SVM makes selective investments in banking sector

Colin McLean, Managing Director, SVM Asset Management, comments: SVM has maintained low exposure to banks since 2007, having identified the risks inherent in a business model that involved unsustainable growth and unstable financing.

Many UK banks appeared significantly undercapitalised, despite meeting regulatory requirements. This became more evident with the rights issues during 2008, which also involved dividend cuts.

On superficial measures, bank shares have looked cheap for some time; dividend yield, price to book value and price/earnings ratios all appeared below historic averages. Nevertheless, we did not believe that these measures correctly reflected the likely deterioration in future earnings and dividend pay-outs, as activity was scaled back and losses emerged.

However, SVM has now invested in HSBC and Lloyds TSB. HSBC is likely to be able to re-capitalise without government support, and it has avoided many of the riskier lending areas. Even so, SVM expects it will raise further equity and reduce its dividend.

Lloyds TSB will have the benefit of government support, but should be able to resume dividend payments after 12 months. However, SVM believes the merger with HBOS could delay pay-outs.

SVM does view the risks in other banks as high, given the overall scale of their balance sheets and potential for writedowns.