Lloyds' slow revenue growth and continued misconduct expenses in the third quarter were disappointing, but the bank's good underlying performance supports our long-term view and narrow moat rating. We plan to maintain our 98p fair value estimate.
Lloyds' long-term prospects remain bright
The biggest disappointment in Lloyds' (LLOY) results was on the revenue side. Revenue was down 4% for the three months ended September compared with the year-ago quarter.
Net interest income was up slightly as a 17-basis-point increase in net interest margin, to 2.64%, more than offset a 5% drop in interest-earning assets. Noninterest income was down 13% compared with the year-ago quarter, primarily caused by difficult trading conditions in commercial banking and lower income from runoff assets.
The downturn is likely to reverse in the fourth quarter, in our opinion, but will be large enough to damp full-year results. We were also disappointed to see yet another charge related to the mis-selling of payment protection insurance. This time, the charge was £500 million (£1,900 million year to date), and we've pencilled in another £1,000 million of provisions in 2016. We think the likely deadline for filing PPI claims will mean that claims will fall off more slowly than expected over the next year.
Still, there was much to like in Lloyds' results. Underlying return on required equity was 15.4% in the third quarter, and credit costs were a mere 15 basis points of loans. Lloyds' common equity Tier 1 ratio rose to 13.7% from 13.3% at midyear, well ahead of the bank's 13% target. The government's stake has been reduced to 11%. While we think results are likely to remain lumpy as Lloyds deals with its remaining legacy issues, the group's long-term prospects remain bright.