UK Banks Forced to Do the Right Thing

The Week: Order to stop banks paying dividends was painful for investors but the correct decision, says Morningstar columnist Rodney Hobson

Rodney Hobson 3 April, 2020 | 9:27AM
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Actions speak louder than words, as shareholders in banking stocks discovered this week when the intervention of the Bank of England counted for much more than the pious but pointless words of a government minister.

Apart from selling most of our gold reserves, Gordon Brown’s big mistake was curtailing the control that the Bank of England had over the UK’s banking sector with predictably catastrophic results.

Now the BoE has got some regulatory powers back it was able to put a stop to the payment of dividends on bank shares. It should, admittedly, have sprung into action before bonuses were paid to senior staff but better late than never. Banks clearly are not willing to curb their excesses unless they are forced to.

The “suggestion” that they suspend dividends wasn’t just words. It was effectively an order. That’s tough on investors including me – I hold two banking shares – and especially those who rely on dividends but it was the right decision for the longer term.

Contrast that with the pitiful sight of a Business Secretary Alok Sharma calling on banks to support businesses and the public in their hour of need as a way of repaying the taxpayer for the 2008 bailouts. Apart for the fact that only two banks, Lloyds (LLOY) and Royal Bank of Scotland (RBS), were actually bailed out, there’s a fat chance of bankers acting for the general good unless they have to. In any case this moral blackmail doesn’t apply to Barclays (BARC), saved instead by a controversial deal with Qatar investors, HSBC (HSBA), which was on sounder footing as a mainly Asian bank, nor Standard Chartered (STAN), with its headquarters here but most of its business elsewhere.

According to Sharma, “it would be completely unacceptable if any banks were unfairly refusing funds to good businesses in financial difficulty”. That’s what banks do. The unfair behaviour of banks is how they make their profits and why they are worth investing in. They have to be forced to do the decent thing.

Stress Tested

In fact, banks could actually have afforded to pay their dividends, which would have cost best part of £8 billion, as they are in far better financial shape than they were in 2008 – again only because regulators have forced them to shore up their reserves. The whole idea was that they should undergo “stress tests” that showed whether they could stand up to the next crisis, and here it is.

The key measure is the tier one capital ratio, which measures the amount of cash they can readily lay their hands on as a percentage of liabilities. All major UK banks are now well into double figures, at levels more than twice as high as those prevailing 13 years ago.

Commentators argue that banks suffer when interest rates are low because this squeezes the margin between borrowing and lending rates. My scepticism over whether this is true was reinforced by reports that the reduction in base rate to its lowest ever was followed by increases in interest rates on credit cards and overdrafts.

A greater worry is the inevitable rise in the level of bad debts among bank customers. That could prove painful but the banks are in good shape to take it on the chin.

Banks are currently trading at a substantial discount to their net asset values. An awful lot of bad news has already been written into the share prices – including the suspension of dividends that may well be paid once the pressure is off. This is one sector that always bounces back.

Welcome Relief

For the first time since I started writing this column in 2008, I am delighted to be taking a week’s enforced break as it is difficult to offer sensible investment advice in the current circumstances. As usual, there will be no column on Good Friday.

 

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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About Author

Rodney Hobson

Rodney Hobson  is a columnist for Morningstar.co.uk and author of several investing books, including The Dividend Investor and How to Build a Share Portfolio.