The stock market crash has seriously hammered the banking sector, but I think it’s overdone. I’m suffering with my Lloyds Banking Group shares myself, having watched their price collapse. And I don’t even have any dividend income for comfort. I’d definitely buy Lloyds shares now, though, as I think they’re just too cheap. But there’s another I have my eye on, and it’s one of the challenger banks.
I’ve been down on challenger banks during the Covid-19 pandemic. My thinking is that they just don’t have the same balance sheet robustness to see it through. And if a bank is going to go bust in the stock market crash, it’s going to be one of the smaller ones, right?
As if to support that theory, shares in Virgin Money (LSE: VMUK) have fallen a good bit further than the big FTSE 100 banks. Since the slide started, Barclays shares are down approximately 40%. Lloyds is doing worse with a 45% crash. And Virgin Money shares have lost more than 55% of their value. The stock market crash has hit them all, but the markets seem to share my fears about challenger banks.
Stock market crash
So is Virgin Money likely to go bust? A first-half update released Wednesday convinces me it isn’t.
Chief executive David Duffy did speak of “an increased impairment charge of £232m against future loan losses and a reduction in underlying profitability.” But he added: “We enter this period from a position of strength, with a defensive loan book and resilient capital position.”
That impairment charge is a big sum for a small bank, but the bank still recorded underlying profit of £120m. That’s 58% down from the £286m recorded for the same period last year. But Virgin says that’s down to the effects of the Covid-19 impairment.
But what’s the bank’s balance sheet health looking like? Virgin says it has “balance sheet provision reserves of £542m.” That sounds safe enough to me, at least in the relatively near term. We’re looking at a CET1 ratio of 13% too, which suggests the robustness to withstand a fair bit more of the stock market crash.
What might bad debts look like? The bank’s loan book is 82%, composed of what it calls high-quality mortgages. There’s 11% in business lending. But Virgin says there’s “no material exposures to the more immediately impacted sectors” contained in that. Personal lending accounts for 7% of the total, but that’s said to be mostly in high-quality credit cards. That all sounds reasonably comfortable to me.
The current incarnation of Virgin Money came from the 2018 buyout by Clydesdale & Yorkshire Banking Group. Even after its fall in the current stock market crash, Virgin still has a market cap of over £1bn. As such, I think it’s at considerably less risk than some of the smaller challenger banks.
I don’t think any FTSE 100 banks are going to go bust. And I really don’t think Virgin Money will either. I see it coming through this crisis with a strong future. The shares, in my opinion, are cheap. And I reckon it’s a good time to buy.
Alan Oscroft owns shares of Lloyds Banking Group. The Motley Fool UK has recommended Barclays and 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.