Lloyds Bank shares: Why the price target just got cut

After a poorly received set of results, this analyst is slightly less confident than before.

Summer was no friend to the banking sector, with share prices especially weak through August following uninspiring half-year results. But optimism around a Brexit deal last month triggered a major rally in domestic shares, with Lloyds Banking Group (LSE:LLOY) among the best performers, up 28% in just one week.

Reaction to third-quarter results published on 31 October was muted, as adjusted pre-tax profit of £1.82 billion came in 3% shy of expectations at broker UBS, and 8% short of consensus forecasts. A weaker-than-forecast number for 'Other operating income' – reduced investment activity hurt the commercial business - and higher-than-feared 'Expected credit losses' (impairments) is blamed. 

And that profit figure was almost entirely wiped out by £1.8 billion of PPI claims, which came in at the top end of expectations, leave statutory profit of just £50 million for the third quarter. 

Net interest income is under pressure, although the 2.88% reported did exceed expectations by a fraction and is in line with previous guidance for the full year. 

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UBS analyst Jason Napier has had a good look through the numbers and, while he still rates Lloyds bank shares a 'buy', he trims the price target by 3p to 62p, implying just over 6% potential upside from the price of 58.3p at time of writing.

It's because Napier reduces the earnings per share (EPS) forecast for Lloyds by 2-5%, driven by "a slightly lower net interest margin and non-interest income, partially offset by lower costs."

That leaves Lloyds Bank shares trading on 7.7 times EPS estimates for the 2020 financial year and offering a prospective dividend yield of 6%. They also trade on 1.1 times tangible net asset value for a 14% adjusted return on tangible equity.

Source: TradingView Past performance is not a guide to future performance

And on the UK mortgage market, UBS welcomes the acquisition of the £3.7 billion Tesco Bank mortgage book in September. It should help fourth-quarter 2019 net interest income and brings 19% share of the residential gross lending market in the third quarter. It also "reduces the need to compete as aggressively as would otherwise be the case in order to deliver on its plan to hold the open mortgage book flat in 2019."

"We think LBG is attractively valued for a stable-rates base case with upside gearing if the macro outlook improves," says Napier "We retain our 'buy' recommendation."