The threat of a new global banking crisis has sent bank shares on the FTSE 100 lower of late. Take NatWest Group (LSE:NWG), for instance. The high street bank has shed 10% of its value since early March when Silicon Valley Bank collapsed.
So the bank trades on a forward price-to-earnings (P/E) ratio of 5.5 times. It also carries a market-beating 6.8% dividend yield.
On paper this seems to offer spectacular value. Low valuations are the domain of high-risk companies and/or those that are expected to suffer weak earnings growth.
Yet broker projections suggest neither is the case with NatWest. Annual earnings are forecasted to soar 28% year on year in 2023. Further double-digit increases are anticipated for 2024 and 2025 as well.
Bad loans
So why am I not tempted to buy NatWest shares, then? Well, as the UK economy struggles, I think these broker estimates could be trimmed back in the weeks and months ahead.
One significant threat is a boom in loan impairments as consumers and businesses feel the pinch. The bank took another £70m charge in the first quarter, and a recent upsurge in the number of households missing payments suggests a storm could be coming.
Latest data from Which? showed that 2m households missed or defaulted on at least one mortgage, rent, loan, credit card, or bill in April. Rising interest rates and persistently high inflation mean that the strain is unlikely to let up.
Rate rises
On the one hand, higher rates are a boost to the banks. They increase the difference (known as the net interest margin, or NIM) between the interest offered to savers and demanded from borrowers by the likes of NatWest.
A stream of Bank of England hikes in 2022 and early this year pushed NatWest’s NIM to 3.27% in the first quarter. This was up a massive 0.82% year on year and meant that revenue continued to climb.
It’s unlikely that the central bank is done yet, too. In fact City analysts have been scaling up their interest rate forecasts as sky-high inflation drags on. Goldman Sachs for one has tipped rates to hit 5% this year, up three-quarters of a percent from current levels.
Depositors leave
But as I say, rate increases could cause loan defaults to balloon in the months ahead. They might also see a steady exodus of depositors as people look for better savings rates to boost their finances.
NatWest’s first-quarter update has already highlighted this danger. Total deposits at the business dropped 2.6% in the period (to £11.1bn) thanks in part to competition from rival banks.
The dual threats of weak economic conditions and tough market competition pose a threat beyond the near term, too. The UK economy faces a string of significant structural issues (like low productivity and trade issues) that might take decades to solve. And cyclical companies like this could struggle to grow earnings and dividends as a result.
All things considered, I’m happy to ignore NatWest shares and buy other cheap shares right now.
