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2025 has been a spectacular year for the Lloyds Banking Group (LSE:LLOY) share price. So spectacular, in fact, that I think it’s in danger of crashing back down to earth.
At 87.4p per share, Lloyds shares are up 59% since 1 January. It’s a stunning rise that I feel fails to reflect the enormous challenges facing UK banks in the short term and beyond.
But what could cause the FTSE 100 bank to correct sharply? Here are three threats I think could rock the lender in 2026.
1. Falling interest rates
The Bank of England (BoE) has cut interest rates five times since summer 2024. With inflation falling, further reductions are expected during the next year.
This is problematic for Lloyds as it reduces its net interest margins (NIMs). This key profit metric measures the difference between what the bank pays savers and charges borrowers.
Market analysts are forecasting two more rate cuts by the middle of 2026. However, with the limping UK economy requiring significant support, I think the BoE may slash further than predicted. If so, this could have a significant impact on retail banks’ share prices.
2. Double whammy
Unlike other FTSE 100 banks, Lloyds sources almost all of its profits from UK customers. This creates significant concentration risk, and is especially worrying today given the poor economic outlook.
According to media reports, Chancellor Rachel Reeves about to cut growth forecasts for the next five years at tomorrow’s Budget.
Certain banking products like current accounts are essential. But others like car loans, mortgages, and credit cards are highly sensitive to economic conditions, provoking massive uncertainty for retail banks.
On top of this, Lloyds could see impairments snowball if the domestic economy splutters. For 2025, S&P is expecting the black horse bank to record £1.14bn of bad loans, up from £430m the year before. In my view there’s a good chance they could keep growing in 2026.
3. Huge valuation
I don’t think these threats are reflected in Lloyds’ valuation following 2025’s enormous share price gains. When also factoring in other dangers like increasing competition, regulatory changes, and rising penalties for mis-selling car loans, I think the FTSE 100 bank looks seriously expensive.
Lloyds shares now trade on a price-to-book (P/B) ratio of 1.2. That’s some distance above the 10-year average of 0.8. It also suggests the bank trades at a premium to the value of its assets.
As you can see, the risks to the FTSE bank are severe. But there are also opportunities, from a recovering housing market and demographic changes that are driving broader financial services demand. Lloyds is also a digital banking leader, helping it to fend off the challenger banks.
On balance, though, I think the dangers facing Lloyds are too considerable to ignore, and especially given its elevated share price. It’s why I’m looking for other UK shares to buy instead.
This story originally appeared on Motley Fool
