Stock market valuations have fallen to levels I’ve not seen since the financial crisis. Lloyds Banking Group (LSE: LLOY) is a good example. At 32p, the Lloyds share price hasn’t traded this low since 2012.
As I’ll explain, I think Lloyds’ weakness could provide a great opportunity for long-term investors to lock in an attractive income. And with the end of the tax year fast approaching, this might also be a good time to use up your ISA allowance and avoid any future tax bills.
Should we be worried about Lloyds?
Of course, there may be good reasons why the Lloyds share price has collapsed. The coronavirus outbreak will probably slow down the UK economy. Unemployment and bad debts could rise. Businesses may go bankrupt. In a scenario like this, Lloyds’ profits would almost certainly fall.
A second problem is that the Bank of England has cut interest rates to try and support the economy. This may be useful for businesses, but banks were already struggling to make money from low rates. Even lower interest rates could put more pressure on profits.
I’m concerned about these risks, but they’re no secret. The market can see the risks being faced by banks – that’s one reason why their shares have tanked.
Look ahead
However, I don’t think it’s the only reason why Lloyds’ share price has fallen so hard. In my view, the other reason is that markets hate uncertainty. In situations like this, share prices very often fall too far before returning to a more balanced level.
Emotions such as fear, uncertainty, and doubt are haunting investors at the moment. But the reality is that sooner or later, all of this will pass. The coronavirus pandemic will be contained.
Investors will then start to look at Lloyds’ performance more closely. Given that the government is promising to support for borrowers and small businesses, I suspect we’ll find that Lloyds’ balance sheet remains in fairly good health.
Why I think the Lloyds share price is cheap
Even if we’re heading into a downturn, I think that Lloyds is starting from a position of strength. It’s well-capitalised and more profitable than its main rivals.
For example, Lloyds’ return on tangible equity was 14.8% last year. This compares very well with Royal Bank of Scotland Group (9.4%) and Barclays (9%).
Costs were also much lower than at rival banks. Lloyds’ cost-to-income ratio of 48.5% was significantly lower than either RBS (65.1%) or Barclays (63%).
Lloyds’ superior profitability means that it generates more spare cash for shareholder returns. If last year’s dividend remains unchanged, then the shares would now offer a yield of 10%.
This year’s dividend might be cut or perhaps postponed, until the impact of the coronavirus outbreak becomes clearer. But most experts agree that banks’ balance sheets are much stronger than they were during the financial crisis. I don’t expect another banking meltdown.
Indeed, I suspect that Lloyds will be able to continue paying regular dividends, even if the payout is reduced this year.
Buying stocks at times like this can be uncomfortable.
But if you plan to keep the shares for at least five years, then I think the Lloyds share price is very likely to be a bargain buy at current levels. I rate the shares as a buy for income.
