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How low can Lloyds shares and other troubled bank shares go?

Lloyds (LSE: LLOY) shares have plunged in value this year. Shares in the FTSE 100 bank have declined 54% year-to-date as investor sentiment towards the financial sector has deteriorated. 

Unfortunately, it doesn’t look as if this is going to change any time soon. 

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Lloyds shares keep falling

As the coronavirus crisis continues to rumble on, the outlook for UK financial stocks is bleak. Analysts are predicting a surge in loan losses this year, which could cost UK lenders tens of billions of pounds. 

As investors have digested this information, they have sold UK bank stocks. As the UK’s largest mortgage lender, Lloyds shares have suffered more than most. The bank has now set aside a total of £3.8bn to cover bad loans this year.

The stock may continue to decline for the rest of the year. As with any investment, shares in the lender and its peers could fall to zero in the worst case. 

However, this worst-case scenario is unlikely. Even in the financial crisis, Lloyds shares did not hit this level as the bank was bailed out by the government.

This time around the lender is in a much stronger financial position than it was in 2009. Regulators have spent the past 10 years forcing the bank and its peers to hold more capital, as they sought to avoid a repeat of the financial crisis. These actions should help it weather this crisis.

Time to buy?

Considering all of the above, investors might be interested in buying Lloyds shares while they trade at a depressed level. This could be a sensible financial decision.

While the outlook for stocks in the near term is uncertain, as one of the UK’s largest financial institutions, when the economy recovers from its current setback over the next few years, Lloyds shares should track the recovery.

This recovery could result in substantial total returns for shareholders from current levels. 

Indeed, shares in the bank are currently dealing at a price-to-book value of just 0.4 compared to the financial services sector average of 0.6. This implies that Lloyds shares may offer a wide margin of safety at current levels. 

What’s more, if the bank is allowed to resume dividend payouts at last year’s level of 3.4p per share, the stock’s dividend yield could hit 11%. 

The bottom line

All in all, the near-term outlook for Lloyds shares is highly uncertain. As such, the stock could continue to fall over the next few weeks and months.

Nevertheless, over the long term, as one of the UK’s largest financial institutions, the group is well placed to stage a strong recovery, and when it does, shareholders could see strong total returns on their investments from current levels. 

Therefore, now could be an excellent time to snap up a share of this deeply undervalued stock as part of a diversified portfolio while it continues to trade at a low level. 

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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.

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