Empty pockets a pocket of risk
UK bank stress tests are going to get tougher and dividend growth at Barclays and Lloyds may pay the price. That’s after The Bank of England last week called UK consumer credit growth a “pocket of risk”. The Bank’s Financial Policy Committee (FPC) intends to up capital requirements for banks by £10bn a piece when it tests banks again next month. It said lenders underestimate the potential hit in the event that non-performing consumer loans increase, for instance if economic conditions worsen or if rates were to rise rapidly. That’s not to say the FPC thinks current capital buffers are not sufficient. The Bank notes these are above the regulatory minimum, so immediate hikes are not on the cards. But given that RBS, Lloyds Banking Group, Barclays, HSBC and others that hold retail deposits have agreed voluntary levels of capital, new limits are required, according to the FPC.
Don’t panic, but…
The FPC’s view on household credit growth is in fact quite nuanced. Whilst the rate has recently touched 10%, the BoE judges that this is still “standard”, and not a risk to the economy. From a capital point of view, should the Bank rate accelerate to an eye-watering 4% from 0.25% currently, the BoE expects the impact on banks’ key capital buffers (their Tier 1 ratios) to be an 150 basis point hit on average. That would take the aggregate ratio down to 12.8%, well above the regulatory threshold. However some banks are “placing too much weight on the performance of consumer lending in benign conditions as an indicator of underlying credit quality”, the FPC says. The BoE says banks’ exposure is a high as £30bn, or around 20% of outstanding loans.
Barclays’ card marked twice
The impact of tighter regulations is likely to feed through swiftly given that the BoE expects loan loss provisions to rise. Investors can therefore be expected to scour the activities of banks with the biggest consumer exposure. Lloyds, the biggest UK mortgage lender which recently expanded credit card loans with the acquisition of MBNA faces close market scrutiny. Barclays and Virgin Money, around second and third in card lending, will also be eyed. The market will seek out capital laggards too, and Barclays turns up again. It had the weakest Tier 1 ratio of the Big 4 at the end of its last fiscal year. Its 12.4% level is expected to rise to 13.4% in the current financial year, according to forecasts compiled by Thomson Reuters, but that will still be below rivals. RBS, the strongest capital-wise, is forecast to print a ratio above 15.1%.
Don’t talk about the dividend
After Barclays CEO Jes Staley said earlier in the year that his team were “not talking about increasing the dividend yet” investors may get that sinking feeling about the stock’s 3.1% yield once again. Even following the shares’ drubbing this year, Barclays stock is still rated higher on forward earnings compared to Lloyds, but the latter offers a yield of 6.4%. It’s another reason why we expect underperformance by Barclays’ shares of all comparable European peers to continue well into the year end, and beyond. The stock’s loss of 13% in the year to date could at worst extend closer to a 20% fall.
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