Barclays plc (BARC) Ordinary 25p
HL comment (29 July 2020)
Barclays reported an 8% increase in total income in the first half, reaching £11.6bn, driven by an 86% increase in income from trading activities. However, a big step up in provisions for bad loans meant profit before tax still fell 58% to £1.3bn.
The bank's CET1 ratio, a key measure of a bank's balance sheet health, rose from 13.8% at the start of the year to 14.2% at the end of the first half. That reflects profit generated during the half and the non-payment of dividends.
The shares were broadly flat in early trading.
Banks are always a bit of an economic bellwether, and that's put Barclays right at the heart of the coronavirus crisis.
Business customers have been leaning heavily on the bank. The UK high street business increased loans to businesses by 31.4% in the first half. And while a lot of the risk associated with these loans is underwritten by the UK government, the extra demand is an indication of the severe stress many small businesses are under. Even the larger companies serviced by the Corporate & Investment Bank have been calling on Barclays for extra cash.
There has been a decline in some areas of consumer lending, particularly credit cards, but the overall effect is an increase in lending to customers of some £15bn since the start of the year. However, despite the extra lending average interest income has declined year-on-year. That's because net interest margins (the difference between what the bank can charge borrowers and has to pay depositors) has shrunk from 3.4% this time last year to 3.0%.
That's largely down to the Bank of England's decision to cut rates to just 0.1% in March (a record low). Lower interest rates get passed onto borrowers through a combination of base rate tracking loans, competition and regulatory action. But the interest banks pay to savers is already on the floor. With little room to push funding costs lower the net interest margin is squeezed. That significantly reduces the profitability of loans.
It doesn't help that a higher proportion of these less profitable loans are also expected to turn bad. Credit cards and overdrafts tend to get maxed out before a customer goes bankrupt, as does the corporate equivalent. Barclays now thinks it will take longer for the UK to recover from the crisis, and that's led to a significant hike in bad loan provisions.
The good news is that volatile financial markets are ideal conditions for banks' trading desks, as customers trading volumes and hedging activity increases. Meanwhile the glut of companies turning to financial markets for support, whether that's through debt or issuing new shares means a hefty pay day for Barclays. This natural hedge is one of the advantages of Barclays 'Universal Bank' model. The boost will be relatively short lived though, and if the economy slides into a prolonged recession Barclays investment bankers won't escape the pain, but for now it's a useful tailwind.
More generally we take comfort from the fact UK banks are significantly better capitalised today than they were before the financial crisis. Although Barclays is one of the weaker names from a capitalisation perspective its investment bank makes the group more diversified, and sets it apart from some of its more UK high street focused rivals.
Overall we see Barclays as offering something a little different to the rest of the sector. It's more diversified, and that has been well rewarded so far. However, there are challenging times ahead and a price to book ratio that's well below its long term average reflects genuine worries about profitability in a low interest rate world.
Barclays key facts
- Price/Book ratio: 0.3
- 10 year average Price/Book ratio: 0.56
- Prospective yield over the next 12 months: 2.4%
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Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.
Half Year Results
Loans and advances to customers rose by £16bn in the half. That reflects increased lending to corporate customers, including £7.1bn of lending under government backed CBILS and BBLS coronavirus support schemes, partially offset by lower consumer borrowing including on credit cards.
Despite higher levels of lending, overall net interest income fell 8.6% to £4.2bn. That reflects lower interest rates, a decline in higher margin credit card balances and steps taken to support customers during the coronavirus crisis.
Fee and commission income remained broadly flat year-on-year, at £3.3bn. However, increased market volatility meant trading income rose to £4.2bn (2019: £2.1bn), partially offset by a £136m loss from the bank's own investments. This reflects a strong result from the Corporate and Investment Bank, where an increase in companies looking to raise money meant higher fees and both bond and equity trading desks benefitted from increased client activity.
Barclays increased its provision for bad loans by £3.7bn in the first half, including a further £1.6bn in the second quarter. That was driven by a significant increase in loss assumptions for unsecured retail lending - which includes things like credit cards and overdrafts - and additional provisions for companies in coronavirus hit sectors.
Operating costs fell 4.1% to £6.6bn in the half, reflecting lower staff costs and decline in litigation and conduct costs. That resulted in a cost:income ratio of 56%, down from 63% a year earlier.
The bank achieved a return on tangible equity (RoTE), a key measure of overall profitability, in the first half of 2.9%.
Income in Barclays UK and International Consumer, Cards and Payments, is expected to recover gradually going forwards, although the headwind from lower interest rates is likely to continue into 2021. Impairments are expected to remain high for the rest of the year, although management expect the first half to mark a high water point.
Barclays continues to target an RoTE of over 10% and cost:income ratio of under 60% in the longer term - although this is subject to change if the coronavirus outbreak results in severely adverse economic conditions.
This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.
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