I’m searching for the best UK value shares to buy for my portfolio right now. Should I add this beaten-down FTSE 100 name, following recent share price weakness?
Rates boost
Rising interest rates have provided a huge boost to bank profits over the past year. Take NatWest Group (LSE:NWG), which — despite the problem of increasing impairments as the British economy struggles — grew operating profit 49% in the first quarter.
Bank of England (BoE) action keeps providing support to the retail banks, too. Today policymakers hiked the rate for the twelfth consecutive meeting, to 4.5%. It seems as if the central bank might continue on its path of monetary tightening for some time.
Inflation in the UK remains unnervingly high in double-digit percentages. And today the BoE predicted that prices will keep rising at a level it had previously not expected. As a consequence, its economists hiked their year-end consumer price inflation forecasts to 5% from 4% previously.
Economics experts believe elevated levels of inflation could remain a problem long beyond 2023, too. The National Institute of Social and Economic Research (NIESR), for example, thinks inflation will remain above the BoE’s 2% target until the third quarter of 2025.
It commented that “though interest rate hikes may almost have finished, if core inflation remains high, interest rates may have to remain at their peak for a longer period than we and the markets currently anticipate”.
Cheap for a reason?
Expectations of interest rates remaining higher than historical norms support projections of solid earnings growth at NatWest for the next few years.
City analysts expect annual earnings at the FTSE 100 bank to rise 28% this year. They are then anticipating increases of 10% and 11% in 2024 and 2025, respectively.
Presumably these forecasts could receive bumps higher if, as the NIESR suggests, inflation remains higher than anticipated. Given the stream of estimate-beating CPI readings this year this is a very real possibility in my book.
Yet I’m not tempted to buy NatWest shares today. Not even a low forward price-to-earnings (P/E) ratio of 5.6 times is enough to tempt me to invest.
A FTSE 100 stock to avoid
It’s my view that the benefit of higher interest rates could be offset by troubles in the British economy. In this landscape, banks could struggle to grow demand for its products. NatWest — which booked an extra £70m worth of credit impairments in the first quarter — could also witness a sustained booking of bad loans.
I’m also concerned about NatWest’s ability to increase earnings over the longer term. Major structural problems like low productivity and trade-related problems look set to hamper economic growth beyond 2023. And the business doesn’t have considerable overseas exposure to help boost earnings.
Finally, NatWest is under threat from digital and challenger banks. The lower cost bases of these new entrants enable them to offer market-beating products. And their online platforms are massively popular with new generations of borrowers and savers.
For these reasons I’m happy to avoid the FTSE firm and buy other cheap UK shares.
