RBS (LSE: RBS) shares have plunged over the past four weeks. The stock, which has been struggling since the UK voted to leave the European Union in June 2016, has fallen 51% in 2020. By comparison, the FTSE 100 is off around 23% year-to-date.Â
The question is, should investors make the most of this decline and snap up RBS shares today?
Time to buy RBS shares?
Investors have been avoiding RBS shares since the financial crisis. The bank, which is still majority-owned by the government after its bailout, has struggled to turn itself around.
It looked as if this was starting to change last year. RBS reinstated its dividend for the first time since the crisis in 2018. Then in 2019, management announced the bank would pay a special dividend.
RBS was planning another special payout in 2020. However, the coronavirus crisis has thrown the bank and its peers off course. Regulators have ordered UK banks to put their dividends on ice for the time being. This is to preserve capital and strengthen the banking system in these extraordinary times.
The good news is, RBS is in a much stronger position today than when it needed a bailout in the financial crisis.
RBS’s fully loaded common equity Tier 1 ratio, a measure of its highest-quality capital, was 16.2% at the end of the first quarter. The ratio was just 4.5% at the end of December 2007. In the 15 years before the crisis, analysts estimated the bank’s capital ratio rarely exceeded 5%.
In other words, RBS’s balance sheet looks to be stronger today than it has been at any other point in the past 25 years.
Undervalued stock
The above implies that the lender will survive the coronavirus crisis in one piece. With this being the case, RBS shares look cheap after recent declines. The stock is currently trading at a price-to-tangible book (P/TB) ratio of just 0.4. This suggests RBS shares offer a wide margin of safety at current levels.
However, it’s unlikely the bank will escape the crisis unscathed. Regulators are asking financial institutions to offer customers payment holidays, as well as flexibility around loan terms. This will reduce interest income in the short term. Nevertheless, from a long-term perspective, it seems a sensible decision.
Payment holidays might reduce the lender’s income in the short term, but most borrowers should be able to resume payments when the crisis is over. If lenders take a hard line and don’t offer payment holidays, borrowers might have to declare bankruptcy. That would substantially reduce the chances of the debt ever being repaid.
As such, while RBS might suffer a drop in income over the next few weeks and months, as one of the largest lenders in the UK, the bank is well-positioned to make a functional recovery when economic growth picks up again.
On that basis, RBS shares could be an attractive bargain investment. Their current valuation suggests the stock could rise by more than 100% from current levels when the crisis is over.
For risk-tolerant investors, it could be worth taking a closer look at the bank.