Less than two years ago, in the depths of the financial crisis, shares in Royal Bank of Scotland Group (LSE: RBS) (NYSE: RBS.US), Lloyds Banking Group and Barclays all traded substantially below their tangible book  values — theoretically meaning that if the banks were broken up and sold, shareholders would receive more than the price of the shares.
Over the last 15 months, the share prices of Barclays and Lloyds have soared, and only RBS continues to trade below its tangible book value — the bank’s share price is 376p as I write, a 16% discount to its last reported tangible net asset value per share of 445p.
In my view, the main reason that RBS continues to trade at a discount to its book value is the threat of a politically-motivated breakup of the bank, which could leave shareholders nursing a big loss, and see further major asset write-downs.
56% upside?
My gut instinct is that the government will decide not to breakup RBS, not least because it would almost certainly have to accept a major loss on its shareholding if it does. A decision is expected in the next few months, but if the government decides to leave RBS in one piece, then I believe the bank’s shares could rise by as much as 56%, to bring the bank’s valuation into line with that of Lloyds.
Let me explain why: Lloyds shares have risen by 59% so far this year, leaving them trading at 76p — or 1.4 times Lloyds’ tangible book value per share. As I mentioned earlier, RBS shares currently trade at just 0.84 times their tangible book value, a 56% discount to the valuation placed on Lloyds.
The reason for this is that investors have bought into Lloyds ahead of the start of the government selloff and the expected restart of dividend payments — Lloyds investors are no longer focused just on their bank’s breakup value, as they don’t believe it is going to be broken up.
Exactly the same story could apply to RBS over the next couple of years. Once investors are confident that bank will remain in its current form, and will be allowed a free hand to operate profitably, they will focus on RBS’s earnings and dividend potential.
In my view, today’s RBS share price provides a buying opportunity with the potential for a gain of more than 50% over the next couple of years.