Sector view: Banks
John Varley, chief executive of Barclays, says the biggest risk facing the banks is regulation, and he's right. The trouble is that reform in the wake of the financial crisis is still in its early stages. We know banks will need to hold more capital. We know a way for them to fail without tearing a hole in the global financial system, while at the same time putting depositors' funds at risk and requiring taxpayers to step in, needs to be found. But that's about it, beyond any number of high-minded, often contradictory speeches from regulators and lawmakers.
All this makes weighing up banks' shares as investment prospects extraordinarily difficult. How do you take a view on a company which might have to rip itself into two or three different parts in a couple of years? Which brings us back to Barclays.
After its interims, we bought at 359.5p. Yesterday, the bank closed at 321.8p (+9.65p), so it was not the greatest of calls. Yet on fundamentals Barclays is still very cheap. Exane BNP Paribas has it on eight times this year's forecast earnings, six times next year's, and the yield is rising (a prospective 2 per cent this year; 3 per cent next year). Barclays Capital, the star of the show, might not match last year's stunning performance, but there are still grounds for the City to upgrade forecasts on Barclays, which has made a habit of beating expectations. What worries us is the bank's combative approach to its detractors.
Despite not taking any (direct) state funds, it risks becoming a lightning rod for the sector, and is mentioned far too regularly by politicians. Barclays executives are, arguably, endangering a solid investment case with their lack of PR skills. We still say hold for now, but would advise investors to keep a careful eye on political developments and be prepared to bolt if necessary.
Of course, it wasn't just Barclays. HSBC has been highlighted as one of the sector's good guys by no less a figure than Vince Cable, the Liberal Democrats' Treasury spokesman. One wonders if he still holds that view after HSBC's top five bankers were handed £38m and the company announced plans to twist shareholders' arms over its desire to sharply increase the pay of the chief executive, Mike Geoghegan.
In defending bonuses, HSBC's chairman, Stephen Green, once a critic, might have taken some of the heat away from Barclays (and diverted some attention from results which were not well received). HSBC can sometimes be a hard institution to like, and the ever-present, implied threat that it might ultimately quit London is unattractive. We said hold at 661.8p, but be prepared to buy on any weakness (the bank dipped below 650p in February).
Yesterday HSBC closed at 700.6p (+18.6p) . While the results were poorly received, much of the bad news was about accounting quirks and movements in the value of the company's own debt. Bad debts were higher than hoped for, but HSBC's positioning in emerging markets, where economic growth is poised to roar back, is enviable. Regulation is an issue for HSBC, although less so than for Barclays, which has a much greater exposure to developed markets, where crackdowns will be harder. At 14 times this year's forecast earnings, the bank is anything but cheap (although for a bank, the 3.3 per cent prospective yield is racy), but given the markets this bank has exposure to, we still feel HSBC should be in most portfolios. Hold.
The truculent, glowering beast that is Lloyds Banking Group wore a sullen snarl at its results presentation. We could care less. We said sell at 106.9p after Lloyds' interims and yesterday the bank closed at 51.41p (+1.15p).
Is there now value at this level? Maybe, but don't expect much good news from the numbers in the short term. Retail banking (and that's what Lloyds is all about) is barely profitable – low interest rates squeeze margins. The outlook for the housing market is cloudy now the stamp duty holiday is over, and we remain concerned about the company's bad debts.
The pledge by UK Financial Investments to steward the Treasury's stake in Lloyds at arm's length has been exposed as a joke, so political interference is a big risk. In the short term, we see some hope for an uptick in the share price, because Lloyds looks to be at its floor. We would, however, treat this as a speculative, penny share investment. In the long term, we have grave doubts, but short term we make Lloyds a speculative buy if it nudges above 75p, then sell.
So to RBS, where the same case could be argued. We said sell at 55.85p, which proved the right call with the shares at 37.74p yesterday, down 1.05p. RBS, with a sizeable investment bank keeping the show on the road, faces similar regulatory issues to Barclays, while lacking the latter's talent and profits. RBS's results were better than some expected, and the gaffe-prone management are at least steadying the ship. But we still feel RBS is one to avoid.