The Lloyds (LSE: LLOY) share price has slumped 57% in the year to date. Investors couldn’t dump the stock fast enough when the coronavirus pandemic struck and the economy headed into recession. Currently trading below 27p, are Lloyds shares finally cheap enough to buy?
Lloyds shares and TNAV
With companies in highly cyclical industries, like banking, I believe in following a value strategy rather than a buy-and-hold one. In other words, buying somewhere near the bottom of the cycle and selling on the recovery.
The relationship between a bank’s share price and tangible net asset value (TNAV) is a great way of tracking the cycle. The table below shows this relationship in the case of Lloyds for full-years (FY) 2013-19 and the two quarters of 2020.
|
|
Closing share price (p) on results date |
TNAV per share (p) |
Share price premium/(discount) to TNAV (%) |
|
Q2 2020 |
26.21 |
51.6 |
(49) |
|
Q1 2020 |
32.24 |
57.4 |
(44) |
|
FY 2019 |
56.55 |
50.8 |
11 |
|
FY 2018 |
61.13 |
53.0 |
15 |
|
FY 2017 |
69.72 |
53.3 |
31 |
|
FY 2016 |
69.70 |
54.8 |
27 |
|
FY 2015 |
70.64 |
52.3 |
35 |
|
FY 2014 |
79.00 |
54.9 |
44 |
|
FY 2013 |
81.32 |
48.5 |
68 |
This is very typical. As you can see, when Lloyds released its FY 2013 results, its shares were commanding a substantial premium (68%) to TNAV. Put another way, buyers of the shares were willing to pay £1.68 for every £1 of Lloyds’ assets.
Now, since World War II, the UK has suffered a recession roughly once a decade. The triggers are almost always unexpected. But with the chance of a recession being around one in two over any five-year horizon, what does the market do?
As you can see in the table above, from FY 2014 (five years after the last recession) the premium of Lloyds shares to TNAV began to fall. This reflected a decline in overall demand for the shares as the market increasingly looked to price-in the rising likelihood of the next recession. By FY 2019, the premium to TNAV was down to 11%.
Then, BAM! The pandemic and recession hit, and Lloyds shares rapidly moved to a substantial discount to TNAV. By Q2 2020, the discount had reached 49%. Put another way, buyers of the shares were paying just 51p for every £1 of Lloyds’ assets.
Crystal ball
I can see three broad potential scenarios for Lloyds.
- Events escalating to a major financial crisis. Lloyds having to do a big dilutive equity fundraising, or even be bailed out by the government again.
- A protracted economic downturn before Lloyds’ earnings and share price turn the corner.
- A rapid V-shaped economic recovery, and Lloyds’ shares flying higher sooner rather than later.
Would I buy Lloyds shares today?
Lloyds shares are currently trading at about half TNAV (50% discount). My rule of thumb is to look for about a third of TNAV (67% discount). Call me greedy, but I think this provides a good margin of safety.
Do banks’ shares ever trade at such a discount? They did during the last recession. And in this one, I was able to rate Barclays a ‘buy’ in April, noting its share price was at a near-70% discount to TNAV.
As such, I’m not quite ready to jump on the ‘Black Horse’ yet, but see Lloyds as a stock to watch closely at this stage.
