Barclays PLC (LSE:BARC), Lloyds Banking Group PLC (LSE:LLOY) and Virgin Money UK PLC (LSE:VMUK) are the most appealing banking shares in London post the recent reporting season, broker Shore Capital reckons.
Despite second-quarter results unveiling a solid financial performance, with most mainstream UK banks notching double-digit Return on Tangible Equity (RoTE), and several announcing substantial share buybacks, share prices aren't mirroring this optimism, analyst Gary Greenwood said in a note to clients.
Currently, the sector's average price-to-tangible net asset value (P/TNAV) stands at 0.7 times for a return on tangible equity of 12.5%.
So, investors are paying 70% for the value of the bank's assets minus liabilities, and that the banks made a 12.5% profit based on the value of these assets.
And in other words, while these banks have tangible assets and are making good profits from them, their stock prices appear to be undervalued, as the P/TNAV is less than 1.0.
As interest rates have risen, customers are opting to reduce their credit and deposit balances, but banks saw their income swell due to an expansion in net interest income.
As higher interest rates continue to kick in, the net interest margin remains a point of contention.
"While political intervention in the savings market has stoked fears of peak net interest margins, we note that there remains a significant tailwind to net interest income from the repricing of structural hedges onto higher rates, which should provide ongoing support and so prevent margins from collapsing, even if interest rates eventually start to fall," Greenwood said.
Bank expenses remain in check even amidst inflation, enhancing the cost-to-income ratios.
The robust capital foundation has permitted an uptick in dividends and further share buybacks, supported by a positive outcome in the recent Bank of England stress test.
However, with outlook statements encouraging, share prices are still "discounting a far worse outlook", Greenwood said, as reflected in the P/TNAV and RoTE numbers above.
"We see average upside of 69% (range 41-110%) to our updated fair values," he said, with Shore Cap consequently retaining its 'buy' rating on all the stocks, with a current order of preference being Barclays, then Virgin Money, Lloyds, NatWest Group PLC (LSE:NWG), HSBC Holdings PLC (LSE:HSBA) and last of all Standard Chartered PLC (LSE:STAN).