Lloyds continues share buybacks despite a 36% profit plunge. Risk or opportunity?

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This week, the Lloyds (LSE: LLOY) share price hit a new all-time high of around 90p. This came despite a 36% profis plunge in its Q3 trading update.

The bank has set aside billions in reserve funds for potential costs related to the ongoing motor finance probe. Even with this hanging over it, the bank has pressed ahead with its share buyback programme, purchasing more than 13m shares this week at around 88p each.

The contrast between falling profits and continued capital returns raises a question — is this a confident long-term move, or a sign of over-optimism?

Good value… or value trap?

Despite having to take on significant costs related to the financing probe, Lloyd’s underlying performance has held up. It’s likely this resilience has helped reassure investors about the core business and that it can effectively manage any fallout from the probe.

However, this does mean the market may be overlooking the risk, which could amplify any negative surprise. The 100p price point is also a notable psychological barrier that could prove increasingly elusive as it closes in.

That said, Lloyds benefits from exceptionally strong sentiment. Plus, it’s popular as both a defensive share and a dividend stock. This lends it a wide and faithful customer base.

What’s more, it’s got the results to back that belief.

Financials

In its latest half-year results, the group reported a profit before tax of approximately £3.5bn, up around 5% from £3.32bn a year earlier.

Meanwhile, underlying net income rose by 6% to about £8.9bn and net interest income grew 5%. A 2% increase in customer deposits added a further £11.2bn to its £493.9bn total.

The board declared an interim ordinary dividend of 1.22p, up 15% year on year. Dividends have been growing at an annual compound growth rate (CAGR) of 8.3% for the past decade.

HSBC, by comparison, has a slightly higher yield but isn’t as well-covered. NatWest, on the other hand, has both a higher yield and better coverage.

However, I’d argue that neither exhibit the same defensive qualities as Lloyds.

So what could happen next?

Given the positive sentiment boosted by ongoing share buybacks, there’s a strong case to argue that the price could keep climbing.

The average 12-month price target from 18 analysts following the stock is 98.16p. Some of the most optimistic among them think it’ll hit 110p.

Still, there are several reasons that it may struggle to break 100p. The motor-finance mis-selling probe is, of course, the big elephant in the room. But the impact of this may already be priced in.

Beyond that, it’s already up almost 63% this year, so further growth could be limited. And despite boasting the second-highest enterprise value (EV), it has the lowest revenue out of all other major UK banks.

The bottom line

While Lloyds’ growth rates look modest, the resilience of the business is impressive given the broader UK banking environment.

Dividends are well-covered and reliable and financials are surprisingly good. So, from an income and defensive point of view, it remains a solid option to consider for a UK portfolio.

However, growth-wise, I expect things will slow down as it edges closer to the 100p level.

The post Lloyds continues share buybacks despite a 36% profit plunge. Risk or opportunity? appeared first on The Motley Fool UK.

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HSBC Holdings is an advertising partner of Motley Fool Money. Mark Hartley has positions in HSBC Holdings and Lloyds Banking Group Plc. The Motley Fool UK has recommended HSBC Holdings and Lloyds Banking Group Plc. 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.

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