UBS has repeated its ‘buy’ stance on Lloyds Banking Group PLC (LON:LLOY) in a review of UK banks, focusing on ring-fencing rules from 2019 which will have an impact on the sector.
In the note to clients, the Swiss bank’s analysts pointed out that European banks are down 11% in 2018, driven by weaker macro and politics, higher risk-free rates and equity risk premia, and concerns around delayed interest rate hikes from the Bank of England and the European Central Bank.
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The analysts noted that UK domestic banks have not been “immune to weak Eurobank sentiment with a more cautious rate outlook compounded by Brexit uncertainty.”
As a result, they added, this has left Lloyds and Barclays PLC (LON:BARC) trading at a 13-17% discount to a sector trading at the highest implied cost of equity since mid-2016 when some thought the ECB might cut rates.
The analysts said: “We think this stance is too cautious and recommend buying these names.”
They noted that UK ringfencing becomes law on 1 January 2019 but said it is already impacting profits, strategy and lending behaviour.
The analysts said: “We think it leaves the system more vulnerable to a liquidity crisis given (i) how deposits rank on insolvency, (ii) more opaque collateral in non-ringfenced banks and, (iii) the greater corporate complexity involved.”
They added: “Beyond £3bn in restructuring costs incurred by the big five banks we think the affected firms are left less competitive and efficient, likely to cede share and vulnerable in a downturn.”
However, on Lloyds, the analysts concluded: “We think the impact of management's 2020 ambition of growing loans by high single digits is already in place, that the market fears Lloyds’ margin decline too much, and recommend buying the stock.”