For well over a decade following the financial crisis, shares in Lloyds (LSE: LLOY) sold for pennies. This year, though, has seen Lloyds shares break through the pound barrier. Indeed, the share price is currently around £1 apiece.
For long-term shareholders, that has been rewarding.
The shares are up 136% over five years. So, not only has someone who invested back then more than doubled the paper value of their investment, they will also now be earning a dividend yield of around 8.6%.
Even now, a new investor would earn a 3.6% yield. That is less lucrative, but still well above the current FTSE 100 average.
Lloyds shares might not be the bargain now they were five years ago. But could they still be attractively enough priced to merit a place in my portfolio?
Rising share price has made the valuation less attractive
My answer is no. I have no plans to invest.
For starters, the price-to-earnings (P/E) ratio of 14 is not attractive to me. It is not outrageously expensive, but I do not think it is cheap, either. By contrast, peer Natwest currently sells on a P/E ratio of nine.
The P/E ratio is only one valuation metric, though. When it comes to valuing bank shares like Lloyds, many investors prefer to look at the price-to-book value ratio.
Here again Lloyds shares look unattractively priced to me. They sell for roughly 1.3 times book value right now. In other words, the underlying asset value per share is actually lower than the share price – notably lower in this case.
While Lloyds has intangible assets like its brands and customer goodwill (from some customers at least!), I do not think they satisfactorily explain the gap.
As a general rule, I prefer to invest in banks where the price-to-book value ratio is no higher than one.
Market outlook is less rosy than it was
On top of that, the book value itself relies on a certain level of consistency.
If things get worse economically, that could eat into the assumptions underlying the current book value. For example, higher default rates could mean that Lloyds’ earnings fall.
If the property market enters a downturn, the valuations underpinning the bank’s mortgage book may need to be reassessed. As Lloyds is the nation’s largest mortgage lender, that is a significant risk in my view.
This week’s shock profit warning from housebuilder Crest Nicholson has exacerbated uncertainty about the health of the property market. That adds to concerns about the economy more broadly.
For now, it seems to be holding up. The economic outlook is not strong, but it is not terrible either.
But with geopolitical risks mounting, inflation surfacing again as a significant risk, and consumer confidence looking weak, I am not especially confident about the outlook for the UK economy. A weaker economy could mean higher rates if loan defaults.
I think there are shares in sectors other than banking that better suit my own risk tolerance as a small private investor.
