This is a solid and reassuring update from Lloyds (LON:) where, quite apart from a strong operating performance, the group has fully recognised the potential impact of the conflict in the Middle East on economic behaviour more broadly.
Such concerns have cast a cloud over the sector this year, although Lloyds has fared rather better than most of its UK peers in limiting the share price decline to just 1%, and its recognition of the current situation has resulted in an underlying impairment charge of £295 million, which is lower than expected.
Of course, this is a number which anticipates potential losses rather than booking actual losses, such that releases are possible in the future should the bad debts fail to materialise. In the meantime, the tweaked figures are based on several scenarios, such as lower GDP growth in the UK, a rise in unemployment and limited gains in residential and commercial property prices. Even so, at the moment, there are few if any signs of deterioration across its lending book.
Indeed, there was positive news from a major part of the group’s more traditional lending business. Mortgages, for which Lloyds is a major player and which account for 67% of the total loan book, increased by 4% year on year and loans and advances overall by £5.1 billion to £486.2 billion, within which Retail saw growth of £3.5 billion and Commercial Banking £2.8 billion. Deposits also grew by 2% to £496 billion, driven largely by Commercial Banking.
Alongside the prudent provisions, higher income and lower operating costs have kept the engine running smoothly. Overall income for the quarter increased by 9% to £4.79 billion, in line with estimates, while pre-tax profit spiked by 33% to £2 billion, comfortably ahead of the expected £1.84 billion. Underlying Net Interest Income (NII) grew by 8% to £3.6 billion, helped along by an improvement in the Net Interest Margin (NIM) from 3.03% to 3.17%, where volume growth and the benefit of structural hedge income were in evidence.
Indeed, the structural hedge contribution, which is designed exactly to mitigate the group’s susceptibility to changes in a falling interest rate environment, is expected to grow further. This quarter it added £1.6 billion of income, which is expected to translate to more than £7 billion for the year as a whole, and over £8 billion in 2027.
The key metrics for the most part are still in fine fettle. The capital cushion, or CET1 ratio, is stable at 13.4% (and in excess of the 13% target), the cost/income ratio reduced from 58.1% to 51.9% and the Return on Tangible Equity (ROTE) spiked to 17% from a previous 12.6%, leading Lloyds to reiterate its full-year targets of more than £14.9 billion of underlying NII, a cost/income ratio of less than 50% and a ROTE in excess of 16%, while its progressive policy could add to the £1.75 billion share buyback programme which is in progress and a current dividend yield of 3.7%, which is of some attraction.
There is little mention of the motor finance redress provision, which was last increased by £800 million to £1.95 billion in the third quarter last year, which suggests that a line has now been drawn under the matter. In addition, and coming slowly up on the rails are those units which provide alternative sources of income such as insurance, credit cards and the UK private bank (previously called “Wealth”) and incorporating the recent acquisition of Schroders Personal Wealth.
The planned strategic update at the half-year numbers in July will therefore be the subject of much interest as Lloyds lays out its aims for the future.
The update is strong and dependable rather than shooting out the lights and given that Lloyds is often seen as a barometer for the UK economy, its progress has been hard-won. A neutral reaction at the open is therefore unsurprising, and may also reflect a pause for breath following a share price which has risen by 35% over the last year, as compared to a gain of 22% for the wider , and by 88% over the last two years.
While such strength may have lessened some of its attraction in terms of valuation, this performance continues to validate the bank’s strategy and the market consensus of the shares as a buy will no doubt hold firm.