Virgin Money: reality cheques

Vaccine breakthroughs mean faster economic recovery and, in turn, better profits for lenders. Shares in Virgin Money, the UK’s biggest small bank, have jumped 40 per cent since. Straight-talking chief executive David Duffy gave investors a dose of reality at results on Wednesday: benefits will take time to materialise and Brexit disruption is looming.

A cautious outlook from the UK’s sixth-largest lender was accompanied by hefty provisions and lower earnings. Profits before tax of £124m for the year to September were £20m less than analysts were expecting. That is unlikely to damp investor spirits for long. Virgin Money has benefited from better mortgage pricing, which is likely to continue next year.

A surge in customer deposits is one consequence of lockdowns. Spending opportunities, notably on travel and entertainment, have been scarce for Britons who still have jobs. Cash in low-cost “relationship” accounts at Virgin Money grew by a fifth in the year to September to £25.7bn. Shrewd use of the Virgin brand is supporting the process. Free bottles of Virgin wine incentivise current-account switching. 

Lower reliance on expensive wholesale funding is one way the bank hopes to get closer to targeted double-digit returns on tangible equity. Cost-cutting and tweaks to risk weights are the other two. Consensus forecasts suggest Virgin Money could hit that target as early as 2023.

Lower funding costs should support net interest margins — the difference between what Virgin earns on loans and pays on deposits — next year. These fell 10 basis points to 1.56 per cent in the year to September, as a result of crisis-induced rate cuts by the Bank of England. 

Margin gains would help get the bank closer to returning capital to shareholders, once regulators give the go-ahead for all banks to resume payouts. Analysts are forecasting a token dividend next year. Shares trading at 0.6 times book value — a premium to the UK market — hint that the market thinks Virgin Money can surpass that.

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