As anyone who watched Mary Poppins as a child knows, British banks should be a haven of safety in troubled times.
But last year investors could have been forgiven for thinking they should have been feeding the birds with Mary Poppins, rather than investing their tuppence in the equivalent of Mr Banks’ Fidelity Fiduciary Bank.
When the pandemic hit, bank shares slid sharply in value. Shares in Barclays dropped from a high of around £1.80 in February 2020 to just 80p two months later; while NatWest fell from around £2.40 at the beginning of 2020 to £1 in April.
Opportunity: If you’re fond of dividends and not too much investment excitement, bank shares could be just the spoonful of sugar your portfolio needs
For shareholders, there was a double whammy.
The banks were told by the Bank of England to suspend dividend payments – a move designed to ensure they remained financially robust during the pandemic.
These measures were loosened last December and then scrapped last month as it became clear that Britain’s banks had been protected from any lasting economic fallout by Chancellor Rishi Sunak’s furlough and coronavirus business interruption schemes.
In the past few days, the country’s major banks have all published financial results that should encourage shareholders.
First off the starting block was Virgin Money, the rebranded Clydesdale Yorkshire Bank Group. It confirmed it had released some of the money it put aside to cover any failed business loans resulting from the pandemic.
This indicated that the bank is feeling optimistic about its future prospects. Its third-quarter results also highlighted a boost in mortgage lending due to the stamp duty holiday rush – and increased personal lending. No dividend update was forthcoming, but Shailesh Raikundlia, an analyst at investment bank Liberum, described Virgin Money’s results as ‘better than consensus expectations’ and the trading update as ‘strong’.
Next came Barclays, Metro and Santander. Figures for Spanish bank Santander were better than forecast with boss Ana Botin saying it would soon return to its dividend strategy of paying out between 40 per cent and 50 per cent of its earnings to shareholders.
‘We are on track to outperform our profitability target for the year,’ she adds.
British challenger bank Metro reduced its losses, while Barclays’ half-year results were accompanied with confirmation of a 2pence per share dividend payment. A day later, Lloyds Banking Group reported half year profits of £3.9billion and an interim dividend of 0.67 pence a share.
NatWest beat forecasts, announcing on Friday that operating profit before tax had swung from a £707 million loss to a £2.5 million profit. It said it would return £3 billion to shareholders through a mixture of dividends and share buybacks over three years.
Yet despite the encouraging results and return of dividend payments, not everyone in financial circles believes that Britain’s banks have a bright future.
Darius McDermott is managing director of investment specialist Chelsea Financial Services. He says that low interest rates have ‘destroyed some of the profitability of banks’ because the ‘net interest margin’ – the difference between what the banks borrow and lend at – has shrunk.
‘Competition in the core mortgage market has also limited returns,’ he adds. Then there’s the advance of ‘challenger banks’ – small and nimble financial institutions that are grabbing market share from their bigger cousins.
The popularity of Monzo, Revolut and other new names may become a bigger issue for the big banks as they grapple with old-fashioned computer systems and creaking physical infrastructure (branch networks that fewer customers are using).
McDermott points out that companies such as ‘buy now, pay later’ group Klarna and foreign exchange service Wise, are also eating into some of the most profitable services banks provide. Despite these words of warning, McDermott is bullish about bank dividends, which he believes ‘should return to pre-pandemic levels’.
Chris Beauchamp, chief market analyst at financial trading platform IG Group, says that a strong UK recovery should also benefit banks, supporting a ‘continued rise in consumer lending and mortgage activity, vital elements in particular for Lloyds and NatWest’.
He adds: ‘Barclays should also get a boost from the current increase in business mergers and acquisitions.’
Bank shares have already enjoyed a strong recovery since the dark days of spring last year.
NatWest shares now hover around the £2 mark, compared to just below £1.60 at the start of the year while Barclays’ shares are up more than 23 per cent.
Shareholders in Lloyds have seen their stock rise in value by a third since the turn of the year.
Dividends will sweeten a portfolio
Simon Adler, manager of investment funds Schroder Global Recovery and Schroder Global Equity Income, believes that between 10 and 15 per cent of investors’ portfolios should be in bank stocks.
He is bullish about the opportunity for investors to make long-term returns over a ten to 15-year time horizon – and believes dividends should be ‘prodigious’ over this period. ‘Bank shares are attractive, but they will require patience,’ he adds.
Buying investment funds with a financial bent is a good way to get exposure to bank shares.
Chelsea’s Darius McDermott likes £200million investment trust Polar Capital Global Financials. This holds around 60 per cent of its assets in banks although most are US based. Top holdings are JP Morgan and Bank of America. Over the past year, the trust has generated an overall return of 59 per cent.
Manager Nick Brind says he is ‘optimistic about bank shares’. He adds: ‘Their valuations remain attractive in absolute terms and relative to wider equity markets. Any change in interest rate expectations adds further potential upside to the sector.’
McDermott also likes the £1billion Schroder Recovery fund, which currently has both Barclays and Lloyds as top ten holdings – and Jupiter Financial Opportunities fund.
Many UK equity income funds have bank shares among their top holdings. For example, JO Hambro Capital Management UK Equity Income fund has Barclays as a top ten holding while Jupiter Income has NatWest among its biggest stakes.
A final thought. Until recently, the annual dividend yield from bank shares has been subdued because of the restrictions imposed on banks by the Bank of England. But with the constraints now off, and banks in relatively good financial health, future dividends could be more than attractive. For example, Barclays’ annual dividend yield is predicted to be six per cent in three years’ time while NatWest and Lloyds are forecast to be just under five per cent.
To put these figures into context, the current dividend yields are 0.6 per cent, 1.47 per cent and 1.2 per cent respectively. In a lowinterest rate environment, the prospect of annual income of five per cent plus should gladden the heart of income hunters.
Returning to our Mary Poppins theme, if you’re fond of dividends and not too much investment excitement, bank shares could be just the spoonful of sugar your portfolio needs.
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