2013 has been the year in which even the most hardened stock market bears have admitted that we’re in a five-year bull market — and it’s not over yet.
Although the FTSE 100 has slipped back from the five-year high of 6,875 it reached in May, it is still up by 8.2% this year, and 52% higher than it was five years ago.
So far, however, Royal Bank of Scotland Group (LSE: RBS) (NYSE: RBS.US) has escaped the market rally — it is currently up by less than 1% on its January 2013 opening price, and the bank’s shares have fallen by 40% over the last five years.
Back to basics
Billionaire investor Warren Buffett says that one of the most important lessons he learned from value investing pioneer Ben Graham, is that “price is what you pay, value is what you get”.
I think it’s fair to say that 2013 in particular has been a year of solid progress for RBS. As potential buyers of RBS shares, let’s take a look at what we can now get for our money:
| Ratio | Value |
|---|---|
| Trailing twelve month P/E | n/a |
| Trailing dividend yield | 0% |
| Cost to income ratio | 63% |
| Net interest margin | 2.2% |
| Price to tangible book ratio | 0.76 |
RBS continues to offer investors a classic value opportunity — the bank’s tangible net assets are worth 431p per share, but its shares are worth just 326p, 25% less than RBS’s theoretical break-up value.
Of course, there is a reason for this. RBS still has more dodgy loans on its book than any other UK bank. 5.3% of the loans in the bank’s core portfolio are in arrears, and a staggering 47.7% of its non-core (bad) loans are in arrears. Overall, 9.4% of RBS’s £429bn loan book is in classified as non-performing.
Will it come right for RBS in 2014?
The chances of RBS being returned to public ownership and restarting dividend payments in 2014 are pretty much zero, in my opinion. If things go well, RBS will successfully float its US arm, Citizens, and will continue to make progress with managing its non-core loans, cutting costs and expanding new lending, while avoiding any new scandals.
If RBS delivers a full-year profit next year as consensus forecasts suggest it will, then it should set the scene for a full return to public ownership in 2015 or 2016:
| Ratio | Value |
|---|---|
| 2014 forecast P/E | 12.8 |
| 2014 forecast earnings per share | 25.6p |
| 2014 forecast yield | 0% |
In my view, RBS offers a traditional value opportunity with the potential for decent long-term income and a 20-30% capital gain, when the gap between the bank’s loan book and share price is eventually closed.