As I write, Lloyds Banking Group (LSE: LLOY) trades at 63p but the firm’s shares first reached that level back in 2013 after the financial crisis – almost four years ago. Let me tell you why I think it unlikely Lloyds will ever see 100p.
How long is the long haul?
Between 2013 and now, the shares have been as high as 88p and as low as 50p. That’s a tight range and not the performance many were expecting, I would guess, especially those buying Lloyds for its recovery potential during the last four years.
Which begs the question, how long is the long haul? Maybe it’s time to give up on an investment like Lloyds that has remained mired in the mud for so long. Those looking for growth or recovery could be in a for a very long wait. I see three strong clues pointing to a potentially lacklustre performance from the firm over the coming years. Here’s why…
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1. Negative relative strength
The first clue is the stock’s record of negative relative strength. Despite buoyant stock market conditions and Lloyds’ opportunity to recover from its financial-crisis lows, the firm’s share price shows negative relative strength over the periods of three years, one year, three months and one month.
I would argue that’s not typical behaviour for an underlying business that is in recovery or in growth mode.
2. Lack of earnings growth
The second clue is a lack of earnings growth. Earnings did bounce back after the 2008 financial crisis and even this year City analysts expect a strong uplift in net profits and earnings per share. But I’d argue that the forward-looking stock market anticipated this recovery and accommodated that in the strong upsurge in Lloyds’ share price between 2011 and 2013.
Forward projections suggest a small decline in earnings and profits for 2018 instead of the roaring double-digit percentage increases we normally associate with stocks in a healthy growth or recovery phase.
3. Low dividend cover from earnings
The third clue is the forward dividend payout will only be covered just under 1.7 times by anticipated earnings for 2018.
Firms expecting growth tend to have higher earnings cover as they re-invest incoming cash flow into capital investment for growth. When the directors see no opportunity to invest like that they often pay the money out in dividends to shareholders.
The vulnerable dividend
With no apparent growth or recovery potential on the table, the attraction must be for income from the dividend yield. However, the cyclicality of Lloyds’ business makes the payout vulnerable and if the dividend crumbles the share price will surely follow.
Because of the cyclical risk from this elevated position of recovered earnings, I reckon Lloyds has more downside risks than upside potential, which looks set to keep the market reducing the valuation and making it hard for Lloyds to break to 100p and beyond. That’s why I’m avoiding the firm’s shares.
