Royal Bank Of Scotland (LSE: RBS) and Standard Chartered (LSE: STAN) are risky equity investments, but both banks promise rising returns in the next few quarters. Here’s why.
RBS Shrinks
Investors were not impressed with the bank’s trading results last week: RBS plunged about 10% from its multi-year high in two trading sessions. Several brokers voiced their concern, and a slew of price target cuts followed. This is an opportunity for smart investors, in my view.
True, the bank is still 80% owned by the UK government and hefty losses don’t render it particularly appealing, but trends for profitability are encouraging — and, equally important, there is a lot to like in its strategy.
As RBS focuses on its retail activities in the UK, it will continue to exit non-core markets, while abandoning its ambitious plan in investment banking, a unit that may bring huge profits but whose cost base dilutes returns. With a more solid capital structure and a depressed valuation, RBS may become a more attractive investment proposition for private investors from the Middle East, who may show interest to acquire a large stake in the bank, according to the word on the street.
Admittedly, annual results were not great, but the losses for the stock were contained. At around 374p, the shares currently trade about 25% below the price they must reach for the UK government to record a capital gain on its initial investment. That gap may soon close, I reckon, and the Treasury will do all it can to announce capital gains with great fanfare, just as it did with Lloyds in recent times.
RBS remains one the cheapest stocks in the banking universe. Its 14% discount to tangible book value (P/TBV) is justified by state ownership, hefty net losses and a restructuring that will take years to wrap up… yet if RBS continues to cut costs and discontinue units where heavy investment is needed, its capital ratios will become stronger and its shares will likely surge above 1x P/TBV, for an implied price target in the region of 440p.
A Step Forward For Standard Chartered
Standard Chartered must prove to investors that its turnaround plan will yield dividends. That’s not an easy task, of course. The shares have risen 16% since early February, and have gained 10% since a new management team was announced last week. (Such an outcome should have not caught our readers by surprise.)
China, the Middle East and South-East Asia don’t look too bad at the moment, and Standard Chartered is one bank that could profit from trends there. Annual results released yesterday contributed to a rise in the shares as the bank targets cost savings of $1.8bn over the next three years: it’s too early to say whether such measures will move the needle, but new management led by Bill Winters has a real chance to make an impact in the next few quarters.
The bank’s projected dividend yield (high) and relative valuation (low) send mixed signals to shareholders, whose fortunes now depend on: a) how quickly non-core assets will be sold; b) how much the bank will raise from those disposals; and c) whether managers implement tougher corporate governance rules. A 20% dividend cut would be good news in the long term, too, in my opinion, although that’s not strictly necessary.
One problem with Standard Chartered is that the bank must sell underperforming assets to become more profitable, but it’s unclear what is core and non-core in its asset portfolio. Mr Winters, an investment banker with deep knowledge of regulatory issues, will have to deal with assets in emerging markets for which market appetite is unlikely at certain prices, but the great news is that Standard Chartered’s core capital ratios are decent, so the bank has time to become a more valuable investment proposition.
