Image source: Getty Images
At the December 2021 meeting of the Bank of England, the committee decided to raise interest rates by 0.15% to 0.25%. This was the first move that signalled the intent to raise rates to start fighting rising inflation. Over the next couple of years, the base rate rocketed higher to 5.25%. FTSE banking stocks benefited from this, with any investment made in late 2021 looking very attractive now.
Leading the charge
I’m going to assume that instead of putting all eggs in one basket, an investor might have split £5,000 between five different banks. This would enable the overall risk to be lowered in case one underperformed. For example, they could have picked Barclays, HSBC, Lloyds, NatWest, and Metro Bank (LSE:MTRO).
If £1,000 was put in at the start of December 2021 in each bank, the blended percentage return from all five would give the total current value. Interestingly, the best performer was NatWest Group, gaining 123% over this period. The worst performer was Metro Bank, up just 15%. Overall, the return for the banking portfolio was 74.7%. So the £5,000 would currently be worth £8,735.
That’s impressive, especially when I consider that the FTSE 100 overall is up 21% over the same period.
The benefit of high interest rates
To some extent, the belief that interest rates would rise sharply would mean that buying banking stocks was a smart move. All the banks in the portfolio make money primarily via the net interest margin. This refers to the difference between the rate charged on loans and the rate paid out on deposits. When the base rate is near zero, there isn’t much margin to be made (unless you have negative deposit rates!). When the base rate rises, so does net interest income.
Metro Bank benefited from this. According to its 2022 full-year results, the net interest margin rose from 1.23% in 2021 to 1.91% in 2022. Net interest income increased to £475.6m in 2022 (up from £353.2m in 2021). Metro Bank had a sticky deposit base due to its branch-heavy model, allowing it to benefit more than fintech firms. In 2022, total deposits were £16bn, helping support its loan growth and interest earnings.
The share price is up 221% in the last year, although this is slightly misleading as the share price was falling in late 2023 and early 2024 due to it having to implement a £925m refinancing package. This was related to issues in meeting regulatory capital requirements and wasn’t a good look for the bank.
Looking ahead
Even though the banks have done very well, I’m not massively optimistic looking forward. Interest rates are now falling, and should continue to do so. Even though the banks can still remain profitable through other income streams, I don’t see the same kind of gains as likely for the next few years. Therefore, I’ll be looking to other sectors (such as AI) as growth areas for the future.
This story originally appeared on Motley Fool
