Royal Bank of Scotland Group PLC’s (LON:RBS) first quarter profits beat market forecasts but shares fell as analysts raised concerns about a looming fine from US lawmakers and tough competition in mortgage lending.
Net profit more than trebled to £792mln in the three months to March 31 from £259mln last year, beating analysts’ expectations for £319mln.
READ: RBS reports jump in first quarter profit as it cuts costs
Profit was boosted by a 2.8% rise in total income and an 18% decrease in operating expenses, including lower restructuring costs and charges for litigation and misconduct.
US misconduct continues to haunt RBS
While the bank made progress in resolving its legacy issues and restructuring the business, it faces a multibillion-pound fine from the US Department of Justice (DoJ) over the mis-selling of toxic residential mortgage-backed securities (RMBS).
The impending fine is the last major hurdle to the government starting to sell down its 71% stake in the bank after a bailout during the 2008-09 financial crisis. Resolving past misconduct its also key to resuming dividend payments.
With RBS expected to receive the fine any day soon, the bank left its guidance for 2018 unchanged despite tripling its quarterly profits.
“While underlying operating performance is improving, the outlook continues to be overshadowed by the impending US RMBS settlement with the DOJ for which the timescale is out of the group’s control,” said Shore Capital, which repeated a ‘holdl’ rating and target price of 272p on the stock.
“We will await the resolution of the US RMBS settlement before deciding whether it is appropriate to take a more active stance on the shares and retain our current preferences for Lloyds Banking Group PLC (LON:LLOY) (Buy at 65p) and Barclays PLC (LON:BARC) (Buy at 210p).
Shares in RBS fell 2% to 266p in afternoon trading.
Quarterly update 'slightly disappointing', says Credit Suisse
Analysts at Credit Suisse said the bank’s update was “slightly disappointing” as adjusted pre-tax profit of £1.47bn was 4% below its estimates due to lower net interest income.
Net interest income fell to £2.1mln from £2.2mln last year as the net interest margin dropped two basis points to 2.04% with RBS blaming competitive pressures in mortgage lending.
“We note gross mortgage lending share at 10% is below recent trend of 12-13%, despite highlighting strong approval numbers in the fourth quarter and the book has contracted (-£0.8bn vs +£2.0bn estimate) for the first time in years,” Credit Suisse said, leaving its rating at ‘neutral’ and target price at 290p.
RBS beefs up capital buffers
On the upside, RBS has improved its capital position, perhaps in anticipation of a US fine and an possible hit to the UK economy from Brexit. The common equity tier 1 ratio capital was lifted to 16.4% at the end of March from 15.9% at the end of 2017.
“The good news in these results is that capital generation looks robust, and CET1 capital is now ahead of target,” said Nicholas Hyett, equity analyst at Hargreaves Lansdown.
“The question is what management choose to do with the spare cash – a return to shareholders would be welcome, but looks unlikely until the bank knows how much it has to pay as part of its impending settlement with the US Department of Justice.”
Brexit risks present another hurdle
Artjom Hatsaturjants, research analyst at Accendo Markets, said the bank’s unchanged full year guidance despite such a "comfortable earnings beat" left markets disappointed that there was no upgrade.
But the analyst noted “cloudy prospects”, including a sharp fall in mortgage lending, Brexit uncertainty and how much it will ultimately cost to settle litigation from across the Pond.
“Being still majority-owned by the UK government, this and Brexit tensions surely explain the bank’s unwillingness to expand full-year guidance and the markets’ negative reaction to seemingly otherwise positive Q1 results,” Hatsaturjants added.