The Royal Bank of Scotland (LSE: RBS) share price has been pretty flat so far this year, partly due to Brexit and wider economic concerns, but also, I suspect, because many investors probably don’t think the bank is out of the woods just yet. This is despite a new CEO and operating profit that would have hit £1bn in its third quarter if it hadn’t needed to make provisions for PPI and other exceptional costs.
An improving picture
On the face of it, this does mean the bank looks potentially undervalued. As with Lloyds Banking Group, there’s little reason to think the recently reintroduced dividend won’t rise quickly now that the government is reducing its stake. There are strong parallels between the stories of the two banks since the recession of a decade ago.
Already yielding 10.7% when special dividends are included – RBS is certainly rewarding its shareholders with income. The downside is the shares are more expensive than those of its peers. The P/E is around 17. For Lloyds, the same ratio is nearer 11 and at HSBC the P/E is near to 12.
Not stellar results
Besides being more expensive than its rivals, RBS also has many other issues it needs to face that could put pressure on the share price for some time to come. First up there’s the fact the government is still a 62% shareholder giving it huge influence over the bank and the selling off of shares, which will likely push down the share price.
Worse still, RBS had to set aside another £900m for PPI mis-selling. The history of wider mis-selling in the financial services industry is potentially another issue that could rear up at any time, although currently, this is just speculation. The extent of fines for RBS reflects its culture that I think may lead it into trouble again.
And those third-quarter results weren’t brilliant. The results showed the bank was short of market expectations despite its huge operating profit. The £900m provision for PPI meant it had an operating loss of £8m.
There were also a number of other red flags for me. A competitive mortgage market meant that the net interest margin fell to 1.97%. RBS reported a cost:income ratio of 92.9%, a significant deterioration on the previous quarter.
Then there are the external risks as well such as Brexit and the global economy – which may well slow down – which will all add to the pressures on the share prices of the banks, especially one that’s potentially already underperforming. Also, changing consumer expectations and digital-only competitors are a threat it must counter.
I do still think RBS is improving and getting into better shape and it’ll be interesting to see once PPI provisions stop, just how much growth it can achieve. The recommencement of dividend payments is also a good sign. I do believe the bank is improving, but I won’t buy yet.
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Andy Ross owns shares in Lloyds Banking Group. The Motley Fool UK has recommended HSBC Holdings and Lloyds Banking Group. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
Motley Fool UK 2019