LLOY.L (ADR) - Lloyds Banking Group

[DRValue]

I own quite a chunk of Lloyd's bank in my portfolio and have a value estimate of £1.56 per share (current price £0.66).

 

For those that don't know a £1 billion pound share buy back has been approved and they have been buying back 6 million shares a day yet the price is still going down.

 

It's ridiculous but also great for a shareholder. 

[DRValue]

Link to RNS:

 

http://www.lloydsbankinggroup.com/investors/regulatory-news/

[CorpRaider]

I've looked at them a couple of times.  Seems like they have the dominant deposit franchise in the UK (although market seems kind of fragmented).  I am just always very afraid that I don't understand banks and that their employees are going to take home the lion's share of the profits, if any.

[DRValue]

It's a very nice franchise. Lowest cost producer. Throwing off cash. They were bailed out but that was only because they bailed out hbos at the direction of the UK govt imo.

They're basically wells Fargo but without all the phony accounts etc. Only a tiny part of the business is an investment bank.

 

They deserve a better write up by analysts imo. Will dominate uk retail banking.

 

[petec]

DRV this is on my priority list. Would you mind giving your calculation for your target price?

[DRValue]

Sure, I'll double check the figures tomorrow.

Essentially though it's the sum of:

 

Tangible bv discounted over 15 years.

Plus 15 years of earnings growth at 80pct confidence of roe on retained capital.

Terminal growth rate of 3pct.

Discount rate of 9%.

The first 2 years of earnings are only 2/3 of what they could be as they're working through issues like ppi.

Then a couple of rate hikes by year 3 should boost earnings.

 

That valuation is about 3 times book. I think you can get to 2x but 3 would be pushing it. I think it's traded that high before though.  Those dividends will be nice though even if it doesn't get that high.

 

[rb]

It's a very nice franchise. Lowest cost producer. Throwing off cash. They were bailed out but that was only because they bailed out hbos at the direction of the UK govt imo.

They're basically wells Fargo but without all the phony accounts etc. Only a tiny part of the business is an investment bank.

 

They deserve a better write up by analysts imo. Will dominate uk retail banking.

+1 That's a very good description of Lloyd's. One thing that worries me is the huge level of household debt (about 90% of GDP) in the UK. Lloyd's is a fine institutions and will probably fare better in the event of a credit crisis but it will be far from untouched.

[Spekulatius]

It's a very nice franchise. Lowest cost producer. Throwing off cash. They were bailed out but that was only because they bailed out hbos at the direction of the UK govt imo.

They're basically wells Fargo but without all the phony accounts etc. Only a tiny part of the business is an investment bank.

 

They deserve a better write up by analysts imo. Will dominate uk retail banking.

+1 That's a very good description of Lloyd's. One thing that worries me is the huge level of household debt (about 90% of GDP) in the UK. Lloyd's is a fine institutions and will probably fare better in the event of a credit crisis but it will be far from untouched.

 

Yes and real estate had gotten ridiculously expensive in the UK. A Brexit exit will also uncouple the interest rates from the EU more, I think, although they alsway had their own policy due to stickin with the £.

[CGJB]

I own a position in Aurora Investment Trust plc (ARR.L). It was taken over in early 2016 by Phoenix Asset Management in the UK, run by Gary Channon, who's a well-regarded value manager in Britain.

 

Lloyds Banking Group is Aurora's largest position, according to its latest monthly report:

https://www.aurorainvestmenttrust.com/cms/assets/167/itesephjwzbbiyamoe6ydpjm/Aurora%20Investment%20Trust_February%202018.pdf

 

Here's what Aurora said about Lloyds in their 2016 Annual Report:

 

"We sometimes get asked how Lloyds meets our investment criteria. Generally,

banking isn’t for us. We have considered and rejected other businesses because they

have investment banking operations we don’t understand or overseas divisions exposed

to unknown risks. Lloyds does not have either of these issues and its appeal to us

today can be attributed to a few fairly simple observations. Firstly, it is a bank focused

on UK domestic business: current accounts, mortgage lending and loans, i.e. nothing

racy. Secondly, (as the competition commission discovered when they investigated the

banking sector) Lloyds customers (and in fact UK banking customers in general) are

very loyal and don’t change their banking provider very often. This means that Lloyds has

been able to maintain persistently high market share despite not being the cheapest

provider of almost any service and product it provides. Thirdly, the hideous banking crisis

of 2007/8 and its aftermath means that Lloyds is operating cautiously and under far more

scrutiny than at any time in recent memory. Over the last couple of years the strong

underlying profitability of the business has become apparent and the current valuation

appears to be very low."

