Leading the stock market rebound

I look at a bank’s Common Equity Tier 1 Ratio (CET1) in order to judge its ability to withstand a financial crisis. This assesses how much capital the bank has to cover potential losses from its assets (predominantly loans it has made).

RBS is best capitalised of the three. It has £78bn worth of cash and its CET1 stands at 16.2%, the highest of any of ‘the big five’ banks. Barclays and Lloyds both have a CET1 of 13.8%. All are comfortably above the 7% level set by Basel III. This is reflective of the improvements made since the 2008 banking crisis, and should stand them in good stead to lead a stock market rebound. Indeed, as a whole, the UK banking sector’s CET1 ratio is currently three times the 2008 level.

However, it is worth noting that these ratios were calculated in financially strong times. If assets become more impaired, this ratio decreases. This is something the Bank of England tests in its stress tests. All three banks passed the latest test with CET1 ratios above the 7.2% hurdle rate.

Therefore, I think all three banks should have sufficient resources to survive a significant downturn.

Competitive advantage

Of course, having a lot of capital on its own doesn’t make a good investment. The ability of these banks to drive the stock market rebound depends on its ability to generate long-term profits.

A big threat to the big five has been the challenger banks. However, the big banks appear to be winning the war. Increased digitalisation and better ability to absorb regulation costs has been driving this. Indeed, the top six banks now hold 87% of personal accounts, up from 80% in 2000.

Low interest rates are definitely a threat in this industry. Barclays estimates this will cost it £250m. Regulation is also a threat. Again, Barclays estimates the clampdown on fees and overdrafts will cost it £150m. However, I actually think this will help the big banks keep their market share, as it’s an extremely tough and capital-intensive market to enter.

In conclusion, I believe these three banks should be able to weather the storm and lead the stock market rebound after its gone. At respective price-to-earnings ratios of 7.4 (Barclays), 9.2 (Lloyds) and 4.25 (RBS), they all appear to present good value picks. Additionally, at price-to-book ratios of 0.3 (Barclays and RBS) and 0.4 (Lloyds), they are all cheaper than the industry average 0.75.

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Charlie Watson owns shares in Barclays. The Motley Fool UK has recommended Barclays and Lloyds Banking Group. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

Liquidity position

Big competitor easyJet has said that it could potentially run out of cash in August unless it scraps new plane orders. Ryanair, however, is much better placed. It currently has €4bn in cash. This is enough to last for 18 months, even if no planes fly. This definitely gives it some breathing room, however it’s needed. Some analysts have predicted that air traffic will not reach pre-crisis levels until mid-2021. Therefore, whilst I think it should have enough capital to survive, it might not be a comfortable journey.

Return of demand

The Ryanair share price is clearly linked to how quickly aviation demand returns. When this will happen is anyone’s guess. It is possible that there is a lot of pent-up demand, with most countries having spent months in lockdown. If oil prices stay low, this may also enhance the ability of the airlines to offer cheap flights. This is something Ryanair is very good at. In fact, the average fare has dropped from £47 in 2015, to £37 in 2019. Ryanair has also expanded its fleet by 50% since 2015 to around 450 planes (fourth largest in Europe). Therefore, it should be ready to take advantage of any potential demand uptake.

However, it is also possible that demand may return slowly, fuelled by coronavirus fears. This would clearly hurt RYA’s profits in the short-term and therefore the Ryanair share price.

Competitive advantage sustainability

If demand does return and Ryanair has survived this crisis, will it be able to maintain its competitive advantage? Ryanair’s strategy to date has been one of cost leadership. I believe that it will continue to pursue this, even after the crisis is over. All those extra bag charges and cramped seats may annoy customers, but this – along with a razor-sharp focus on expenses – has enabled its current capital position. Therefore, why would it change strategy? It has succeeded in a fiercely competitive market.

Additionally, if some its competitors do go out of business, it may lead to a less competitive market. This would help Ryanair sustain or increase its market share.

It is also worth noting that 32% of its €7.7bn of revenues comes from ancillary sources (hotel bookings, etc). I think this additional diversification should position it well post-crisis.

In conclusion, lift-off may be too strong of a phrase for the Ryanair share price, but in the long term I think it will have a safe landing. Additionally, at a price-to-earnings ratio of 10.3 (12 for the industry), it may be good value.

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Charlie Watson does not own shares in Ryanair. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

Impact of global oil demand on the Shell share price

Low global demand and declining storage capacity were two key factors in last week’s crash. Quickly, here are the technicalities.

Many of the players in the oil market are speculators, looking to profit from price movements. One way to do this is to use futures contracts. This is an agreement between two parties to exchange barrels of oil at a fixed price and date in the future. However, most speculators don’t want to physically receive that barrel of oil. Therefore, they sell the contract before that fixed date is reached.

Unfortunately for such speculators last week, the oil price rebound they had bet on did not occur; they had run out of time. Desperately, they then tried to sell their positions to avoid taking physical delivery. This is currently expensive as there is limited storage due to over-production, so they were willing to accept the losses and the price of these contracts crashed.

Why does any of this matter in the long term for Shell? In my opinion, it doesn’t. The Shell share price actually finished up last week. Whilst it is possible another price crash could occur in the following months, I believe global demand will rebound once lockdowns lift. Fossil fuels still account for 80% of the world’s energy source. Therefore, an increase in demand is good for Shell.

