Lloyds (LSE: LLOY) shares have dropped just over 20% from their 9 February high this year.
Much of this, I think, resulted from rumours of impending problems in the US banking sector and beyond. These rekindled investor fears of a new global financial crisis.
The little-known US Silicon Valley Bank did fail, followed by the bigger Credit Suisse. But there was no broader financial crisis.
However, UK financial stocks have struggled to fully recover. This is despite their generally very strong capital base.
I think this affords an opportunity to buy several high-quality, high-yield stocks at bargain prices, and Lloyds is one.
Strong core business
In its H1 results, pre-tax profit increased 23% year on year, to £3.9bn. Total income rose by 12% in the same period to £9bn, due primarily to higher net interest income.
There is a risk here, of course, that interest rates peak and fall sooner than expected. Another is that existing high rates may cause more loans to turn bad.
In the latter’s case, though, Lloyds has already tried to mitigate some of the risk. A £662m impairment charge was made to cover balance sheet damage caused by the UK’s cost-of-living crisis.
Positively for the remainder of this year, the bank expects its net interest margin to be over 310 basis points. This margin is the difference between earnings from loans made and payouts for deposits taken in.
Additionally positive for me is that it is looking to better balance its domestic and international presence.
Through its Corporate & Institutional business, it wants to expand its trading and origination capabilities into debt capital markets, foreign exchange, and fixed income.
Stock looks undervalued
Just because Lloyds shares have dropped 20% since their high this year does not necessarily mean they are undervalued.
To get a truer idea of its value, I examined its price-to-earnings (P/E) ratio compared to those of its peers.
Lloyds has a P/E of 5 right now. This is higher than Barclays (4.2), and NatWest (4.7). But it is lower than HSBC Holdings (6.3), and Standard Chartered (8.7).
Therefore, based on the UK bank sector average of 6, Lloyds looks undervalued.
It looks even more undervalued compared to the current European banks’ P/E average of 8.
Higher yields in prospect?
In 2022, the bank paid out 2.4p per share in dividends. With the share price at 43p now, this yields 5.6%.
The strong H1 results allowed it to increase its interim ordinary dividend by 15% — to 0.92p. If this increase was applied to the final dividend, the yield on a share price of 43p would be 6.4%.
However, analysts’ dividend expectations are for 3.12p and 3.52p, for 2024 and 2025, respectively. If the share price stayed where it is now, the payouts would be 7.3% and 8.2%.
This would elevate Lloyds into the top tier of FTSE 100 stocks that pay 8% or more in yields. By comparison, the current average yield of the benchmark index is just 3.8%.
I already hold Lloyds stock, but I would buy it today if I did not have it in my portfolio yet. Over the long term, I think it could recoup this year’s price losses and will rising in price. I also believe that it will continue to pay very healthy yields.
