- OSB and Secure Trust Bank both raise full-year dividends and OSB launches a new share buyback scheme
- Challenges still lie in wait for the challenger banks, as the UK economy remains soft, and vehicle finance market difficult for STB after regulatory review
- Challengers continue to trade at big discounts to net asset value, so expectations remain low
“Shares on both OSB and Secure Trust Bank are up following the release of their full-year results, which feature increased cash returns for shareholders but no shortage of potential challenges for these challenger banks,” says AJ Bell investment director Russ Mould.
“STB is still wrestling with the impact of a regulatory review that covered borrowers who were in financial difficulty, OSB with borrowers who refinanced early as interest rates started to fall, and both are facing a soggy UK economy and pressure on net interest margins as the Bank of England base rate declines. The good news is shares in both banks already trade on lowly valuations which go a long way to pricing in these risks.
“The FTSE 100’s Big Five banks are much broader in their target markets, in terms of financial products and geography, while the challengers who reside in the FTSE 250 or below tend to target the areas that the bigger players are keen to avoid. These markets can therefore be terrific opportunities. OSB is a mortgage lender in specialist niches, including residential and commercial properties, and also provides bridging and asset finance, while STB provides real estate business finance for development, investment and build-to-rent and supports the retail and car markets, too.
“Vehicle finance proved difficult for STB in 2024, thanks to the Financial Conduct Authority’s review of Borrowers in Financial Difficulty (BiFD), as the bank paused collections and defaults began to build, with the result that loan book impairments and losses rose. STB’s group pre-tax profit fell by 13% year-on-year as a result, even as the lender worked hard to reduce its cost-to-income ratio to 55.8% from 57.5% and the net interest margin came in unchanged year-on-year at 5.4%. That margin easily outstrips anything achieved on a group-wide basis by the FTSE 100’s Big Five, to reflect the higher risk but higher reward nature of the bank’s loan book and business model.
Source: Company accounts. *All figures for last reported set of full-year results, bar Vanquis Banking (H1 2024-25).
“OSB’s net interest margin is not so high, at 2.21% after a slight decline in 2024 – a trend that forced a profit warning last summer. Management is also working to reduce the bank’s sensitivity to customers refinancing when loans mature, potentially at lower interest rates as the Bank of England cuts the UK base rate, a development which prompted a trading alert in summer 2023. This explains a £1.25 billion securitisation of part of its loan book, now off the group balance sheet, and the overall drop in group loans in 2024. The company is looking for a return to growth in the loan book in both 2025, when net interest margins are also expected to stabilise, and 2026.
“Good cost control also helps to underpin forecasts for further earnings growth at OSB in 2025, after 2024’s improvement, while Secure Trust Bank is also expected to show some earnings recovery after last year’s setback.
Source: Company accounts, Marketscreener, analysts’ consensus forecasts
“Both boards’ willingness to sanction a dividend increase for 2024 does at least speak of their confidence in the outlook, while OSB is also launching its second £100 million share buyback in two years.
“STB is forecast to offer a dividend yield of more than 7% in 2025, according to analysts’ consensus forecasts, and OSB more than that. Add in OSB’s buyback and the challenger bank is expected to provide a total cash yield of one-seventh of its entire stock market capitalisation.
Source: Company accounts, Marketscreener, analysts’ consensus forecasts
“The mathematics of buying back stock below book value is irrefutable and this formula did work for the FTSE 100’s Big Five banks. Their initial forays with buybacks and increased dividends were initially ignored, but their shares have rocketed in the past year or so as investors have latched on to the hefty cash returns. As a result, the Big Five trade much closer to, or above, book value than before and it will be interesting to see if the challengers enjoy a similar rerating, especially if the UK economy gives them a little help in the coming 12 to 24 months.”
Source: Company accounts, Marketscreener, analysts’ consensus forecasts
