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Higher UK gilt yields suggest higher market interest rates in 2017 (even if Base Rates take longer). This is positive for bank margins. How/ why has this occurred so soon:-
Post the June 23rd vote, UK “challenger” bank shares (Aldermore, Shawbrook, OSB, Virgin) halved on “Brexit”/ slowing property values. Investors overlooked inherent competitive advantages for the challengers relative to the High Street banks.
The “challengers” create competitive forces, by growing market share in key areas such as current accounts, mortgages, cards, savings products. They also provide a platform for foreign banks wanting to acquire UK market share quickly such as the TSB/ Sabadell merger in 2015. The Bank of England reported in July that 20 new banks are in talks to obtain a licence, with 14 receiving authorization since 2013.
Recent challenger updates have been positive;
With the caveat of stable property markets, credit demand is strong going into 2017. The sector will tap the Bank of England’s FLS scheme in 2017 hence lower cost of funds.
There are certainly risk factors in declining landlord profitability and low impairment provisions. Most have never experienced a downturn with high levels of repossessions and credit losses. The business model is dependent on IT security, an important issue that can derail an IT sensitive operation (Talk Talk).
The challengers face challengers, from “fintech” and digital/ online banks. One new addition “Atom Bank” received its banking licence in November 2015 and launched its deposits mobile app in April. “Monzo” received a restricted banking licence in August and is testing its IT to ensure new customers can open an account in under 1 minute.
OneSavings Bank (OSB) is a specialist lender offering residential, buy to let and commercial mortgages via Kent Reliance Building Society, Prestige Finance and Reliance Property Loans. The sourcing of new business takes place via an IFA / specialist broker network. The co was the subject of an IPO in May 2014. The Kent Reliance business was rescued by New York private equity firm, JC Flowers who remains majority shareholder holding 53.78%.
OSB has tapped the Bank’s new Funding for Lending (FLS) scheme drawing down £626m at 0.25% for the first time. This is likely to enhance interest margins from H1 2016 levels of 3.07% providing a cheap cost of funds for new lending.
|Consensus profit estimates; OneSavings Bank|
|Year End||Total Income (£m)||PBT (£m)||EPS (P)||DPS (P)||P/E (x)||Yield (%)||Share Price (p)|
The consensus forecasts envisage EPS growth over FY17 and FY18. We note the low level of forward PE (8.5x) normally suggests low growth contrary to expectations. Current book value per share at 155.2p.
Ahead of preliminary results for FY17 expected on 17th March 2017 we expect continued growth in deposits (H1 +10%) and loans (H1 +25%) and excellent ongoing cost control (cost income 27%) is likely to drive profit growth in 2017.
Expectations of higher base rates, given higher market rates could boost lending volumes significantly in Q1 2017 as lenders rush to lock in rates.
OSB’s valuation at 2.27x book value (155.2p) is forward looking
|52 Week Hi/Low||380p/176p|
|Avg. Daily Volume||0.72m|
Key Risks to Price Target
UK challenger bank Virgin Money is a UK retail / consumer facing financial services business offering savings, (ISAs, Insurance, Pensions), loan (mortgages, credit cards) and currency products (international transfers, travel money). Virgin floated on LSE in November 2014 at 283p per share.
Virgin Money bought Northern Rock in November 2011. That business comprised 75 branches, 1m customers, a £14bn mortgage book, and £16bn retail deposits. The mortgage book is now £28b.9n (2.1% of the UK mortgage market) with significant growth in credit cards, Virgin has a 3.4% market share in UK credit cards.
The board reported strong growth in Q3 new mortgage lending (+19%) to £6.5bn and credit card balances (+41%) to £2.2bn. Deposits jumped 12% to £28.3bn up £3.2bn. Virgin is on track to hit its £3bn credit card balance target by end 2017.
|Consensus profit estimates; Virgin Money|
|Year End||Total Income (£m)||PBT (£m)||EPS (p)||DPS (p)||P/E (x)||Yield (%)||Share Price (p)|
The consensus forecasts appear conservative if growth in interest earning assets continues at Q3 levels.
Post the Nov 18th sale of a 12% stake in Virgin Money (owned by Wilbur Ross) the transaction (53.6m at 320p) has hit the shares knocking them back from 346p. The placing shares have created an opportunity for long term investors and ending a share overhang.
We are expecting a strong response for the “All Round Credit Card” launched in November – its APR at 19.9% undercuts rivals Vanquis, Barclaycard & AMEX.
Virgin will join the BoE “Funding Scheme” enabling it to obtain liquidity at just 0.25% below current interbank lending rates.
|52 Week Hi/Low||386p/205p|
|Avg. Daily Volume||2m|
Source: Fidessa plc
Key Risks to Price Target
(NB. “PBT”- profit before tax, “EPS” earnings per share, “DPS” dividend per share, “P/E” price to earnings)