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Lloyds‘ (LSE: LLOY) shares are up 29% over the year and 133% over five years. This begs the natural question of whether any value can be left in the stock now?
Factoring in strong earnings growth potential, relative undervaluation to its peers, and absolute undervaluation to projected profits, I think there is. And it could be a lot.
So how much exactly are we looking at here over the short- and long-term?
What’s the 12-month forecast?
The 19 major analysts covering Lloyds have a consensus short-term (one-year) price target of £1.21. That represents a 13.1% increase on the current price of £1.07.
One key positive underlying this is the bank’s ability to reinvest short-term customer deposits into longer-term, higher-yielding assets.
Another positive factor is Lloyds’ track record of setting conservative financial targets and then outperforming them. Analysts’ price forecasts are based on official figures from companies, and if these are exceeded, then price targets are raised.
And the final positive element is the bank’s aggressive share buyback strategy. This reduces the supply of shares in the market, which — if demand remains steady — will boost the price.
What’s the medium-term forecast?
Over the medium-term (the next three years or so), Lloyds is projected to keep its profit growth rising significantly. That is the key driver in price for any share over time.
More specifically, analysts forecast its profits will rise by a yearly average of 11.1% to the end of 2028, at least.
A risk here is any increase in competition in the sector that could squeeze its margins. Another would be the imposition of any government windfall tax on banking profits.
However, Lloyds still looks very undervalued compared to its peers over the medium-term period. On the key price-to-sales ratio, for example, it is second-lowest in its competitor group, at 2.9 compared to the average 3.1. These comprise Barclays at 1.9, NatWest and Standard Chartered at 2.9, and HSBC at 4.5.
How undervalued is it over the long term?
Long-term market professionals tend to use discounted cash flow (DCF) analysis to ascertain where a share will trade over time. This uses future cash flow forecasts based on projected earnings growth and then discounts them back to today. That produces a current per-share price.
Analysts’ discount rates can differ, which may produce varying outcomes. But my DCF analysis, including an 8.4% discount rate, shows Lloyds’ shares are 50.1% undervalued at their present £1.07 price.
That suggests a ‘fair value’ of £2.14 a share. Historically, today’s stock prices tend to move to their fair value over time. So this suggests a potentially superb buying opportunity, if that analysis holds up.
My investment view
Unfortunately, I already hold two other stocks in the banking sector — HSBC and NatWest. Owning another would disrupt the risk/reward ratio of my portfolio, so I can’t really buy another. If I could, I would, and I think it’s worthy of other investors’ consideration too, for the reasons analysed above.
My attention has also been caught recently by other deeply discounted shares, which also offer extremely good dividend yields as well. When compounded, that could provide a nice boost to my yearly income.
Should you invest £5,000 in Lloyds Banking Group Plc right now?
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Simon Watkins owns shares in HSBC and NatWest.
This story originally appeared on Motley Fool
