Jefferies upgrades NatWest to 'buy' but prefers Lloyds

In a research note on UK-listed domestic banks on Tuesday, Jefferies turned more positive on NatWest, reiterated 'buy' calls on Lloyds, Barclays and OSB, but downgraded Paragon Banking from 'buy' to 'hold'.

"Domestic bank structural hedges still receive 1.7% on the fixed leg versus a pay floating leg of 5%. It depresses sector profit by £11bn and ROTE by 15pp, with the MTM on associated swaps compressing TNAV by 9%. Much of this will unwind by mid-2027 providing a multi-faceted boost to financial statements," the broker said.

Jefferies said that, with tangible net asset value (TNAV) across the sector growing by 10% per annum in spite of a 6% dividend yield, UK banks should deliver a 15% per annum total shareholder return through to 2027, even without a price-to-NAV re-rating.

"That should also come if it keeps distributing every three months what it paid in the decade to 2020. Thanks to the hedge, it likely will. Indeed, the domestics offer unique exposure to swaps that are bigger, lower yielding and more heavily marked than the rest of Europe."

As for its preferred pick Lloyds, Jefferies said "2025 could be its year". The broker estimates that the mis-selling of car finance redress will be capped at £1bn, while TNAV will "accelerate hard given the largest CFH reserve unwind in the sector". Moreover, "the hedge should ignite in 2026", the broker added.