UK bank shares latest: upgrades for Lloyds and NatWest

Lloyds Bank’s famous black stallion in the City of London. Photo: Mike Kemp/In Pictures via Getty Images.

Upgrades for Lloyds Banking Group (LSE:LLOY) and NatWest Group (LSE:NWG) shares point to upsides of more than 20% after the lenders were backed to withstand rising competition and potential tax hikes.

Bank of America named Lloyds as its overall preference in the UK sector, which it said reflected a proven ability to win and maintain deposits, the broader product offering and record on costs.

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The City bank this week lifted its price objective by 8% to 140p, signalling a further upside of 27% after Lloyds held firm in today’s session at 110p. The shares are up 41% in the past year but have slipped 6% since setting a multi-year high of 117p on 5 August.

NatWest is seen reaching 850p after BofA improved its price target by 6% for further upside of 24% on top of the past year’s share price rise of 35%. The stock today traded at 686p, which compares with 3 August’s recent high of 722.8p.

In contrast, Barclays (LSE:BARC) has been downgraded to a Neutral recommendation after BofA noted the risk of further cost slippage and lowered its earnings forecasts for the next two financial years by between 6% and 8%.

A 6% cut in Barclays price target to 580p compares with today’s lower level of 478.1p, with shares now down 10% from their 27 July peak of 530.4p.

BofA noted that Barclays, Lloyds and NatWest are trading on respective price multiples of 7.8 times, 9.2 times and 8.2 times forecast earnings versus a wider sector on about 10 times.

While Barclays remains one of the most inexpensive banks in the sector, BofA said that the relative discount of 26% was not unusual versus an historical average of about 20%.

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On Lloyds, it pointed out that the premium over NatWest had narrowed in the last month and that the discount versus other “high-quality domestic champions” such as Spain’s CaixaBank and Belgium’s KBC Groupe NV (EURONEXT:KBC), had increased.

The ongoing support for Lloyds and NatWest follows benign conditions for the banks over recent years, with margin expansion the result of a favourable interest rate environment and use of structural hedges. Lending has been stronger than expected and cost pressures moderate.

BofA added: “We think from here there will be more trade-offs between volumes, margins and costs as competition increases, which is already noticeable in deposits.

“All three UK banks are targeting 4-5% lending growth. With loan-to-deposit ratios in the 90s, and with all of them aiming to grow in the mass affluent segment, we expect deposit competition to remain high.

“We also think there may be more pressure on costs, as incremental revenue growth from here is less driven by rates and may therefore require more cost input.

“Against this backdrop we think banks with a strong customer deposit franchise and a good track record in cost control are more likely to be beneficiaries.”

The bank said that UK politics would continue to be a drag on sentiment amid speculation that the sector is being lined up for additional taxation in the Budget on 28 October.

UK banks currently pay corporation tax at 25% plus a 3% surcharge on relevant UK banking profits, giving an effective tax rate of 28%.

The surcharge was reduced by the previous Conservative government from 8% to 3% in April 2023, when the headline corporation tax rate increased from 19% to 25%.

The industry continues to lobby against further taxation after UK Finance calculated in October that 2025’s total tax rate of 46.4% was higher than other leading financial centres such as Frankfurt at 38.9% and New York’s 27.9%. It said the UK rate was 0.6 percentage points higher than in 2024 due to changes to employers’ National Insurance contributions.

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BofA believes the direct impact of any tax changes should be manageable, adding that a 2% increase in surcharge reduced attributable profit by between 1.5% and 3% for the three domestic banks.

It said that regulatory reform also provided some offset after Lloyds CEO Charlie Nunn highlighted that the current environment was the most positive since the financial crisis.

The risk of additional bank taxes comes as the sector continues to return a significant amount of capital through increased dividends and share buybacks.

As we reported last week, the sector’s five main FTSE 100-listed players are due to make £4.25 billion of shareholder payments in September.

They include £953 million by NatWest via the distribution of 12p a share, representing a 26% jump on last year after the lender beat the City’s second-quarter profit hopes by 10%.

Lloyds and NatWest are the most exposed to additional taxes, with about 85% of their total group profits eligible for the UK corporation tax surcharge compared with 33% for Barclays and only 20% for HSBC Holdings (LSE:HSBA).

Shore Capital said that large UK banks continue to generate “supernormal” returns, much of which is being handed to shareholders through dividend and share buybacks rather than reinvested in support of economic growth.

It said: “In our view, banks could absorb a moderate increase in taxation while still generating returns at or above their cost of equity.

“Equally, there may be greater scope for the industry to deploy capital through more competitive lending margins, stimulating credit demand and wider economic activity while maintaining attractive shareholder returns.”

As well as the corporation tax surcharge, other areas of focus for the Treasury could include a one-off windfall tax or the interest paid by the Bank of England on commercial bank reserves.

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From an investor perspective, Shore said an increase in the corporation tax surcharge remains the most straightforward and transparent means of raising additional revenue.

The bank said: “It would be relatively simple to implement, provide a predictable revenue stream for the government and have a measurable but manageable impact on earnings.

“As such, we believe it currently represents the most credible route through which policymakers could seek a greater fiscal contribution from the banking sector.”