Shares in Lloyds Banking Group PLC (LON:LLOY), Barclays PLC (LON:BARC) Royal Bank of Scotland Group PLC (LON:RBS) were on the slide after analysts warned that higher unemployment from the coronavirus pandemic is likely to lead to the a worse impact sector.
Goldman Sachs cut its share price targets for the whole sector and Deutsche Bank was similarly cautious due to the uncertain path of UK and US interest rates and unemployment levels, with ‘sell’ recommendations for RBS and HSBC PLC (LON:HSBA).
UK bank shares have declined 38% so far in 2020, underperforming the FTSE 100 by 19% and continental European counterparts by 5%.
“We believe UK bank revenue consensus is overly optimistic given the interest rate environment,” said Deutsche analyst Robert Noble in a note on Tuesday after taking over coverage of the sector, with his initial forecasts for net interest income 5% below the City consensus for 2021 and 7% in 2022.
With a high correlation between unemployment and the cost of risk for lenders, Noble expects UK unemployment to peak at 7% and lead to two-year impairments for UK banks of £40bn- 4% worse than consensus. If UK unemployment peaks at 10% we forecast £59bn in losses- less than the £80bn forecast by the BOE but 50% higher than consensus.
The analyst noted that the large decline in interest rates in the US and UK hits the UK banks more than other European banks and that the London-listed lenders trade at 0.46 times 2022 tangible book value and 6.4 times earnings.
He noted that this was “only a modest discount to European banks at 0.52x and 7.1x despite what appear potentially greater revenue and political risks” so while UK banks may at first glance UK banks look good value, “on a relative basis not materially so – and significant risks remain”.
Noble's current preference among the UK banks is Barclays, for its diversity of income by product and geography, and Virgin Money UK PLC (LON:VMUK), as the least interest rate sensitive of the UK retail banks due to its minimal current account funding. Both are rated ‘buy’.
As for least preferred RBS, it is seen as the most reliant on current account funding and highly rate sensitive as a consequence, while HSBC is mid restructuring “which could require significant additional adjustment over time to offset the negative impact from lower interest rates”.
StanChart and Lloyds are both rated ‘hold’ by Deutsche.
Over at Goldman, HSBC was cut from its ‘conviction buy’ list but still a ‘buy’ with its target cut to 565p from 695p.
Goldman also trimmed RBS to 195p from 215p and kept at ‘buy’, the same as StanChart, where the target was cut to 690p from 730p.
The price target for Lloyds was cut to 29p from 32p and the shares were kept as a ‘sell’, while Barclays and Virgin were both kept at ‘neutral’, with their target chopped to 135p from 150p and to 95 from 100p, respectively.
All the sector's were in the red in early morning trading, though HSBC was quick to climb back into positive territory.