ii view: specialist mortgage lender Paragon makes record profit

A focus on lending to professional landlords and offering a highly attractive forecast dividend yield. Buy, sell, or hold?

First-half results to 31 March

• New mortgage lending up 19% from H1 2022 to £1.02 billion
• Adjusted profit up 22% to £128.9 million
• Interim dividend up 17% to 11p per share
• Additional £50 million share buy-back planned for H2
• Capital cushion or CET1 ratio of 15.6%, up from 15.4% a year ago

Guidance:

• Now expects full-year Net Interest Margin (NIM) of around 3%, up from a previous 2.89%

Chief executive Nigel Terrington said:

“We are delighted to deliver another strong financial and operational performance, achieving record
interim operating profits, alongside robust growth in our loan book.

“We are well placed to continue to support our customers and deliver strong returns for our
shareholders as we look to capitalise on the opportunities that the environment will
inevitably produce.”

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ii round-up:

Specialist UK lender and savings bank Paragon Banking Group (LSE:PAG) today detailed record first-half profit as it increased expected full-year Net Interest Margin (NIM), an industry profit indicator, to around 3% from a previous 2.89%. 

NIM is a measure of the difference between interest earned on loans and interest paid on deposits and is likely to have been aided by Bank of England rate hikes. 

A near one-fifth increase in new mortgage lending year-over-year of just over £1 billion helped propel first-half adjusted profit up 22% to a record £128.9 million. New mortgage lending for the full year is now expected to come in at between £1.75 billion and £1.9 billion, up from a £1.6-£1.9 billion previously.

Shares in the FTSE 250 company rose by more than 7% in UK trading having come into this latest news up by almost 2% over the last year. Larger banking rival and owner of mortgage lender Halifax, Lloyds Banking Group (LSE:LLOY), is down around 2%, while investment bank owner Barclays (LSE:BARC) has fallen 9%. The FTSE 250 itself is down by close to 7% over the last year. The FTSE 100 index is down by 0.5%. 

Paragon flagged a continued focus on lending to professional landlords during the period. Buy-To-Let (BTL) mortgages account for the Birmingham headquartered lenders biggest product at over 80% of its loans. Recent BTL applications had proved strong, continuing a recovery from the period following Liz Truss’s 2022 mini-budget. 

New commercial lending during the half fell 9.4% to £0.57 billion, with outperformance in small and medium-sized enterprise and motor related lending offset by lower net completions in development finance, particularly in relation new home building. 

The overall loan book rose 4.6% year-over-year with its deposit base totalling £11.9 billion, up from £9.9 billion a year ago. 

A 17% increase in the interim dividend payment to 11p per share was accompanied by a newly planned additional £50 million to its share buyback programme over the second half. 

Broker UBS reiterated its ‘buy’ stance on the shares post the results, highlighting an estimated fair value price of 660p per share. 

ii view:

Started in 1985, Paragon today largely provides BTL mortgages, with commercial lending including asset finance and motor loans, largely making up the balance. Since its commencement of a retail bank in 2014, customer deposits have grown to overtake securitisation as its core funding method. 

For investors, the tough economic backdrop including still elevated inflation and likely further interest rate rises cannot be ignored. Demand for development finance has reduced, previous rises in US interest rates have led to challenges for its smaller regional banks, while competition across the banking industry as a whole remains intense.  

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On the upside, rising interest rates are generally considered to be positive for the industry, giving banks more scope to widen margins between deposit rates and loan rates. Paragon’s digitalisation of its products is ongoing, its cost:income ratio reduced to 38.1% from 41.2% a year ago, while the balance sheet or capital cushion remains robust at 15.6%. 

On balance, and while some caution remains sensible, an estimated future dividend yield of over 6% should keep income investors happy.  

Positives: 

• Expanding loan book
• Attractive dividend yield (not guaranteed)

Negatives:

• Uncertain economic outlook
• Business cost generally are rising

The average rating of stock market analysts:

Buy