On paper, Lloyds (LSE: LLOY) shares have always looked good value to me, but I’ve never bought them.
However, now that they’ve fallen 7% in the last month, I’m wondering whether I should finally add them to my income portfolio.
More attractive
Over five years, the Lloyds share price is down 31.5%, excluding dividends.
Yet we’re now in a higher interest rate environment. So the shares seem a far more attractive investment proposition to me than they did half a decade ago.
In its latest quarterly results, the bank’s pre-tax profit surged to £2.3bn, as the group continues to benefit from higher interest rates. This was 46% higher than last year and beat analysts’ expectations by some £300m.
Pleasingly, the company doesn’t appear to have been impacted by the turmoil engulfing other parts of the banking sector. Chief financial officer William Chalmers said of the US crisis: “In terms of its impact on the UK, it has so far been very limited.”
Looking forward, the company didn’t lift its guidance. And it warned that the net interest margin (the difference between what it pays savers and charges borrowers) are likely to fall from 3.22% to 3.05% this year.
That certainly put a dampener on the results.
Valuation and dividend
Last year, Lloyds raised its annual dividend by 20%. It now stands at 2.4p, giving the stock a yield of 5.2%.
The forward dividend yield is above 6%, with the anticipated payout handsomely covered 2.7 times by expected earnings.
In terms of valuation, the stock has a price-to-earnings (P/E) ratio of 6.3.
Of course, banks don’t tend to command high multiples, especially after the recent sell-off in the sector. But I find that P/E very cheap, potentially offering me a decent margin of safety.
Will I buy the shares?
Obviously Lloyds faces some headwinds regarding the UK economy.
We’re in an environment of high inflation and rising interest rates, which means there’s a strong possibility that it will see rising defaults from struggling customers this year. The £243m it put away for potential bad debts during the quarter was 37% higher than a year ago. So there’s risk here.
Plus, unlike banks such as HSBC and Santander, domestic-focused Lloyds doesn’t have overseas operations to drive growth and offset any UK weakness.
Yet the business still looks solid to me. It has a diversified deposit base and strong liquidity position. Indeed, its liquidity coverage ratio — essentially the financial shield that protects a bank from an impending bankruptcy — stands at 143%.
So, in theory at least, the bank appears strong enough to weather any storm that may appear.
And despite current uncertainty regarding the property market, Lloyds’ position as the UK’s largest mortgage lender appeals to me long term.
Finally, I’ve always doubted the competitive threats it faces from challenger banks. I think many customers have a basic aversion to changing accounts.
So, just like I don’t see online grocers like Ocado or Amazon eating Tesco‘s lunch, I’m not overly concerned about the likes of Monzo taking serious market share from the big banks.
Overall, I’d be satisfied to add Lloyds shares to my income portfolio today, if I had fresh cash to invest.
