Barclays PLC Is A Macro Play

BarclaysBarclays (LSE: BARC) (NYSE: BCS.US) is a distressed asset. Relentless cost cutting should continue: its earnings per share would benefit, and estimates for a fair value in the region of 240p to 300p per share may prove accurate.

If Barclays stops here, however, its stock – which trades around 240p – will hit 200p by the end of the year. Any short-term upside in its stock price will favour opportunistic investors who have no interest in long-term value.

Geo Mix

Barclays generates £22bn of revenue in the UK, Europe and the US. That’s 81% of its total revenue. Bad news.

Growth for its banking business in the UK and the US has been subdued for years, and prospects remain uncertain. Europe has been flat ever since assets there were consolidated, and is not exactly the best place for banking.

Barclays is eager to become a leaner machine, yet rather than setting targets by business units, it should take a deep dive in its operations and break them up geographically.

There are signs that Barclays has decided to embrace this approach — it’s considering options in Europe — but management should show greater determination.

Large writedowns would boost value. Divestment of European assets should speed up, even at a loss, to free up capital that could be deployed in the UK retail business and in Barclaycard. The bank could also do without its US operations in their current form.

Its geographical mix suggests that if more drastic action isn’t taken, Barclays’ stock will struggle to trade much higher than 250p/260p. A sum-of-the-parts valuation indicates that Barclays stock could be worth about 260p, although certain assumptions, such as the multiple to place on the investment banking unit, are merely speculative in the current environment.  

In fact, a fully fledged break-up perhaps may prevent a further plunge in Barclays stock, but would likely yield minimal upside.

A Macro Play

If interest rates in the developed word rise later than expected, say in 2016, Barclays stock will continue to underperform the broader stock market. And if volatility spikes, its equity value will fall. These trends have been visible in recent times.

Furthermore, if interest rates in the UK and the US don’t rise in less than a year, its net interest income will certainly grow as a result of a lower cost base, but it will be exposed to a series of risks among which litigation risk is by far the most unpredictable.

Rates in Europe, meanwhile, have only one way to go — and that is down.

In spite of a big headline number for layoffs, which were announced two weeks ago, its latest restructuring plan hasn’t spurred confidence. With no growth in sight, Barclays may not be in the black this year and next, although estimates suggest a different outcome.

City Sources

“Anything interesting on Barclays?” I asked one of my sources last week. 

“Only that they finally got it. Stop using expensive capital on a business that doesn’t make its cost of equity.”

“The problem is: what is next? A break-up makes sense — and sell the bits to the Americans.”

A break-up of Barclays would be conceivable only under exceptional circumstances, my City source reminded me. Another credit crunch, for instance, would do. It’s not that one of the most prestigious British assets should not be split up, but in banking those things take years and courageous management – neither of which abound at the British bank.

Barclays already trades below book value, but downside could be 20% or more if management do not follow on their recent round of cost cutting in investment banking.

Of course, an upbeat view on the real economy and on stock markets in developed word indicates that Barclays, at this price, could be a decent buy.

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Alessandro does not own shares in any of the companies mentioned.