I feared for Lloyds Banking Group (LSE: LLOY) and its stakeholders in the run-up to third-quarter financials released last week.
I made it clear as we approached the release date that signs of a sharp deterioration in trading conditions could be in the offing, not to mention a hefty uptick in PPI provisions and that this could hammer the share price. While Lloyds did indeed fall in value, it avoided the car crash I’d been dreading, and has remained pretty resilient since then.
That’s not to say those quarter three numbers were reassuring in any way. The statement showed revenues at the FTSE 100 bank continue to deteriorate, down 6% year-on-year to £4.2bn in the three months to September, versus the 2% fall printed in the first half. Lloyds has also seen the number of bad loans on its books pick up momentum in recent months. These clocked in at £371m in Q3, up 31% on an annual basis, versus the 27% rise recorded between January and June.
Swinging to losses
To cap things off, Lloyds recorded another £1.8bn PPI charge for the third quarter, at the top end of its previous guidance of £1.2bn-£1.8bn made in early September. And, as a consequence, it swung to a pre-tax loss of £238m for the quarter from the profit of £1.4bn for the same 2018 period.
On the plus side, Lloyds made no mention of having to undergo additional belt-tightening in response to the recent surge in PPI costs (the bank canned its share buyback scheme as it updated on cost guidance in September). This lack of fresh action means City expectations of more dividend growth through to the end of next year, and therefore market-mashing yields of 5.9% and 6.3% for 2019 and 2020, respectively, get to live another day.
But don’t break out the bunting just yet. It’s still possible the Black Horse Bank’s progressive dividend policy will come crashing to the ground either this year or in 2020 as the balance sheet comes under increased stress. Its CET1 capital ratio slipped half a percentage point between the second and third quarters, to 13.5% — and economic conditions in the UK worsen.
Sell today!
Indeed, the outlook for the domestic economy got a little darker on Thursday after the Bank of England hacked back its medium-term growth forecasts. For 2020, it now expects GDP expansion of 1.2%, down from its prior prediction of 1.3%, while cuts to its 2021 estimate were really quite brutal, to 1.8% from 2.3% previously.
And in an extra indication of the stress facing the UK, the Monetary Policy Committee announced it was split (by 7-2) in voting to keep interest rates on hold when a unanimous verdict to freeze the benchmark was expected. Rising support for another cut also bodes ill for Lloyds which has long struggled in an environment of rock-bottom rates.
Now City analysts expect earnings at the bank to fall 2% in 2020, an estimate I feel is in danger of sharp downgrades as we move into the new year and beyond. For this reason, I’m happy to avoid Lloyds despite its low valuation (a forward P/E ratio of 7.9 times) and its big dividend yields. In fact, I’d encourage anyone holding shares in the Footsie firm to sell out today.