The Hidden Nasty In Royal Bank Of Scotland Group plc’s Latest Results

Royal Bank of Scotland Group plc (LON:RBS) looks anything but cheap, as Roland Head explains.

| 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.

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.

Shares in Royal Bank of Scotland Group (LSE: RBS) (NYSE: RBS.US) have climbed 9% so far this year, and are 15% higher than they were six months ago.

Despite these gains, the bank trades at around 89% of its tangible book value — which seems to be an attractive discount, until you look a little more closely at the company’s plans, as I did recently.

Bad, bad bank

In its third-quarter results, RBS confirmed the creation of an internal bad bank, which will manage £38bn of the bank’s bad loans. RBS says that its ambition is to accelerate the run-down of these high risk assets, and to dispose of between 55% and 70% of them over the next two years.

According to RBS, this strategy is likely to mean ‘a significant increase in impairments in Q4 2013’, which will lead to a ‘substantial loss for the full year’. It could also lead to further falls in the bank’s book value, as dodgy loans are taken off the balance sheet.

I reckon this trend could continue into next year, as it’s hard to sell bad loans quickly unless you are willing to mark them down. By way of comparison, Lloyds Banking Group sold £1.8bn of bad loans for an average loss of 35%, late last year.

As a result of RBS’s strategy of accelerating the disposal of its bad debts, I suspect that next year’s consensus forecasts for earnings per share of 24.1p are somewhat optimistic, and expect to see further downgrades as the year progresses.

How to value RBS?

In fairness, RBS is not an easy bank to value. Not only does the government own 80% of its shares, but it’s also failed to make a profit since 2007, and is not allowed to pay dividends.

To make matters worse, if the bad bank is successful in disposing of non-core assets, then RBS’s book value could fall significantly, unless new lending accelerates at a dramatic rate.

Given this situation, you might think that investors would be cautious in their valuation of RBS. Surprisingly, that’s not the case — based on 2014 forecast earnings, RBS is currently valued more richly than any other UK bank:

Bank 2014 forecast P/E
Barclays 9.7
Standard Chartered 9.7
HSBC Holdings 11.0
Lloyds 12.4
RBS 15.6

I can’t understand why RBS shares trade on a higher P/E rating than any other UK bank — but I am sure that better value exists elsewhere in the banking sector.

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.

> Roland owns shares in HSBC Holdings but does not own shares in any of the other companies mentioned in this article.

More on Investing Articles

Investing Articles

Could the JD Sports Fashion share price double in the next five years?

The JD Sports Fashion share price has nearly halved in the past five years. Our writer thinks a proven business…

Read more »

Bus waiting in front of the London Stock Exchange on a sunny day.
Investing Articles

If interest rate cuts are coming, I think these UK growth stocks could soar!

Falling interest could be great news for UK growth stocks, especially those that have been under the cosh recently. Paul…

Read more »

Investing Articles

Are these the best stocks to buy on the FTSE right now?

With the UK stock market on the way to hitting new highs, this Fool is considering which are the best…

Read more »

Petrochemical engineer working at night with digital tablet inside oil and gas refinery plant
Investing Articles

Can the Centrica dividend keep on growing?

Christopher Ruane considers some positive factors that might see continued growth in the Centrica dividend -- as well as some…

Read more »

Smiling family of four enjoying breakfast at sunrise while camping
Investing Articles

How I’d turn my £12,000 of savings into passive income of £1,275 a month

This Fool is considering a strategy that he believes can help him achieve a stable passive income stream with a…

Read more »

Person holding magnifying glass over important document, reading the small print
Investing Articles

2 top FTSE 250 investment trusts trading at attractive discounts!

This pair of discounted FTSE 250 trusts appear to be on sale right now. Here's why I'd scoop up their…

Read more »

Smiling young man sitting in cafe and checking messages, with his laptop in front of him.
Investing Articles

3 things that could push the Lloyds share price to 60p and beyond

The Lloyds share price has broken through 50p. Next step 60p? And then what? Here are some thoughts on what…

Read more »

Young female business analyst looking at a graph chart while working from home
Investing Articles

£1,000 in Rolls-Royce shares a year ago would be worth this much now

Rolls-Royce shares have posted one of the best stock market gains of the past 12 months. But what might the…

Read more »