UK challenger banks’ shares were hammered in the aftermath of the Brexit vote, as concerns regarding a possible UK recession resulted in investors fleeing the sector in a ‘sell now, ask questions later’ fashion.
The sell-off was clearly disproportionate to the earnings momentum of many of these smaller banks, and it’s no surprise that the share prices of the challengers have rebounded strongly in the last few months.
While Shawbrook Group (LSE: SHAW) and OneSavings Bank (LSE: OSB) are now trading well above their post-Brexit lows, it would appear there’s still hesitation towards the sector, as both stocks are trading at remarkably low multiples despite releasing positive trading statements recently. Is now the time to pick up these fast-growing banks while they’re still cheap?
Investor confidence in Shawbrook was shattered in late June after the bank announced that it would be taking an impairment charge of £9m in relation to a number of loans that were underwritten despite not matching its lending criteria. This announcement, combined with the resignation of the group’s CFO and Brexit-related panic, resulted in a share price fall of almost 60%.
However, Shawbrook has since said it’s confident that such a breach wouldn’t recur after upgrading its risk management systems, and consequently, sentiment towards the stock has improved, with the bank’s share price climbing from 129p in July to 252p today.
The challenger bank released a strong interim management statement earlier this month, reporting customer loan growth of 19% year-on-year, and a stable net interest margin of 5.6%. Management stated that “the momentum of the first half of 2016 continued into the third quarter” and that Brexit-related uncertainties had had “minimal impact” on the business.
Yet despite the strong trading momentum of the bank, Shawbrook shares can be bought for a P/E of just 9.3 times FY2016 forecast earnings right now, which seems low to me for a company that has generated compound annual revenue growth of an incredible 70% annually over the last three years.
Similarly, OneSavings Bank’s shares were smashed after Brexit, with the company losing around 47% of its market capitalisation in a matter of days. While the bank’s share price has recovered somewhat, it’s still below its pre-Brexit levels.
OneSavings Bank also reported strong results recently, with loan book growth up 13% for the first nine months of the year. Management stated that the pipeline of new business was at a “record level.”
With analysts pencilling-in earnings per share of 40p for FY2016, OneSavings Bank is trading on a forecast P/E ratio of just 8.1, which looks like a steal to me, especially given the fact the bank paid out dividends of a well-covered 8.7p last year and is thus currently yielding 2.7%.
It must be remembered that the challenger banks are essentially geared plays on the health of the UK economy. I’m under no illusion that in the event of an economic downturn or further government intervention in the buy-to-let property market, the banks’ profitability is likely to suffer. Having said that, I believe there’s a long-term growth story at play here, and in my opinion both banks currently offer strong value for investors with a long-term mindset.
Edward Sheldon has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.