 

Link: https://www.aurorainvestmenttrust.com/cms/assets/75/3tjnrl2ewrsxlkagj6a6bqd3/Aurora%20Annual%20Report%2015%2006%2016_FINAL.pdf

[muscleman]

I own Bank of Cyprus, which trades in UK but has nothing to do with UK economy. It has been going down fast recently. I wonder if it is related to Brexit fears and wide spread sell off of all UK financial stocks?

[Spekulatius]

I own Bank of Cyprus, which trades in UK but has nothing to do with UK economy. It has been going down fast recently. I wonder if it is related to Brexit fears and wide spread sell off of all UK financial stocks?

 

Cyprus is Europe’s money laundromat, especially for the Russians. Maybe it has to do with Putin’s re-election?

[DRValue]

Was it Cyprus that bailed in depositors?

[Spekulatius]

Was it Cyprus that bailed in depositors?

 

Yes, a 47% haircut to depositors with more than €100k in deposits. It’s all good now, Wilbur Ross was vice chairman for a while after the collapse

https://www.theguardian.com/us-news/2017/mar/23/wilbur-ross-russian-deal-bank-of-cyprus-donald-trump-commerce-secretary

[samwise]

Boris is in, Britain will exit on Halloween. The markets are scared. GBP is down.

 

Lloyds Banking Group is expected to earn 8 cents next year, yet sells for 55, is over capitalized, conservative, has 30% share in UK and is buying back stock. I’m tempted to make my first British investment.

 

That’s almost a 15% earnings yield. Of course it seems like they face either Brexit or Corbyn risk. But what’s the worst scenario the market is pricing in? Serious question from someone who has never invested in Europe before.

 

Does the market expect a replay of Greece or Italy? The British economy is more dynamic than that, IMHO. But if we do expect 10 years of deflation, massive unemployment and depression, shouldn’t a lot of other stocks be net-nets?

 

Is this BAC in 2007 with lots of bad loans? They seem to have lent conservatively, avoided London.

 

Will funding dry up and require a lots of dilution. Possible, but they do have a good deposit base and don’t seem to have enormous wholesale funding.

 

Corbyn will nationalize them? Maybe, but will he pay a fair price. I think in a rule based economy he will have to, unless it’s a rescue operation and the bank would have collapsed otherwise.

 

I’m trying to figure out how bad a hard brexit is expected to be. What are the numbers that justify such a low valuation?

 

 

[DRValue]

Boris is in, Britain will exit on Halloween. The markets are scared. GBP is down.

 

Lloyds Banking Group is expected to earn 8 cents next year, yet sells for 55, is over capitalized, conservative, has 30% share in UK and is buying back stock. I’m tempted to make my first British investment.

 

That’s almost a 15% earnings yield. Of course it seems like they face either Brexit or Corbyn risk. But what’s the worst scenario the market is pricing in? Serious question from someone who has never invested in Europe before.

 

Does the market expect a replay of Greece or Italy? The British economy is more dynamic than that, IMHO. But if we do expect 10 years of deflation, massive unemployment and depression, shouldn’t a lot of other stocks be net-nets?

 

Is this BAC in 2007 with lots of bad loans? They seem to have lent conservatively, avoided London.

 

Will funding dry up and require a lots of dilution. Possible, but they do have a good deposit base and don’t seem to have enormous wholesale funding.

 

Corbyn will nationalize them? Maybe, but will he pay a fair price. I think in a rule based economy he will have to, unless it’s a rescue operation and the bank would have collapsed otherwise.

 

I’m trying to figure out how bad a hard brexit is expected to be. What are the numbers that justify such a low valuation?

 

I think I've read one of the ratings agencies expect the banks to be barely profitable in a no deal scenario, presumably for a year or more.

 

Imo the UK govt and eu are fear mongering. There'll be disruption, but if the govt can get through the financial crisis, this won't be on anywhere near that scale imo.

[CorpRaider]

It seems like a lower pound would do something to rev up the manufacturing and export sectors.  I really doubt they have any idea what will happen given the complex adaptive systems and multiple factors at play. 

