Why I see 20%+ upside in this lender in 2017

This company’s shares could be about to soar.

| More on:

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than you put in.

Read More

The content of this article is provided for information purposes only and is not intended to be, nor does it constitute, any form of personal advice. Investments in a currency other than sterling are exposed to currency exchange risk. Currency exchange rates are constantly changing, which may affect the value of the investment in sterling terms. You could lose money in sterling even if the stock price rises in the currency of origin. Stocks listed on overseas exchanges may be subject to additional dealing and exchange rate charges, and may have other tax implications, and may not provide the same, or any, regulatory protection as in the UK.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

The outlook for the lending industry is somewhat uncertain. Brexit is likely to cause a degree of difficulty as negotiations between the UK and EU commence. This could cause a further fall in sterling, higher inflation, and more challenges for consumers in servicing their loans. Alongside tougher rules on buy-to-lets, this may make 2017 a difficult year for lenders. However, today’s results from one lending company indicate there is at least 20% upside in its share price.

An upbeat performance

Paragon Group of Companies (LSE: PAG) has delivered underlying operating profits for the quarter ending 31 December which show that it’s making encouraging progress. They were in line with management expectations and were supported by sound underlying trends in volumes, cost control, bad debts and margins.

Significantly, each of the company’s lending and investment entities generated quarter on quarter volume growth, with total originations and investments of £380.7m versus £254.4m in the previous quarter. This was despite a tightening on rules concerning buy-to-let, which saw lenders toughen up criteria ahead of the Prudential Regulation Authority’s (PRA) underwriting changes.

Difficult outlook

As mentioned, trading conditions for lenders could worsen. The affordability of debt may decline if inflation pushes higher and wage growth fails to at least match it. However, Paragon has a sound funding position and its capital ratios remain relatively high. For example, it has a core equity tier 1 (CET1) ratio of 16.1%, while free cash balances of £269m should be able to support future growth.

The company’s forecasts are somewhat mixed. In the current year it is forecast to record a rise in its bottom line of 3%, but then deliver earnings growth of 10% next year. While this compares unfavourably to the outlook for other lenders, such as Standard Chartered (LSE: STAN), Paragon has a far less demanding valuation. For example, Standard Chartered is expected to record a rise in its net profit of 137% this year, followed by 54% next year. However, its price-to-earnings (P/E) ratio of 19.9 is more than double Paragon’s rating of 9.8.

Share price potential

In terms of the scope for a 20% rise in Paragon’s share price, its valuation suggests this will not be particularly difficult to achieve. Its low P/E ratio is difficult to justify, given that it expects to post double-digit growth next year. Therefore, a rating of 12 would give a share price gain of 23%. This appears to be realistic target and would leave it with a price-to-earnings growth (PEG) ratio of only 1.2.

Of course, Standard Chartered’s PEG ratio of 0.2 indicates it has substantially greater share price potential than its lending peer. As such, it appears to offer a superior risk/reward ratio – especially in the long run as it takes advantage of its strong position in Asia to deliver high growth rates. However, I believe that Paragon remains a sound buy that’s financially strong and which has upside of over 20%.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Peter Stephens owns shares of Standard Chartered. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.

More on Investing Articles

Investing Articles

After it crashed 25%, should I buy this former stock market darling in my Stocks and Shares ISA?

Harvey Jones has a big hole in his Stocks and Shares ISA that he is keen to fill. Should he…

Read more »

happy senior couple using a laptop in their living room to look at their financial budgets
Investing Articles

How’s the dividend forecast looking for Legal & General shares in 2025 and beyond?

As a shareholder, I like to keep track of the potential dividend returns I could make from my Legal &…

Read more »

artificial intelligence investing algorithms
Investing Articles

Could buying this stock with a $7bn market cap be like investing in Nvidia in 2010?

Where might the next Nvidia-type stock be lurking in today's market? Our writer takes a look at one candidate with…

Read more »

Investing Articles

Is GSK a bargain now the share price is near 1,333p?

Biopharma company GSK looks like a decent stock to consider for the long term, so is today's lower share price…

Read more »

Snowing on Jubilee Gardens in London at dusk
Investing Articles

Could December be a great month to buy UK shares?

Christopher Ruane sees some possible reasons to look for shares to buy in December -- but he'll be using the…

Read more »

Young mixed-race couple sat on the beach looking out over the sea
Investing Articles

Sticking to FTSE shares, I’d still aim for a £1,000 monthly passive income like this!

By investing in blue-chip FTSE shares with proven business models, our writer hopes he can build sizeable passive income streams…

Read more »

Growth Shares

BT shares? I think there are much better UK stocks for the long term

Over the long term, many UK stocks have performed much better than BT. Here’s a look at two companies that…

Read more »

British Pennies on a Pound Note
Investing Articles

After a 540% rise, could this penny share keep going?

This penny share has seen mixed fortunes in recent years. Our writer looks ahead to some potentially exciting developments in…

Read more »