Since I last covered Lloyds (LSE: LLOY) shares, their value has increased by almost 10%. What’s more, the share price is up 35% year-to-date and over 50% year-on-year, briefly touching 50p earlier this month. With such encouraging price movements, could Lloyds shares be a solid addition to my portfolio? Let’s take a closer look.
Lloyds shares valuation
Lloyds shares currently trade at a price-to-book (P/B) ratio of 0.7x. This means that the share price is trading at levels less than the current book value. This may point towards the stock being undervalued and is a good metric to consider when deciding whether to add Lloyds to my portfolio.
In addition to this, my fellow Fool Alan Oscroft highlighted the potential of a falling price-earnings (P/E) ratio. Lloyds shares finished 2020 with a P/E figure of 33x, due to a pandemic-induced hit to earnings. Pre-pandemic EPS figures would generate a P/E ratio of around 15, which isn’t far off the current ratio of 17. As a company’s profits increase, it’s often expected that this would lead to a rise in share price. However, when a rise in share price doesn’t occur with a rise in profits, the P/E ratio will fall. A falling P/E ratio can therefore be a sign of an undervalued stock. As Lloyds profits recover, it seems to be moving back towards this cheaper range, which again raises the question: are Lloyds shares undervalued? If so, it certainly helps the investment case.
Lloyds’ 2021 Q1 results highlighted some encouraging numbers, including a £680m statutory profit after tax. This was up 30% from the previous quarter. In addition to this, net income was up 2% over the same period, reaching £3.7bn. These numbers highlight the encouraging position of Lloyds, aligned with what the firm highlighted as its “critical role” in the pandemic recovery.
It will also be publishing its half-year results on 29 July. If this report contains similar encouraging numbers, I expect Lloyds shares to rise throughout early August. If this is the case, now could be a great time to add it to my portfolio at a discounted price.
Although the numbers seem promising, Lloyds shares still carry risks. The current ultra-low interest rate environment of the UK economy is a downfall for Lloyds. This is likely to continue for at least the immediate future. Low rates set by the Bank of England reduce the rate that can be charged to borrowers, thus curtailing banks’ profits. This is a risk I must consider before adding Lloyds shares to my portfolio.
In addition to this, the pandemic still poses a threat. The prolonging of restrictions greatly reduces economic capacity. All restrictions are set to be lifted on 19 July. However, with cases rising daily, some critics are sceptical of this coming to fruition. Increased cases reduce the likelihood of any economic surge.
So should I buy?
Although I believe that Lloyds currently offers great value, I am too sceptical of the UK economic outlook to add it to my portfolio just yet. I want to see how the economy performs if (and it’s a big if) restrictions are lifted. Only when I have a firmer idea of the country’s macroeconomic outlook, would I consider buying the shares.
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Dylan Hood has no position in any shares mentioned above. 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.