Lloyds provision for mis-selling of PPI drives shares down 8 per cent

Lloyds Banking Group stunned the City yesterday by revealing a first-quarter loss of almost £3.5bn as its new chief executive cleared the decks early in his reign.

Britain's biggest retail bank unveiled a shock £3.2bn charge for mis-selling payment protection insurance (PPI) and took a £1.1bn hit in Ireland. António Horta-Osório, who joined Lloyds in March, denied he was getting as much bad news as possible out at the start of his tenure.

"I really do not see any kitchen sinking in these results. I see us addressing significant problems that exist. These problems have to be closed," he said.

The provisions for PPI and Ireland meant the taxpayer-controlled bank swung to a loss of £3.47bn from a £721m profit a year before.

Investors were also unnerved by the bank's higher funding costs and shrinking margins.

Ian Gordon, a banking analyst at Exane BNP Paribas, said: "Recent stock weakness has undoubtedly reflected some anticipation of 'kitchen-sinking', but it may still be premature to assume that this process is over. We remain more concerned about the very weak underlying profitability."

The huge provisions reflected continuing pain from the emergency takeover of HBOS but also Lloyds' practices as the biggest seller of PPI .

The loss calls into question the bank's actions under its previous chief executive, Eric Daniels, who last year hailed a return to profit after its massive losses from the HBOS acquisition.

Mr Daniels was awarded a £1.45m bonus for last year and has now left the bank. The all-share award vests in 2013 and he will decide then whether to accept the payout.

Lloyds shares fell 8 per cent to 53p – taking them well adrift of the 63p price at which the Government bought its 43 per cent stake.

Group bad debts for the first quarter came in £500m higher than expected at £2.6bn because the bank decided to write off more of its loans in Ireland. The losses were caused by HBOS's disastrous expansion in the Republic where it followed Ireland's other banks into the commercial property boom.

The bank's long-term profitability also took a severe hit as its net interest margin shrank sharply to 2.07 per cent from 2.12 per cent in the previous quarter. The bank said the narrowing was caused by replacing Government funding support with more expensive debt sold to private investors and greater reliance on retail deposits.

Lloyds' comment that these conditions would last the rest of the year prompted investors to question whether the bank was in fundamentally worse shape than had been believed.

Jane Coffey, a fund manager at Royal London Asset Management, who does not hold Lloyds shares, said: "Their comment is that the headwind on margins is going to continue. That is the fundamental question over the longer-term earnings profile: what is the natural margin they can get?"

The PPI provision took analysts by surprise because the total industry bill was thought to be about £4.5bn. Lloyds has about a third of the market, suggesting the total cost of paying back customers could be about £9bn.

Lloyds and the other big banks last month lost a High Court case against the Financial Services Authority over its demand that they should compensate millions of customers who may have been improperly sold policies. Mr Horta-Osorio said Lloyds would not take part in a potential appeal against the ruling, which the British Bankers' Association will decide on by next Tuesday.