LONDON (Reuters Breakingviews) - Oh dear. Lloyds Banking Group is ending its misssold payment protection insurance scandal as it began – with an almighty slap in shareholders’ faces. The UK’s largest domestic-focused bank on Wednesday revised down full-year returns on tangible equity after it posted a 7% decline in first-half pre-tax profits due to a higher than expected PPI charges. Such ‘one-off’ costs should roll off after an August deadline. But it’s still a dent to CEO Antonio Horta-Osorio’s credibility.
For long-suffering shareholders, the Aug. 29 deadline to claim PPI compensation cannot come soon enough. Back in 2011, the lender took a 3.2 billion pound provision charge in a now-ironic attempt to get out in front of the issue. It has since provisioned more than 20 billion pounds. The first half of 2019 didn’t deviate from this tawdry pattern: Lloyds announced a 550 million pound charge due to higher claimant volumes, roughly 10 times what analysts expected. The fact that shares fell by 4% on Wednesday reflects the fact that Horta-Osorio will still have to pay PPI claims after the deadline, as long as customers get their applications in beforehand.
True, underlying performance is solid enough: the lender posted a respectable 11.5% return on tangible equity. Annual returns will now be around 12%, rather than 14% forecast. And if you take away the PPI provisions and other one-off items then Lloyds’s ROTE rises to a peer-beating 16.3%.
Ordinarily, that should lead to a rally in shares trading at mere tangible book value, assuming a 10% cost of capital. But heady “underlying” returns could yet turn out to be a mirage.
Firstly, Lloyds acknowledged that risks of a ‘no-deal’ Brexit “have increased” – something which would likely lead to a spike in loan losses from historically low levels. Secondly, pressure on lending margins – Lloyds’ net interest margin shrunk by 3 basis points year on year – and the prospect of the Bank of England lowering rates all add up to a new set of headwinds for Horta-Osorio to navigate.
Investors will cheer the end of the miserable PPI saga, and understand the difficulty of forecasting claims. But it shows the dangers inherent in predicting anything other than a worst-case scenario.
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