Interactive Investor

Rate impact on Lloyds and Barclays examined

22nd May 2015 10:49

Lee Wild from interactive investor

The global banking industry has absorbed billions of dollars of fines for a long list of historic crimes. British banks specifically have been found guilty of rigging both the foreign exchange market and Libor rates, mis-selling payment protection insurance (PPI), and aggressive selling of products by bonus-induced staff (put your hand up Lloyds).

Elsewhere, the industry has been hobbled by low interest rates, and mortgage providers are offering record-low home loans. It's prompted Deutsche Bank to look closely at mortgage and deposit pricing, and the implications for margins, banks, and the UK economy.

"Overall, we expect margins to compress driven by sharp falls in mortgage pricing unmatched by deposit cuts," writes the broker. "For the UK, cheaper & increased availability of household debt should be a positive for consumer spending, consumer confidence & house prices."

Deposit pricing, stubbornly high at about 80 basis points (bps), is higher than most countries in Europe. Deutsche can't explain it - banks do not need the liquidity and deposit costs should be falling, it says.

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In the meantime, front book pricing on mortgages fell 10bps in March and 32bps in the quarter. But deposit pricing has not followed suit, and the broker thinks margins will begin falling from here unless deposit pricing adjusts/wholesale mix is more aggressively tackled.

Deutsche believes the loan growth outlook has improved, with loan pricing reductions, and better certainty after the election. That should drive further investment in property, too. It also thinks the falling cost and increased availability of household debt - is positive for consumer spend, confidence and house prices.

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"Lloyds has the most to gain from lower-for-longer base rates and has the most tailwinds from liability repricing in our view," says Deutsche. "Lloyds deposit cost is ~115bps overall. This compares with the market on 83bps (102bps in retail, 35bps in commercial). This deposit premium represents a buffer of c.25bps on NIM [net interest margin] which could be used to offset asset pricing pressures elsewhere."

Barclays is a favourite with Deutsche, too.

"Barclays has a lower proportion of SVR [standard variable rate] mortgages than the market. This contributes to a back book mortgage yield which is well below market levels and sees incoming new loan rates as accretive to group NIM. For this reason Barclays is better protected (at least relative to historic NIM) from falling asset pricings/churn."

Deutsche rates both Lloyds and Barclays a 'buy' with price targets of 97p and 305p respectively.

This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.