Should we be buying shares in Barclays (LSE: BARC) ahead of a market recovery? Barclays’ share price crashed hard in March, but has outpaced the FTSE 100 over the last three months. This suggests that some investors believe the shares could be too cheap to ignore.
The bank certainly faces some challenges, but Barclays’ first-quarter results looked solid to me. I think the bank’s shares probably are cheap at current levels.
A massive discount
Barclays’ stock has risen by more than 30% over the last three months, compared to a gain of less than 10% for the FTSE 100. Investors who caught the stock’s 80p low in April are already up by 50%. But I think there could be more to come.
At a last-seen share price of around 120p, Barclays’ shares are trading at a 58% discount to their tangible net asset value of 284p per share.
It’s pretty rare for a profitable and privately-owned bank to be trading so cheaply. A more normal valuation for a healthy bank would probably be roughly in line with its book value. If Barclays’ share price returns to that levels, anyone buying at current levels could see a 135% gain.
Is Barclays going under?
We have to ask why the shares are so cheap. Is Barclays heading for serious financial trouble? I don’t think so. The bank’s balance sheet looks a lot stronger to me than it did a few years ago. It’s certainly much stronger than it was ahead of the 2008 financial crisis.
Barclays has been in business for more than 300 years and while it’s not perfect, I’m pretty sure it’ll survive and prosper in the future. I think the problem with the bank’s shares lies elsewhere. Let me explain.
Why is Barclays’ share price so low?
According to the bank’s first-quarter accounts, Barclays’ tangible shareholder equity is worth about £47bn. That represents the surplus value of the bank’s assets that would be available to shareholders, after subtracting the bank’s liabilities.
Given this, you might wonder why the market is valuing Barclays’ shares at just £20bn. I think there are two likely answers to this question. One is that a decade of ultra-low interest rates means big UK banks just aren’t very profitable today. Barclays’ 2019 return on tangible equity — a key measure of profit — was just 5.3%.
The second problem is potentially more serious. Without going into too much detail, my sums suggest that if the value of Barclays’ outstanding loans fell by 5%, the bank’s net asset value per share could fall from 284p to around 200p.
With a major global recession potentially looming, it’s easy to see why investors might be nervous about bidding Barclays’ share price too high.
Buy, sell, or hold Barclays shares?
Despite my concerns, I don’t expect the bank’s equity to be wiped out by loan losses. For a long-term investor, I think that Barclays’ shares probably are a good buy at the moment.
The main risk I can see is that the bank’s Covid-19 recovery could be longer and slower than expected. The shares could stay cheap for several years. So, although I rate the shares as a buy, I also think there are more exciting choices available elsewhere.
According to one leading industry firm, the 5G boom could create a global industry worth US $12.3 TRILLION out of thin air…
And if you click here, we’ll show you something that could be key to unlocking 5G’s full potential...
It’s just ONE innovation from a little-known US company that has quietly spent years preparing for this exact moment…
But you need to get in before the crowd catches onto this ‘sleeping giant’.
Roland Head has no position in any of the shares mentioned. The Motley Fool UK has recommended Barclays. 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.