According to top investors such as Warren Buffett and Charlie Munger, great investment opportunities do not come along all that often. Therefore, when they do, they say it is important to grasp them.
With this in mind, Lloyds (LSE: LLOY) could be a rare opportunity for value and income investors. Despite having a relatively low valuation and high yield, there seems to be limited interest in its future. This could make it a star investment for the long term, and one which is worth pursuing at the present time.
Perhaps what makes the company’s current valuation and yield so surprising is the current state of play of the UK stock market. The FTSE 100 is trading at a record high, which means that many of its constituents have high valuations which lack a wide margin of safety. In contrast, Lloyds has a price-to-earnings (P/E) ratio of 8.9 using 2017’s forecast earnings figure. This suggests that it has a wide margin of safety and may deliver higher capital growth levels than many of its index peers.
Similarly, at a time when inflation is on the rise, the company has a relatively high dividend yield. Using next year’s forecast dividends-per-share figure, it trades on a dividend yield of 6.6%. Since shareholder payouts are expected to be covered 1.6 times by profit, there could be scope for them to grow in future. This could help investors to beat 3%-plus inflation in the long run.
Of course, one of the risks associated with the bank is the outlook for the UK economy. Although GDP growth and employment figures have held up reasonably well in recent months, there is still a good chance of a ‘no deal’ scenario being realised with regard to Brexit talks. In such a scenario, UK-focused companies such as Lloyds could suffer significantly from a possible deterioration in the performance of the economy, as well as a decline in investor sentiment.
While Lloyds lacks the international diversification of some of its sector peers, it appears to have a sufficiently wide margin of safety to make up for its concentrated business focus. Furthermore, while a number of its sector peers are seeking to reduce costs and become more efficient, it has already achieved major progress in this area. This may provide it with an opportunity to focus to a greater extent on growth, rather than legacy issues or cost reduction. Evidence of this can be seen in its recent £1.9bn acquisition of the MBNA credit card business.
Clearly, Lloyds faces an uncertain period over the medium term. The UK economic outlook remains challenging, and this could cause investor sentiment to remain downbeat. However, with an improved outlook, low valuation and highly sustainable dividend yield it could be a stunning investment opportunity for the long term.
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Peter Stephens owns shares in Lloyds. The Motley Fool UK has recommended Lloyds Banking Group. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.