Oil prices

Of course, low oil prices are bad for the Shell share price. In a recent statement, it mentioned that each $10 price-per-barrel decrease in Brent oil costs them $6bn a year. With Brent crude at its lowest level in decades, this will hurt the short-term profits of the company. This is a lot of money, but note that Shell’s operating profits were $23bn in 2019.

It is also worth noting that oil prices have been so low due to the Saudi Arabia-Russia price war, resulting in over-production. However, two weeks ago a truce was called and the OPEC alliance have agreed to slash production. I believe that when global oil demand returns, this will help the oil price rebound and be beneficial to the Shell share price.

Shell liquidity

However, for Shell to benefit from an oil price rebound, it actually needs to be around. Therefore, having the liquidity required to survive until this point is crucial. Well, Shell has recently secured two credit facilities worth $22bn to add to the $20bn of cash it already has.

Therefore, whilst I think the short-term outlook for the Shell share price is uncertain, at a price-to-earnings ratio of 8.8 (BP’s is 20), it is still a long-term bargain. Additionally, its latest dividend yield is 10.27% and therefore also an income play.

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Charlie Watson does not own shares in Royal Dutch Shell. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

Weathering Covid-19

Whilst the Barclays share price is now at levels not seen since 2009, the bank is much better capitalised than it was in 2009. In order to assess this, I look at its Common Equity Tier 1 Ratio (CET1). This roughly translates to the amount of capital it has to absorb potential losses from its risk-weighted assets. It now stands at 13.8%, compared with just 5.6% in 2008. This will help Barclays cover £1bn worth of bad loans expected from the crisis. Combined with the UK government’s furlough scheme and pulling its latest dividend, I believe this should enable the bank to survive.

It is also worth noting that unlike the 2008 crisis, this is not a banking crisis. With Staley and other senior management waiving pay increases, I don’t think banks will re-emerge as public enemy number one. Therefore, a potential legacy of fines and drop in demand for its products should be avoided.

Consumer banking

The consumer bank primarily drives group income, accounting for 47% in 2019 (£10.2bn). A much-publicised threat in this industry comes from challenger banks, such as Monzo and Metro Bank. However, increasingly, Barclays and the other big consumer banks appear to be winning this fight. Indeed, the top six banks now hold 87% of personal accounts, up from 80% in 2000.

I think there’s two key reasons why.

• Regulation: consumer banking is a highly regulated industry that favours the big players who can afford to comply with these regulations.
• Digitalisation: technologically the big players are catching up with the challenger banks. Barclays has made becoming more digital one of its four strategic pillars, with the number of digitally active customers up by 6%.

This should ensure Barclays at least retains its market share.

Investment banking

35% of the group’s income, investment banking is also crucial to long-term success. Again, in an industry where brand name and relationships are key, I do not see Barclays’ market share deteriorating. In fact, since 2017 Barclays has achieved nine times the market share gain of the next best European bank. This has elevated it to the sixth largest by fee income globally.

As alluded to above, Barclays’ group 2019 results were very strong, beating analysts’ estimates. Earnings were up 9% versus 2018 thanks to higher revenues and lower operating costs. Therefore, I believe that whilst the Barclays share price has dropped due to Covid-19 and speculation surrounding the CEO, the business is still fundamentally sound and, at a price-to-earnings ratio of just 6.4, a bargain buy.

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Charlie Watson has no position in any of the shares mentioned. The Motley Fool UK has recommended Barclays. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

Here’s the case I am making today.

Short-term prospects

The dramatic decline in the William Hill share price is a clear reaction to the Covid-19 crisis that has engulfed the world. William Hill is particularly reliant on its retail business compared to competitors, comprising 45% of its 2019 revenues from 1,568 shops across the UK. With the UK currently in lockdown and future movement uncertain, this is bad news. This is further exacerbated by the cancellation of many of the world’s sporting events, accounting for 42% of online revenue.

However, opportunities exist in the virtual sports market, along with the continuation of the online gaming market. Additionally, thanks to the UK government’s furlough scheme, William Hill will be able to significantly reduce its £395m worth of staff costs (40% of operating costs) for the time being. Advertising expenditure associated with the big sporting events will also drop.

This should help keep it afloat during this period and the market agrees, with the share price doubling since its mid-March low, although it is still trading at a price-to-earnings (P/E) ratio of around 8.5, a significant discount to listed peers.

Long-term outlook

Yes, regulation poses a threat, particularly with the implementation of the £2 stake limit on betting machines in the UK, which led to the decision to close 713 shops in 2019. However, William Hill is increasingly a global player, with 24% of its revenue now coming from outside the UK, partly thanks to the 2019 acquisition of European operator Mr Green.

Particularly exciting are its US operations, where having been one of the first movers (it has a 24% market share), it is well positioned to take advantage of the Supreme Court’s 2018 decision to legalise sports betting, a market expected to be worth $8bn by 2025. Also, its website and app are becoming slicker, which should aid its online operations.

The Supreme Court decision is also an example of how much maligned regulation can also present opportunities. Indeed, it is also possible to make an argument for increased regulation being beneficial to big players such as William Hill, due to the increased barriers to entry that may result in a higher market share.

Therefore, whilst the timing is uncertain, eventually normality will resume and I believe William Hill should thrive, with most of the bad news behind it. So rather than answer Uncle Sam’s call for aid, perhaps answer Uncle Bill’s: I think it’s significantly more likely to give you something back!

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Charlie Watson has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.