Funding Circle’s share price is soaring, but I’d buy Barclays now

The Funding Circle share price has doubled in 12 months. Roland Head reckons risks could lie ahead. He explains why he’d rather buy Barclays shares.

| 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.

Shares in fintech group Funding Circle Holdings (LSE: FCH) are up by 15% as I write, after the SME business lender said its results for the first half of 2021 are expected to be “well ahead” of previous forecasts. The Funding Circle share price has now doubled over the last year.

I’ve been taking a fresh look at this lender, which acts as an alternative to mainstream banks. Should I think about buying Funding Circle shares, or would I do better off by buying a more traditional banking stock such as Barclays (LSE: BARC)? Let’s take a look.

A Covid-19 winner?

Funding Circle’s software enables businesses to apply for loans and receive a decision within seconds. The company says that its machine learning technology uses a “data lake” containing more than 2bn data points to help it make accurate lending decisions.

New lending has increased during the Covid-19 pandemic, as the company put its regular lending on hold and focused solely on UK government-backed CBILS loans. In total, Funding Circle issued £1.7bn of these loans last year — that’s more than 80% of its total UK lending in 2020.

CEO and founder Samir Desai admits that as Funding Circle returns to normal commercial lending this year, he expects to see “some initial reduction in lending”. Even so, Funding Circle expects to report an underlying profit for the full year.

Funding Circle share price: what I’m doing

I think that when support schemes such as furlough finally end, we could see an increase in business failures in the UK. This could probably lead to an increase in loan losses, including CBILS loans.

Funding Circle’s heavy dependence on CBILS loans worries me. Although these loans have a government guarantee, this only covers 80% of the loan. The remaining 20% is at the lender’s risk.

Interestingly enough, Funding Circle’s management increased their estimated average loss rate on loans to 20.5% last year, from 12.9% at the end of 2019. If the company starts to report rising default rates this year, I think Funding Circle’s share price could start falling.

Even without this, I reckon Funding Circle stock is starting to look expensive. The lender’s shares trade at more than two times their book value, even though this business has never reported a profit.

Looked at another way, Funding Circle shares are trading on 50 times 2022 forecast earnings.

On balance, Funding Circle is just too expensive for me.

Why I’d buy Barclays shares now

FTSE 100 bank Barclays isn’t likely to double in size anytime soon. But this business is already profitable and trades at an attractive 30% discount to its tangible book value. That gives Barclays shares a forecast valuation of just eight times 2021 earnings, with a dividend yield of 3.3%.

The bullish argument in favour of Funding Circle shares is that if things go well, this smaller business could grow much more quickly than Barclays ever could. That’s probably true, but I think the risk of serious problems is also much higher at Funding Circle.

I admit that Barclays’ growth has been sluggish in recent years. But this big bank has plenty of surplus capital, a diverse business model, and a cautious valuation. For me, Barclays is a sensible investment that should deliver positive returns.

In contrast, I think Funding Circle looks like a much riskier bet, especially after recent share price gains.

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.

Roland Head has no position in any of the shares mentioned. The Motley Fool UK has recommended Barclays. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

More on Investing Articles

Mature Caucasian woman sat at a table with coffee and laptop while making notes on paper
Investing Articles

10% dividend growth! 2 FTSE 100 stocks tipped to supercharge cash payouts

These FTSE 100 stocks have strong records of dividend growth. And they're expected to keep on delivering, as Royston Wild…

Read more »

Investing Articles

Down 17% in a month and yielding 7.39%! Is this FTSE 100 share a screaming buy for me?

When Harvey Jones bought Taylor Wimpey last year he thought this FTSE 100 share was a brilliant long-term buy-and-hold. Has…

Read more »

Investing Articles

Here’s how I’m using a £20k ISA to target £11k+ in income 30 years from now

Is it realistic to put £20k in an ISA now and earn over half that amount every year in passive…

Read more »

Young black colleagues high-fiving each other at work
Investing Articles

If I could only keep 5 UK stocks from my portfolio I’d save these

Harvey Jones is running through his portfolio of top UK stocks to see which ones he couldn't bear to do…

Read more »

Midnight is celebrated along the River Thames in London with a spectacular and colourful firework display.
Investing Articles

I’m aiming for a million buying unexciting shares!

By investing regularly in long-established, proven and even rather dull businesses, this writer plans to aim for a million. Here's…

Read more »

Investing Articles

3 things to consider before you start investing

Our writer draws on his stock market experience to consider a few vital lessons he would use to start investing…

Read more »

Investing Articles

Will this lesser-known £28bn growth stock be joining the FTSE 100 soon?

As the powers that be plan a reorganisation of Footsie listing rules, this massive under-the-radar growth stock could find its…

Read more »

Investing Articles

Fools wouldn’t touch these 5 FTSE 350 flops with a bargepole – how come I own 3 of them?

Harvey Jones took a chance on three struggling FTSE 350 stocks in the hope that they'd stage a dramatic recovery.…

Read more »