[DRValue]

It seems like a lower pound would do something to rev up the manufacturing and export sectors.  I really doubt they have any idea what will happen given the complex adaptive systems and multiple factors at play.

 

Agree.

 

My whole philosophy with Brexit is that people are right that there will be a recession etc., if the Government do nothing. But the Government isn't going to do nothing.

 

 

[no_free_lunch]

I really doubt they have any idea what will happen given the complex adaptive systems and multiple factors at play.

 

Probably the smartest thing I have heard regarding Brexit.

 

[SharperDingaan]

You might want to look at this differently.

 

We don't know if Boris will actually achieve an October exit, or have any idea what it might look like.

All we know is that the tide is going out, as evidenced by a weakening GBP. And that is likely to continue until there is/is not an exit.

To take the risk until October, most would want something more off todays price.

 

Most would expect that if there actually is a Brexit, there will be rapid change until the nation finds it feet.

Barely positive EPS for Lloyds if everything works, but more likely negative in the first few quarters. What happens to pref prices when dividends look like they might not get paid as they come due? What happens to common share prices when pref prices fall? And what happens when the many banks look like they might well get quasi-nationalized, and merged? Hard to see how you wouldn't want maybe 40-50% off the current price, to take the risk. Also hard to see how GBP currency devaluation, between now and then, would not add 10-25% to my foreign buying power. Do you really think that post Brexit, GBP is going to be worth more than a Euro?

Very dumb idea to buy today.

 

Our own thoughts are that were a Brexit to occurr, it will be very much like the Go-Go 60's all over again.

Very good franchises available dirt cheap, even cheaper to a US (or foreign) buyer :), and a wide-spread boost to tourism as the tourist $ suddenly stretches a lot further. Punch card opportunity to those willing to wait.

 

SD

 

 

 

 

[DRValue]

You might want to look at this differently.

 

We don't know if Boris will actually achieve an October exit, or have any idea what it might look like.

All we know is that the tide is going out, as evidenced by a weakening GBP. And that is likely to continue until there is/is not an exit.

To take the risk until October, most would want an additional 10-15% off.

 

Most would expect that if there actually is a Brexit, there will be rapid change until the nation finds it feet.

Barely positive EPS for Lloyds if everything works, but more likely negative in the first few quarters. What happens to pref prices when dividends look like they might not get paid as they come due? What happens to common share prices when pref prices fall? And what happens when the many banks look like they might well get quasi-nationalized, and merged? Hard to see how you wouldn't want maybe 40-50% off the current price, to take the risk. Also hard to see how GBP currency devaluation, between now and then, would not add 20-30% to my foreign buying power. Do you really think that post Brexit, GBP is going to be worth more than a Euro?

Very dumb idea to buy today.

 

Our own thoughts are that were a Brexit to occurr, it will be very much like the Go-Go 60's all over again.

Very good franchises available dirt cheap, even cheaper to a US (or foreign) buyer :), and a wide-spread boost to tourism as the tourist $ suddenly stretches a lot further. Punch card opportunity to those willing to wait.

 

SD

 

A no deal brexit is what I'm looking forward to. I agree, there will be some good names on sale. I'm hoping my gse investment comes good about the same time to get an exchange rate boost.

[Spekulatius]

Boris is in, Britain will exit on Halloween. The markets are scared. GBP is down.

 

Lloyds Banking Group is expected to earn 8 cents next year, yet sells for 55, is over capitalized, conservative, has 30% share in UK and is buying back stock. I’m tempted to make my first British investment.

 

That’s almost a 15% earnings yield. Of course it seems like they face either Brexit or Corbyn risk. But what’s the worst scenario the market is pricing in? Serious question from someone who has never invested in Europe before.

 

Does the market expect a replay of Greece or Italy? The British economy is more dynamic than that, IMHO. But if we do expect 10 years of deflation, massive unemployment and depression, shouldn’t a lot of other stocks be net-nets?

 

Is this BAC in 2007 with lots of bad loans? They seem to have lent conservatively, avoided London.

 

Will funding dry up and require a lots of dilution. Possible, but they do have a good deposit base and don’t seem to have enormous wholesale funding.

 

Corbyn will nationalize them? Maybe, but will he pay a fair price. I think in a rule based economy he will have to, unless it’s a rescue operation and the bank would have collapsed otherwise.

 

I’m trying to figure out how bad a hard brexit is expected to be. What are the numbers that justify such a low valuation?

