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Some of the UK’s largest banks, including Lloyds Bank and NatWest, have demonstrated a strong performance in the first quarter of 2024, reflecting a resilient economic environment. Matt Britzman, equity analyst at Hargreaves Lansdown, provides key insights into the factors driving this success.

According to Britzman, loan defaults have been a significant concern for banks, especially with rising costs and increasing interest rates. However, borrowers have shown impressive resilience over the past year. "Despite the challenges, the number of people failing to pay back their loans has been much lower than expected.

This has resulted in a smaller-than-anticipated hit to profits," says Britzman. The strong first-quarter results indicate that banks are managing to keep default levels low, which bodes well for their financial health.

Britzman also notes that higher interest rates can be beneficial for banks if borrowers manage to keep up with their repayments. With borrowers showing resilience, the possibility that interest rates might remain higher for longer could be advantageous for banks.

"Many of the big banks were expecting multiple interest rate cuts this year, which would impact interest income. However, with inflation proving stickier than expected, it looks like rates won’t be dropping as quickly as anticipated," Britzman explains. This trend might allow banks to raise their income guidance in the coming quarters if it continues.

The economic outlook for the UK is showing signs of improvement, according to Britzman. Management teams have noted an improved outlook during investor calls, with lending volumes expected to increase, the housing market showing signs of resurgence, and wage growth outpacing inflation.

"Domestic-focused names like Lloyds and NatWest, seen as UK economic bellwethers, look best placed to benefit from this trend," Britzman highlights.

Britzman emphasises that banks are currently sitting on strong capital levels, which is crucial for absorbing shocks, growing the loan book, and offering shareholder returns.

"A good run so far in 2024 means yields have come down a touch, but given the strong capital positions, investors can expect some hefty dividends and buybacks over the medium term," Britzman notes. The robust capital levels provide a solid foundation for sustained growth and attractive returns for shareholders.