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A year ago, the shares of Lloyds Banking Group (LSE:LLOY) were trading at around 45 pence. Now, the stock is closer to the 60 pence mark.
There is no doubt that Lloyds shares were worth more a year ago than they are today, but investors should not be too quick to think they have missed the opportunity.
Expensive vs more expensive
There is a difference between a stock being more expensive than it was and it still being expensive, period. And the Lloyds share price is certainly a good example of this.
At this time, the average price-earnings (P/E) ratio of the FTSE 100 Index is 15. Despite a stellar performance over the past year, Lloyds shares are trading at a significant discount, at a price-to-earnings ratio of just under 8.
Similarly, the average FTSE 100 share trades on a price-to-book (P/B) ratio of 1.8. Again, Lloyds is much cheaper, with a P/B ratio of 0.77.
The stock price may be 30% higher than last year, but it still looks cheap compared to the overall index. So the stock may have gone from being a great value a year ago to being a good value today.
<h2 class="wp-block-heading" id="h-bank-stocks“>Bank shares
It is worth noting that bank stocks generally trade at lower multiples than those of other companies. This is because it can be harder to make money in the banking sector than in others.
For one, profits can be highly cyclical: When interest rates are high, banks can generally earn more income from the loans they make, which boosts their earnings. But the opposite is true when interest rates fall.
At the moment, interest rates look set to fall this year, which could lead to companies such as Lloyds posting lower profits and being unable to maintain their dividend payments.
However, it is not all doom and gloom. The worst outcome for banks like Lloyds is that borrowers default on their credit obligations, and lower interest rates would reduce the chance of this happening.
What makes Lloyds different?
It is also important to think about what differentiates Lloyds from the other FTSE 100 banks. Both Barclays and NatWest They trade at low P/E multiples and are somewhat sensitive to changes in interest rates.
One of Lloyds' key advantages is its deposit base. It holds the largest proportion of retail bank deposits in the UK and this helps it protect itself from a key risk for banks.
Banks use deposits to fund their lending activity, but a customer can borrow their money at any time and the bank does not have the ability to repossess someone's mortgage to cover it.
This is a risk of duration. The most effective protection is a large deposit base that is unlikely to be withdrawn at the same time, and this is what gives Lloyds a leading position in retail banking.
Is it too late to buy?
Lloyds shares used to be cheaper than they are now, but they still trade at a low price-earnings ratio compared with the FTSE 100 index average.
This means that the stock could be a good value even if lower interest rates hit future earnings. As a result, I don't think it's crazy to buy Lloyds shares at current prices.
