2022 has not been a rewarding year for shareholders in banking giant Lloyds (LSE: LLOY). Its shares have dipped 8% since the start of the year.
As the shares offer a 4.6% dividend yield, shareholders have had the blow of a declining share price softened. Nonetheless, if I had bought Lloyds shares at the start of January, I would be in the red.
Longer-term, the picture is also bleak. Lloyds has seen its share price fall 31% in the past five years.
Yet this is the country’s leading mortgage lender, it is hugely profitable and trades on a price-to-earnings ratio in single digits. So should I add Lloyds shares to my portfolio now in the hope of a recovery in 2023?
Understanding the slide
Before looking forward, it can help to look back. Why has the share price been drifting down, given the company’s impressive business performance? After all, Lloyds reported a profit after tax of £4bn for the first nine months of this year alone.
One reason is the risk a worsening economy poses for a bank that is so dependent on lending to UK borrowers. While that £4bn profit is vast, it is still 26% lower than the equivalent figure in the same period last year. If the economy worsens, profits could shrink further. Normally, if a recession combines with falling house prices, as we are seeing now, loan defaults increase. That would hurt profitability at Lloyds.
The bank has reassured investors that “observed credit performance remains stable, with very modest evidence of deterioration”.
That is positive. But for Lloyds shares to recover in 2023, say to where they were five years ago, I think investors would need to feel confident that the economy was on the front foot again, with booming growth and a decline in default risk. I do not expect 2023 to shape up like that, based on how many challenges the economy currently faces.
How to value Lloyds shares
Even if the prospects are weak, could the ‘Black Horse’ bank’s shares stage a recovery simply because they currently look cheap?
It is true that their price-to-earnings (P/E) ratio of 8 is low. But the same might be said of rivals such as NatWest, where the P/E ratio is 11 – or Barclays, where it is just 5.
Investors clearly have doubts about the short- to medium-term outlook for banks with heavy UK exposure. I think those seemingly low P/E ratios are factoring in an expected decline in earnings, like we have seen at Lloyds in the first three quarters of this year. That would mean prospective valuations are not as cheap as they look when using historical data.
I therefore do not expect bargain hunters to pour in and push up the price of Lloyds shares dramatically in 2023.
I’m waiting
I like quite a lot of things about the Lloyds business, from its well-known brands to the strong position in UK mortgage lending. But I think the declining share price reflects ongoing concerns about the UK economy. Until there are more positive indicators on that front, I would not buy Lloyds shares for my portfolio.
The post Will Lloyds shares recover in 2023? appeared first on The Motley Fool UK.
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C Ruane has no position in any of the shares mentioned. The Motley Fool UK has recommended Barclays Plc and Lloyds Banking Group Plc. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.