I have been watching the share price of Lloyds Banking Group (LSE: LLOY) closely this past month. I already own shares in the firm, but have been watching the share price fall further. A few weeks ago, I wrote that I thought it could go lower.
It has done, and was trading below 30p a share on Monday for the first time in many years. Yet calling a bottom on a global stock market rout is impossible, so I sat on my hands. In trading yesterday, the share price jumped higher for several reasons, at which point I bought more.
Locked down but stocked up
One of the main drivers today was a broader market-driven positive reaction to the lockdown in the UK. This initiative took a while to come about, but now it is here, containment of the virus should be easier. Places that have already adopted this have seen an effect. Wuhan province is now easing lockdown terms.
While we wait and see whether the lockdown will slow the spread of the virus (and the impact on the economy), sentiment definitely improved today. Given that Lloyds has a large exposure to the retail market, consumer sentiment for demand is key for future revenue and profitability.
Government action
A second driver for the move higher was confirmation that an agreement was reached for the US government’s stimulus package. While this is a US issue, it more broadly shows the willingness of governments to actively use fiscal policy to help fight the virus. This has been seen in the UK as well, with the Chancellor of the Exchequer due to announce new measures here in the UK tomorrow.
How does this benefit Lloyds? Well injecting liquidity into the financial system helps the bank to function efficiently, for overnight borrowing needs and to ensure the capital markets remain in tact. Injecting liquidity into the hands of businesses and individuals also helps the bank. This is via the interest earned on balances, and simply increased spending and transactions.
Oversold conditions
The final reason (and the most important, I believe) is that the share price of Lloyds is simply oversold. When you step back and look at the business itself, the current market capitalization of the firm is just too low. Financial ratios seem to agree with me as well. The current price-to-earnings ratio stands just above 10, with the dividend yield also currently just over 10%. These tell me that relative to earnings, the price is undervalued. It also tells me that I can pick up a 10% yield when the bank base rate is 0.1%.
The dividend yield does sound too good to be true, and may be cut, reducing the yield. But as a long-term investor, the dividend payout is not my biggest gain here. If the share price return to levels seen only a month ago (52p), this would net almost a 30% return. It may take a year to get there, but that is why I am here for the long term, not just the next week.
