Why Is Lloyds Banking Group PLC So Cheap?

LloydsAlthough the banks are starting to resume an air of respectability again, if we look around the sector we see a wide range of valuations.

It’s puzzling, for example, to see Lloyds Banking Group (LSE: LLOY) (NYSE: LYG.US) valued on a forward P/E of only 10.7, while fellow bailed-out struggler Royal Bank of Scotland (LSE: RBS) (NYSE: RBS.US) sits on a ratio of more than 14.

Lloyds has stemmed its losses more quickly after recording a pre-tax profit of £415m in 2013 — still modest, but there’s around £6bn penciled in for this year. RBS has yet to put in a profitable year.

Dividends, too

Lloyds is already back to paying dividends, and is predicted to reach a yield of 4% by 2105 — by then, RBS is only expected to be offering 0.5%.

And Lloyds never had a boss nicknamed “The Shred”. Yet it’s the more lowly valued of the two.

What’s more, Lloyds’ P/E would drop further to under 10 if 2015 estimates prove accurate, while RBS would still be on a P/E of 12.5.

And the forthcoming sell-off of TSB is surely another step on the road to Lloyds’ long-term rehabilitation, isn’t it?

Cheap sell-off?

Actually, that could even be part of the reason for Lloyds’ low valuation. You see, the initial price range of 220p to 290p looks like it might be a good value. With 25% of TSB to be sold, that values the whole of the new bank at £1.28bn, and that’s below its book value of £1.6bn.

A successful sale is seen as pretty much essential, especially for political reasons with UK taxpayers still owning 25% of Lloyds shares. But interest in new flotations seems to be waning at the moment, and a low price might be necessary to ensure a full take-up — and Lloyds shareholders might have been suspecting a low-priced offloading of their assets all along.

I don’t get it

But overall, and with steady rises in earnings and dividends being tentatively forecast as far out as 2018, I just don’t see any justification for Lloyds’ low rating right now, and the shares still look cheap to me — that’s even after a rise of nearly 30% over the past 12 months to today’s 79p.

But I guess that’s markets for you.

I’m not alone

Still, at least the City’s analysts agree in their recommendations — out of a sample of 25 currently forecasting, 17 have Lloyds rated as a Buy, and there are only two who think we should Sell.

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Alan does not own any shares in Lloyds, RBS or Tesco. The Motley Fool owns shares in Tesco.