The likes of HSBC, Lloyds, Barclays and RBS have failed to bounce back from the lows of 2009 and are now facing big regulatory obstacles.
However, some of the UK’s most popular funds have stuck by their exposure to retail banks, and some have even added to their positions.
“Financials have been a large part of the fund since early 2009 through the exposure to retail and commercial banks, real estate and financial services,” said Sanjeev Shah, manager of Fidelity’s flagship Special Situations fund.
“Banks have clearly not been strong performers due to the continued regulatory and economic uncertainty. However, I continue to believe that there is unprecedented value in retail and commercial banking franchises with good market positions such as Lloyds.”
Performance of stocks versus index
Source: FE Analytics
“Competition is a lot more rational and operating fundamentals, capital and funding ratios are moving in the right direction,” he continued.
“Banks are the most underweighted sector for institutional investors and valuations are at multi-decade lows on the basis of pre-provision profits. I have recently been adding to my Lloyds position.”
According to FE data, Lloyds has lost 92.69 per cent over a five year period. At the end of June, Lloyds was Shah’s fifth biggest holding, with a 4.74 weighting in the portfolio.
Chief executive of Lloyds Antonio Horta-Osorio admitted recently that it would take as long as five years for the part-nationalised bank to recover. However, this hasn’t deterred Shah’s long-term position.
The fund also holds HSBC in its top ten. In total, it has 28.3 per cent of its portfolio invested in financials – an overweight position of 6.2 per cent.
Shah took over from industry legend Anthony Bolton as manager of Fidelity Special Situations in January 2008. The fund has lost 5.4 per cent since Shah came to the helm, underperforming its FTSE All Share benchmark by 1.96 per cent.
Performance of fund versus index
Source: FE Analytics
Barclays, RBS and HSBC are among 17 banks that are set to be sued by the US government over the dodgy trading of mortgage-backed securities, and stricter regulations across the industry are expected within the next five years.
The performance of UK banks is heavily dependant on the performance of the global economy. The debt crises in Europe and the US have made the outlook for global markets increasingly unclear, with many experts predicting high levels of volatility for many years to come.
However, like Shah, a number of fund managers think valuations are too good to miss out on.
FE Alpha Manager Ian McVeigh’s £806m Jupiter UK Growth fund holds Lloyds, Barclays, HSBC and RBS in his top ten.
“The draw of the UK banks comes down to long term value,” said Robert Mumby, who heads up Jupiter JGF Global Financials with Phillip Gibbs.
“Valuations are extremely distressed, which means that as soon as there is better news in the markets, we could see a significant upside.”
“Of course there are specific regulatory issues which are affecting UK banks specifically, but on a five to ten year view they are cheap.”
However, manager of Fidelity Enhanced Income Michael Clark thinks it’s too early to take advantage of cheap valuations in the banking sector.
“Banks are taking steps which will ultimately restore the status quo to what it was before the credit bubble, so I certainly expect to be increasing my weighting over time, and eventually they will become a core part of the portfolio,” said Clark.
“However, I currently have just 2 per cent in banks. I think the recovery period will be long. In the case of Lloyds, for example, I doubt it will pay a dividend until 2014.”
“We need to get through a period of elevated write-offs before there is any capital available to hand back to shareholders.”
“My experience from being an analyst during the Swedish banking crisis is that it pays to invest in the best quality bank. In the UK that would be HSBC and I anticipate increasing exposure there over time,” he added.