Strong results from Lloyds Banking Group PLC (LSE:LLOY) were “masked” by its careful approach to a potential rise in bad loans, according to analysts.
This also perhaps overshadowed the growing potential for the FTSE 100-listed lender to make higher shareholder distributions than investors have been expecting, said analysts at Barclays.
Underlying profit before tax for the third quarter was 8% short of City consensus, driven by heavier expected credit impairments.
These bad debt provisions offset pre-provision profits that 11% were ahead of average City forecasts, driven by better net interest income and with costs in line with estimates.
Lloyds management upgraded full-year guidance, including for a net interest margin (NIM) of at least 290 basis points (bps), up from above 280bps before and the consensus forecast at 2.85%.
This alone could be worth around another 7% to consensus pretax profit in 2023, the Barclays analysts added, though they said the “somewhat unclear outlook” for 2023 costs could temper this.
But for income investors, the analysts noted that 2022 capital generation was also guided higher to 225bps-250bps versus at least 200bps before.
“Which equates to around £5bn of CET1 capital – which points to scope for higher capital distributions - including potentially buybacks – than consensus currently expects,” the Barclaysts analysts said.
Those at UBS agreed that there was likely to be consensus upgrades for a continued expected improvement in NIM in 2023 and continued strong capital generation.
Upgraded forecast CET1 generation targets imply a further 30bps of capital generation post pension contributions in the fourth quarter, said the UBS analysts, taking excess capital to around 13% of market cap despite a £0.5bn increase in provisions stock to £5bn, noting that Stage 3 loans (credit-impaired assets) was stable and a “modest” 2.4% of the total.
Risks to full-year payouts were reduced, said the UBS analysts, from more cautious IFRS9 macro assumptions, as “more cautious assumptions make for more cautious declared excess capital” and, to some extent, 2023 earnings per share too.
John Moore, senior investment manager at RBC Brewin Dolphin, said shareholder returns was “a tricky balance for banks to strike in the current environment”.
He added: “Lloyds may be putting aside more money for potential bad loans against the current economic backdrop, but that overshadows a strong set of results from the bank. Although it is the most exposed of the major UK banks to the domestic economy, Lloyds is benefitting from an improving net interest margin, which is driving income growth.”
Sophie Lund-Yates, equity analyst at Hargreaves Lansdown, noted that the near-£700mln Lloyds has put aside in readiness for a weak economy is a non-cash buffer.
She said: “The best case scenario is that the group has over-egged its estimates and some of that hoard will be released, ultimately boosting profits. The more difficult scenario comes if the economic dive is steeper than predicted, which would see impairment charges swell.
“To a large extent, Lloyds can’t control the external forces that govern its customers’ behaviour, but it's particular exposure to traditional lending, especially mortgages, puts it in the firing line when conditions sour.”
She noted that Lloyds efforts to diversify its income streams with a beefing up of its wealth management capabilities would in usual times be a positive this year, but as the wealth management sector has had a torrid time in recent months, this adds to Lloyds’ risk-management headwinds.
Lund-Yates concluded: “The bank is dripping with excess capital, so it has more than enough backbone to pull through these difficult times, but further dents to the income statement certainly can’t be ruled out.”