 

I think I've read one of the ratings agencies expect the banks to be barely profitable in a no deal scenario, presumably for a year or more.

 

Imo the UK govt and eu are fear mongering. There'll be disruption, but if the govt can get through the financial crisis, this won't be on anywhere near that scale imo.

 

You can find the info about the the UK stress Test here, which of answers your question:

https://www.bankofengland.co.uk/-/media/boe/files/financial-stability-report/2018/november-2018.pdf?la=en&hash=7239DE596DD5DB14BEB17E1141C2CDEB73A8623C#page=82

 

 

The short answer is that they passed, but had the cut the dividend to do so. The stress test scenario is comparable to the US scenario in terms of severity.

 

I really have no idea whatevs going to happen, but I think the chance of a hard Brexit are pretty real. Boris is playing the Trump playbook and tried renegotiate a better deal, but I think the EU is the bigger stick on this case.

 

 

Some stuff to watchlist for (besides a recession scenario for the UK):

 

1) Election - who going to win - Corbyn?

2) GBP weakening and causing inflation, which may force the British central bank to raise rates to defend the GBP and prevent inflation, regardless of economy

3) Scots asking for a referendum again and break loose from the UK (my take is that they prefer to stay in the EU, but I could be wrong).

 

 

Interesting situation and may open up some great setups to buy stock really cheap. Or perhaps nothing severe happens and the whole thing is a lot of fuss for nothing.

[Spekulatius]

Looks like a buying opportunity is there - stock is down 5% on increased PPI claims:

https://finance.yahoo.com/news/lloyds-bank-hit-missold-ppi-082732437.html

[samwise]

Thanks everyone for your replies.

 

A couple of years of zero earnings and then 7-8 cents per year discounted back at 10% is 57-65. So the market is discounting a worse scenario than that. Based on the stress test (and history) it could be the risk of massive dilution.

 

The report you linked is very informative Spekulatius. I need to finish reading it. It uses a stress scenario worse than the GFC and worse than what they think a hard Brexit can look like. In that scenario (which may be unreasonably extreme), it’s much worse than a dividend cut that you mentioned. The bank passes from the BOE’s perspective because it can keep lending and supporting the economy without causing a credit crunch. But this is not successful for shareholders. The AT1 capital gets converted to CET1 capital as CET1 falls below 7% with mounting NPL. This means dilution, but I can’t get any information on the conversion terms besides the trigger. If I take the ratio of capital before and after conversion, it seems like sharecount could roughly double. Then if the bank eventually earned the same amount on double shares, it would earn 4 cents and be priced at ~40 in a couple of years, and maybe 34 now is fair. But I suspect the dilution is probably worse than this if AT1 converts. This kind of scenario at a 1/3 probability could generate today’s price.

 

After all this the report says that the market isn’t (wasn’t at time of publication) pricing in such a scenario because AT1 is trading fine, and UK banks’ P/B is proportional to ROE , inline with global banks. So that price was about right according to BOE. Surely they couldn’t say that now. I wonder how AT1 debt of lloyds is trading and how I could even check that?

 

As for the possibility of a cheaper price later, or a lower GBP. Anything is possible, but no point making short term predictions of prices.

 

 

[DRValue]

I'm happy to wait till the lead up to October as I don't see any catalysts to push the price up. Looks like a down trend to me unless some shock deal which imo the eu won't give.

[Spekulatius]

I'm happy to wait till the lead up to October as I don't see any catalysts to push the price up. Looks like a down trend to me unless some shock deal which imo the eu won't give.

 

That’s my take  take too. I have no idea what the plan is, but can’t image that a hard Brexit is going to be good for stocks, much less banks.

 

And Cameron had a good point an these AT1 bonds. I found a prospectus for one and it looks like it yields close to 7% and would convert at 63p (above the current price). So dilution from these is definitely something to consider.I don’t fully understand what forces a conversion and how the conversion price adjusts (common dividends). Makes me wonder why the mess with this AT1 capital at all, instead of just accumulating more common capital, given the high cost.

 

The bigger question is probably why one want to bother with all these issues at all when you can buy WFC for a not much higher valuation. With WFC, I have a much healthier economy (growth rates, consumer debt levels, real estate valuation) as a backdrop and the PE is almost the same and the owners yield higher. No Brexit or AT1 capital to worry about.

https://www.sec.gov/Archives/edgar/data/1160106/000095010319008051/dp108453_fwp.htm