5.5% smaller than it would have been had it stayed in the EU, according to a study by the Centre for European Reform. And since the Brexit vote, foreign direct investment and business activity in the UK have fallen.

This has impacted Lloyds more than other banks, and notably its commercial loans business.

However, we now have a new Brexit deal, and should it gain political support within the UK — which I believe it will — billions of pound of foreign investment could be unleashed. Bloomberg has been reporting that dozens of US businesses are lining up to invest in Northern Ireland.

In theory, this should be positive for Lloyds’ commercial loans business. Hopefully, the UK’s decline has reached a turning point.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

James Fox has positions in Lloyds Banking Group Plc. The Motley Fool UK has recommended Lloyds Banking Group Plc. 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.

More on Investing Articles

Investing Articles

1 penny stock I’d buy today while it’s 63p

This penny stock's down 70% since last March, yet could be set for a big comeback as the firm rebuilds…

Read more »

Businessman use electronic pen writing rising colorful graph from 2023 to 2024 year of business planning and stock investment growth concept.
Investing Articles

Buying 8,617 Legal & General shares would give me a stunning income of £1,840 a year

Legal & General shares offer one of the highest dividend yields on the entire FTSE 100. Harvey Jones wants to…

Read more »

Man writing 'now' having crossed out 'later', 'tomorrow' and 'next week'
Investing Articles

£25k to invest? Here’s how I’d try to turn that into a second income of £12,578 a year!

If Harvey Jones had a lump sum to invest today he'd go flat out buying top FTSE 100 second income…

Read more »

Union Jack flag in a castle shaped sandcastle on a beautiful beach in brilliant sunshine
Investing Articles

2 lesser-known dividend stocks to consider this summer

Summer is here and global markets could be heading for a period of subdued trading. But our writer thinks there…

Read more »

pensive bearded business man sitting on chair looking out of the window
Investing Articles

Here’s how I’d aim to build a £50K SIPP into a £250K retirement fund

Our writer outlines the approach he would take to try and increase the value of his SIPP multiple times in…

Read more »

Investing Articles

9.4%+ yields! 3 proven FTSE 100 dividend payers I’d buy for my Stocks and Shares ISA

Our writer highlights a trio of FTSE 100 shares with yields close to 10%. He'd happily pop them into his…

Read more »

Mixed-race female couple enjoying themselves on a walk
Investing Articles

Are Raspberry Pi shares a once-in-a-lifetime chance to get rich?

With Raspberry Pi shares surging after a successful IPO, could this UK tech startup offer a long-term wealth creation opportunity…

Read more »

Newspaper and direction sign with investment options
Investing Articles

Huge gains and 9% yields: why now’s an amazing time to be a stock market investor

The stock market’s generating fantastic returns in 2024. Whether you're looking for gains or income, it’s a great time to…

Read more »