RBS on a solid footing for profit wipe out

RBS on a solid footing for profit wipe out

A reassuring start to a year that holds RBS's last legacy challenge on the road to rehabilitation.

Less radical, more effective

Outperformance of the market’s profit expectations further demonstrates that RBS’s less radical, less disruptive strategy - mostly in terms of scale of the branch network and brands - is fit for purpose. True, Britain's economy currently offers favourable conditions for lenders of RBS's size, as highlighted by Lloyds Banking Group’s quarterly results this week. But a 50-basis point improvement in RBS’s key capital ratio (CET1) would not necessarily follow automatically from rising rates, low unemployment and reasonable growth. Creditable cost control played a part, even if the £300m fall in restructuring charges in Q1 will almost certainly turn out to be exceptional, meaning that expectations of capital expansion from rationalisation for the rest of the year should be modest.

Partial or total

Still, the rise in excess capital from leeway that already stood at £6bn at the end of 2017 bolsters the bank's health further ahead of a penalty from the U.S. Dept. of Justice that at worst could amount to $10bn. Provisions allocated to the matter were $4.4bn at the end of last year. Probabilities for the hit in the mortgage backed securities case range from partial to total wipe out of profits and some capital progress for the year. The settlement will push ahead the horizon for dividend resumption by an extent proportional to the fine. RBS's Q1 performance suggests that when the mallet falls, the bank will be on the best possible footing to absorb the penalty, after it which steps towards almost complete rehabilitation need not be protracted.

Nerves and high stakes

CEO Ross McEwan will probably be forgiven for expressing frustration over this high-stakes scenario. Indeed, there does not appear to be much more he could add to the reckoning around the DoJ case, though he might have said so differently. For shareholders, those stakes are raised as RBS shares inch towards book value; having hung around 80% for months. The valuation implies the bank is close to perfect execution, regardless of well-known internal and external risks. Sharp management comments remind shareholders just how implausible perfect execution is, providing another reason to lighten up despite last year’s solid performance extending for another quarter.

Thoughts of RBS’s price chart

As per shares of almost all the large London-listed banks, we suspect the prevailing direction for RBS right now is lower. It is primarily the sustained damage to the July 2016-February 2018 uptrend that should worry buyers. Recent loss of tone above the 200-day moving average (200-DMA) is another negative point, particularly as the 200-DMA tracked the trend almost point-for-point for many months, further validating the rise of the stock at that time. With price and 200-DMA mere pennies away from each other at the time of writing, it will be crucial to observe how the former closes on Friday and behaves in coming sessions. Below that long-term threshold, former short-term resistances at 264.7p and 252.6p the stock’s early March-early April consolidation, may now act as support. Neither of these figures look compelling, though technically, they would be assumed to have a higher probability of providing support than kick-back lows that formed the broken rising trend. In fact, visually, the lower point on this chart that draws the eye the most is the price at which RBS stock rebounded in July 2016, and which commenced the most recent uptrend. Perhaps we should assume that a fall to there from here over the medium term is too drastic a scenario to be probable. If so, a price no lower than 221p (an active pivot between late December 2016 and April 2017) might be the worst that could be seen in 2018. In any case, given recent trading, the downside appears more magnetic for the time being.