From the scale of the derating that has hit UK bank shares in recent months, investors could be forgiven for thinking that we were in the midst of a major recession. Yet no such economic woe is in sight - even the Confederation of British Industry's pessimists expect the UK economy to grow 2 per cent in 2008.
The credit crunch that's afflicting the wholesale interbank market is, of course, the problem here. With the US sub-prime mortgage crisis having undermined faith in securities backed by such assets, banks remain cautious about lending to each other. And despite the heroic efforts of the world's major central banks to inject liquidity, interbank borrowing rates look set to remain high.
True, 2008 is unlikely to bring another Northern Rock-style collapse - that bank's extreme reliance on wholesale funding left it uniquely exposed to higher borrowing costs. Neither are the UK's lenders as directly exposed to the US sub-prime market as their international rivals. So, multi-billion pound write-offs at UK banks also look unlikely. But the UK's mortgage banks do look vulnerable to more costly wholesale borrowings.
Topping that list is Alliance & Leicester. Its funding gap - essentially the difference between its funding needs and its retail deposit base - is estimated by brokers at Collins Stewart to be second only to that of Northern Rock (expressed as a percentage of market capitalisation). A weaker housing market doesn't spell great news for mortgage lenders generally. Investors shouldn't bank on a bidder either - Banco Santander walked away from a possible deal in December and other suitors are unlikely to emerge.
Bradford & Bingley, too, needs watching - it's not nearly as exposed to the pricey interbank market as Alliance & Leicester, but its focus on buy-to-let mortgages in the current climate should signal caution.
Still, that's no reason to avoid the sector entirely. Negative sentiment from the credit crunch has hit all of the UK's lenders, but some - such as Barclays or Royal Bank of Scotland - are unlikely to suffer a serious margin hit from that. And both have diversified away from the pedestrian prospects available on the UK's high street as the economy slows. Barclays, in particular, boasts impressive growth prospects in South Africa and Spain. That leaves shares in both - trading on between seven and eight times 2008's earnings estimates - looking unsustainably cheap for the long-term.
| Company name | Price (p) | Mkt val. (£m) | P/E ratio | Div. yld (%) | 12M price chng.(%) | Last IC view |
|---|---|---|---|---|---|---|
| ALLIANCE & LEICESTER | 708.5 | 2,980 | 7.6 | 7.81 | -37.47 | |
| BARCLAYS | 465 | 30,647 | 6.5 | 6.88 | -38.41 | |
| BRADFORD & BINGLEY | 246 | 1,519 | 6.2 | 8.17 | -48.24 | |
| HBOS | 630 | 23,502 | 5.8 | 7.06 | -44.3 | |
| HSBC | 753.5 | 89,407 | 9.8 | 5.51 | -17.61 | |
| LLOYDS TSB | 394.25 | 22,266 | 7.2 | 8.8 | -33.18 | Sell, 533p, 14 September 2007 |
| NORTHERN ROCK | 68 | 286 | 0.7 | 0 | -94.09 | |
| ROYAL BANK OF SCOTLAND | 391.25 | 39,163 | 5.3 | 8.24 | -42.24 | |
| STANDARD CHARTERED | 1630 | 22,976 | 17.7 | 2.21 | 11.41 |
