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UK bank shares – worthy investments for 2021?

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In the dim and distant past, it was always summer in the season of UK bank shares. Profits were large, growth was constant, and copious dividends were paid to hungry investors. They were the halcyon days of Barclays trading above 600p, Lloyds trading above 400p, and HSBC above 800p.

In 2008, the financial crisis hit, and the days of wine and roses were over. Figures such as Bob Diamond and Fred Goodwin became targets for public ire, and scandals continued to loom large over the industry in the following decade. Libor manipulation, PPI mis-selling, and interest-rate hedging were all colossal own goals for the sector. Share prices end the decade close to lows for most of its constituents.

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2021 – A fresh start for UK bank shares?

There is little doubt that banks will suffer a hangover from the Covid-19 pandemic. The industry will face a prolonged period of rock-bottom interest rates, and there will be significant provision for bad loans required. However, some banks are better placed than others to weather the storm.

Bank of England Governer Andrew Bailey has given an update on banks resuming dividends this week, having previously banned payouts in March. Banks have not had to make provisions for bad debts that were as bad as initially thought. This may free up cash to return to investors and restart dividend payments, albeit under close scruitiny. The challenge for the UK banking sector is to keep a sustainable public image at a time of nationally high unemployment and companies like Debenhams and Arcadia folding. 

Potential investments

Of all the UK bank shares, Barclays gives the soundest investment case, in my opinion. The investment bank has performed well this year, and is trading at a discount to other sector members. One positive outcome of the financial crisis was the stress tests that banks are now forced to conduct. As a result, Barclays are significantly better capitalised now. I also like their plans to provide an alternative to the likes of Hargreaves Lansdown with growth of their Smart Investor app. The bank has seen a 230% growth in customers using this platform in the last year.

Barclays posted a profit before tax of £1.1bn in the third quarter. Comparisons with the previous year are skewed by the bank’s decision to include a £1.6bn PPI charge in the previous financial year, but it does at least show profitability. 

Since the financial crisis, Lloyds is a candidate for being the ultimate ‘jam tomorrow’ UK bank share of the FTSE 100. Investors are always led to think that the share price is finally due to head upwards, then reality sinks in again. Over the past five years, shares are down 46%. As a UK-focused bank, they are far more exposed to our home fortunes than sector rivals. Low interest rates will cap profitability for some time. Jonathan Smith does however give a bullish commentary on their prospects.

Foolish summary

Investing is a game. Admittedly, a game with hard earned cash at stake. But investors can use the same principle as for any other games, and try to find the most potential reward for the least risk. Given that, it is hard to see how investing in UK bank shares is a sound proposition for 2021. I will certainly be avoiding the sector and looking to areas of the market less weighed down by incumbent problems. 

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bwatson1 has no position in any of the shares mentioned. The Motley Fool UK has recommended Barclays, HSBC Holdings, 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.