The Lloyds Banking Group (LSE:LLOY) share price has dropped 2.3% since the beginning of 2023. Yet at current levels of 45p per share it seems the Black Horse Bank could be one of the FTSE 100’s best bargains.
It trades on a forward price-to-earnings (P/E) ratio of 6 times. This is far below the FTSE average of 14.5 times. In addition, a 6.2% dividend yield for this financial year also smashes the 3.7% UK blue-chip average.
But of course these figures are based on broker forecasts. So as an investor, I need to consider how realistic current earnings and dividend estimates are. Based on this, should I stock up on cheap Lloyds shares today?
Profits outlook
Earnings at retail banks are highly dependent upon broader economic conditions. And the likes of Lloyds face a deep downturn in loan growth and a surge in impairments as Britain’s economy struggles for momentum. The bank set aside almost £300m extra in the first quarter to cover bad loans.
But despite tough economic conditions City analysts still expect the bank’s earnings to edge 3% higher in 2023.
This is thanks to expectations that interest rates will keep climbing sharply, driving the bank’s net interest margin northwards. Net interest margin measures the difference between what banks charge borrowers and offer to savers.
With high inflation persisting, the Bank of England (BoE) looks set to increase its benchmark from current levels of 4.5%. However, there remains huge uncertainty over the degree to which rates will rise.
The UK’s biggest retailer Tesco on Friday said it has witnessed “encouraging early signs” that inflationary pressures are easing. It’s early days, but evidence elsewhere could see rates peak well below the 5.75% that the market is currently pricing in.
There’s also an argument that the BoE may be tempted to limit rate rises to support the ailing economy and stop a housing market meltdown.
The boost that Lloyds and its peers receive from central bank policy could be much more muted than forecasters currently anticipate, then. This — combined with the tough economic landscape — leaves plenty of scope for the bank’s earnings to disappoint.
Dividend forecasts
In better news, the dividend outlook for Lloyds looks much pretty robust for 2023. A predicted payout of 2.78p per share is covered 2.7 times over by expected earnings. This is well above the widely accepted value benchmark of 2 times.
The FTSE-listed bank also has a rock-solid balance sheet that could help it pay this dividend should earnings disappoint. Its CET1 ratio stood at 14.1% as of March.
The verdict
Despite the bank’s solid dividend outlook I plan to continue avoiding Lloyds shares. As the UK economy struggles I think its share price could continue sinking, offsetting the benefit of those big dividend yields.
My worries as a potential investor stretch beyond the short term too. The threat of a protracted economic downturn and increased market competition pose big dangers to the bank’s earnings beyond this year. Right now, I’d rather use my money to buy other FTSE 100 stocks.
