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Bank bail-out spells dividend cuts

Created:
8 October 2008
Written by:
John Adams

Not since the 1983 general election has the Labour Party been serious about nationalising banks. Yet that's what the Labour government has proposed this week - the £50bn part-nationalisation of UK banks, with a huge liquidity scheme included. Despite its socialist overtones, the bailout has been welcomed in the City. "We feel that the wholesale funding plan is key to short-term stability and that the capital raisings should stabilise banks further out," says banking analyst Alex Potter of Collins Stewart.

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But the scheme had a mixed impact on bank shares. HBOS and Royal Bank of Scotland (RBS) were the main beneficiaries. Their shares rose 44 per cent and 23 per cent respectively from the lows reached at the start of the week. However, Lloyds TSB's shares hardly budged, while HSBC's, Standard Chartered's and Barclays' shares all fell.

That's not so surprising. The best capitalised and most liquid banks - HSBC and Standard Chartered - don't need government help, and have both confirmed that they don't plan to use the recapitalisation facility. As before, however, the pair remain susceptible to further credit quality deterioration. But HBOS will benefit the most, especially from the plan's proposal to boost access to liquidity - the big fear for HBOS had been its ability to refinance its wholesale funding. Worries over RBS's weak-looking capital position will also be alleviated by the bailout.

The scheme must now raise doubts over the viability of Lloyds TSB's government-sponsored bid for HBOS. It's a great deal for Lloyds, which is grabbing the UK's number one mortgage bank for a knock-down price. But with HBOS no longer in danger of going bust, the rationale for the deal from the government's perspective seems to have fallen away. HBOS's shareholders, as well as competition regulators, may now offer more vocal opposition.

Moreover, the strings attached to the bailout could prove bad news for dividends. "The government is insisting on tighter control of capital, dividends and executive pay," notes Mr Potter. "We feel that dividend payouts for the main four UK domestic banks will be severely impacted, with the possibility of no cash payout until 2010 or later." The broker believes that only HSBC and Standard Chartered can continue to pay dividends as before.

IC VIEW:

With government support now affirmed, shares in both RBS (111p) and Barclays (267p) look too cheap. There could be bad news for dividends should they take the state's cash, but the tide has turned and both now rate cautious good value. But investors in Lloyds TSB (228p) need to beware. If the deal to buy HBOS collapses, its shares will probably slide. The safest bets for income investors are HSBC (858p) and Standard Chartered (1,165p), but we still feel that despite their relative strength, the shares are too expensive and reiterate our sell advice on both.

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