Smart Investor: why I'm ignoring the appeal of Standard Chartered

Standard Chartered bank may well be the well-behaved pup from a troublesome litter but uncertainty over the banking sector means I am avoiding its shares.

The Standard Chartered success story

The recent rights issue by FTSE 100 listed bank Standard Chartered may bring back memories of 2008 and 2009, when rights issues were the must-have accessory for banks. Back then the banking world was crumbling: HBOS and RBS were essentially bust and other major players were forced to enter asset protection arrangements and debt guarantee schemes.

However, to its credit Standard Chartered managed to steer clear of government aid and protection/debt guarantee schemes. Furthermore, its profits increased during the credit crunch and have continued to grow since. Its share price has done equally well, reaching an all-time high of £18.87 in the last month. A good time for the board to ask shareholders for more cash in the form of a rights issue, some may argue.

So, what view should the smart investor take on Standard Chartered after the £3.2 billion cash call? Is this bank worth buying?

At the mercy of regulators

The first thing to consider about Standard Chartered is its sector; banking. This is a sector which is currently at the mercy of regulators, with the Financial Services Authority and its equivalents across the world attempting to impose rules and regulations to prevent another credit crunch. It is difficult for banks to operate in the current climate, whether they are to blame for this or not, because the rules of the game are changing and it is unclear what the industry will look like in three years' time. This makes investing in any bank a highly dubious proposition from the outset for any smart investor.

Big profits from Asia

In terms of profitability Standard Chartered scores an A+. Not only has it increased net profit year on year for the last five years, it has done so during one of the worst periods in its sector’s history. Net profit has increased steadily from £1,271 million in 2005 to £2,243 million in 2009 (assuming an exchange rate of £1 = $1.55). What is even more impressive is the fact this has been achieved under a new chief executive, with Peter Sands (pictured) taking the helm in late 2006.

In addition Standard Chartered focuses its business on the East rather than West. Therefore it could be argued that it is better placed to deliver profits growth than, for example, Barclays or Lloyds, which are more reliant on the UK market.

In terms of capital ratios Standard Chartered is relatively well placed at 11% post rights issue. Although this may be adequate for now, regulators could easily have a change of heart and increase requirements from the expected 7% to a higher figure in years to come. This is undoubtedly the reason for a second rights issue (the first one came in November 2008), especially since new rules on the risk weighting of loans could reduce this capital ratio by 1% in future.

But not good value

However, all this talk of profits growth, target markets, capital ratios and uncertainty fails to mention the key reason why smart investors should avoid Standard Chartered: price vs value. In other words Standard Chartered is not particularly good value.

Standard Chartered’s net asset value per share is around £9.33 (note, all figures vary depending on the exchange rate) which means that at the current price of £18 per share, £8.67 is goodwill. Earnings per share last year were around £1.03 and thus the current price includes over eight years of record-breaking net profit as goodwill, assuming of course that profits now flat line.

Whilst stagnant profits are unlikely, smart investors should remember that no company has experienced exponential growth and that Standard Chartered has increased profit by 76% over the last five years. At a time when regulators are themselves caught in the headlights, they may introduce measures that severely impact the profitability of banks in the medium to long run.

Uncertainty puts me off

Standard Chartered has many merits and has performed incredibly well during an exceptionally difficult period. It has managed to grow profits when others around it were falling apart and has focused its business in areas which may have vast potential for profits in the long run.

However its future remains uncertain; regulators are implementing new rules that may harm future profitability and growth. Standard Chartered may be the well-behaved pup from a troublesome litter, but it should not yet command the price of a pedigree. Smart investors should avoid at the current price.