The Lloyds (LSE: LLOY) share price has taken a big hit in 2020. The outlook for the global economy has deteriorated significantly in recent weeks. As such, investor sentiment towards financial institutions such as Lloyds has collapsed.
However, while the outlook for the UK economy is uncertain in the short term, Lloyds’ long-term potential remains attractive.
Lloyds share price on offer
The UK economy has experienced many peaks and troughs over the past few decades. On every occasion, after a significant decline, the economy has recovered.
It is likely the same will happen this time around. While it could be months or even years before economic activity returns to pre-crisis levels, the chances of a robust recovery over the long run are high.
As the UK’s largest mortgage lender, Lloyds is highly sensitive to UK economic trends. As a result, the company is likely to experience a significant amount of volatility in the near term. It’s already reported a 95% drop in first-quarter profits due to rising provisions for bad loans.
However, when the economic recovery starts to take hold, the Lloyds share price could surge as profits recover.
Rising profits should drive improved investor sentiment. This may help push the share price higher.
Indeed, it looks as if the Lloyds share price offers a wide margin of safety at current levels. Shares in the lender have fallen around 50% this year. Following this decline, the stock is trading at a price-to-book (P/B) value of 0.4. That’s around half of its historical average.
These figures imply that over the long run, the Lloyds share price could rise by 100% from current levels as economic activity returns to historical levels, and investor sentiment improves.
In the meantime, the bank is well capitalised to withstand coronavirus uncertainty.
According to its most recent trading update, Lloyds’ CET1 ratio — a core measure of liquidity — “remains strong” at 14.2%. That’s better than many of its peers and suggests the group has lots of financial headroom to weather losses stemming from coronavirus. It has already taken £1.4bn of charges against loans going bad as a result of the economic downturn.
It is unlikely Lloyds will see a substantial improvement in its profits over the next few quarters. It could be at least a year before the UK economy begins to stabilise.
But over the medium term, the lender may see profits return to historical levels. And as long as losses from the crisis don’t eat all of its capital, the bank could return to its position as one of the FTSE 100’s top income stocks. The fact that management believes Lloyds’ capital ratio “remains strong” despite recent losses suggests that this is highly likely.
Therefore, now could be a good time for long-term investors to buy-in to the Lloyds share price. The stock faces an uncertain outlook in the near term, but the UK’s largest mortgage lender could produce strong returns over the next decade.
Rupert Hargreaves owns no share mentioned. 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.