After a superb three-year run, Lloyds‘ (LSE: LLOY) shares have hit a bump in the road. They’re down 16% in the last three months, although it isn’t the only one struggling. All the big FTSE 100 banks have fallen similar amounts since early August. So what’s going on?
Some investors have been taking profits after their stellar run. Plus there are growing doubts about how much more money the banks can make. Higher interest rates can help them earn more from lending, but competition for deposits and mortgages is stiff, squeezing margins.
The Bank of England’s latest rate increase to 4% adds another complication. It could support lending margins, but also make life harder for borrowers, increase bad debts, and weaken the UK economy. The next hike could even land in December, just before Christmas. The Government’s latest Budget increased the temporary bank surcharge, adding to concerns about political interference.
FTSE 100 buying opportunity
Long-term investors have done brilliantly in recent years, as higher interest rates and stronger lending margins boosted profits. Lloyds has also rewarded shareholders with generous dividends and share buybacks.
As a long-term investor in Lloyds, I’m not worried about the recent dip. Short-term volatility is the price we pay for the long-term outperformance of equities. Instead, I’m wondering if this is a buying opportunity.
Right now, Lloyds has a forward price-to-earnings ratio of 9.6. It’s not completely bargain basement, but it’s still pretty decent. The shares are forecast to yield 4.8% this year, rising to 5.5% in 2027.
Brokers see value
On 30 October, broker Jefferies reiterated both its Buy recommendation and 127p target price. With Lloyds trading around 97p today, that suggests potential growth of more than 30% over the next year.
Jefferies wasn’t entirely dazzled by Q3 results (29 October). It noted that revenue and net interest income had fallen slightly short, while the capital ratio was also a little disappointing. But it said Lloyds is generating strong profits, enjoys higher structural hedge income and is expanding its lending franchise.
On the same day, Berenberg stuck with its Hold recommendation but cut its target from 121p to 117p. It reckons fierce competition for mortgages and savings deposits will constrain net interest income growth. Berenberg thinks earnings forecasts for the next few years may be too optimistic. Take your pick.
The motor finance compensation bill remains a risk, while a weaker economy could push up loan defaults. Higher rates may also dampen mortgage demand and household spending.
Great sector for income
I think Lloyds is worth considering today with a long-term view. But I suspect the next year or two could be bumpy, because the UK economy is likely to be bumpy too.
I already have a big enough stake in Lloyds and might buy NatWest Group instead. It has a slightly lower P/E of 8x and a more generous forward yield of 6.25%. Those who want to look beyond the banks might consider this FTSE 100 income stock, which yields 7%…
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Harvey Jones owns shares in Lloyds and NatWest.
This story originally appeared on Motley Fool
