Here’s why Lloyds shares look 42% undervalued to me right now
Lloyds‘ (LSE: LLOY) shares are down 10% from their recent (4 February) one-year-traded high. I think this largely reflects profit taking after the run-up in the shares prior to the bankâs strong 2025 results.
However, regardless of the current price, there may still be much more value left in the stock. This is because value reflects business fundamentals, whereas price is just whatever the market will pay at any given time.
In this context, Lloyds is delivering robust profits, tight cost control, and strong credit performance. And its dominant position in retail banking gives it enormous leverage to any improvement in consumer confidence.
So how high could the shares go?
Howâs earnings growth look?
Ultimately, any firmâs share price is driven by growth in earnings (profits). A risk to these for Lloyds remains the intense competition in the UK banking sector that could squeeze its margins. However, analystsâ consensus forecasts are that its earnings will grow by 12% a year to end-2028.
This looks well supported by the bankâs 2025 results, released on 29 January. Profit before tax jumped 12% year on year to £6.7bn, outstripping analystsâ forecasts of £6.4bn. This partly reflected a 7% rise in net income to £18.3bn. This followed strong customerâled lending across mortgages, cards and unsecured borrowing.
As a result, Lloyds lifted its key profitability target — return on tangible equity — to 16%+ in 2026, against just 12% for 2025. It also announced a £1.75bn share buyback, which is generally supportive of share price gains.
What are the shares really worth?
In my experience as a former senior investment bank trader, the best valuation is discounted cash flow (DCF) analysis. This identifies where any companyâs share price should be priced, based on forecast cash flows for the underlying business. These also reflect the consensus long-term earnings growth forecasts of analysts for the firm.
In doing so, it produces a clean, standalone valuation that is unaffected by over- or undervaluations across a business sector.
Some analystsâ DCF modelling for Lloyds is more conservative than mine, and others are more bullish. However, my modelling — including an 8.4% discount rate — shows the shares are 42% undervalued at their current £1.03 price. Therefore, their âfair valueâ is £1.78.
This gap between the stockâs price and value is crucial for long-term investor profits. This is because a shareâs price tends to converge to its fair value over time. So for Lloyds, this big gap suggests a potentially terrific buying opportunity to consider if those DCF assumptions hold.
My investment view
I already have two stocks in the banking sector — HSBC and NatWest, so buying another would unsettle the risk/reward balance of my portfolio.
However, I think Lloydsâ strong earnings growth prospects will power its share price toward its fair value over time. I — and other analysts — also believe it will lift its dividend yield too. Over the medium term, the forecasts are for this to rise from the present 3.5% to 5.1% by the end of 2028.
Overall then, I think the stock is well worth the attention of other investors. In the meantime, I have my eye on other higher-yield stocks that are also deeply underpriced to their fair value.
The post Hereâs why Lloyds shares look 42% undervalued to me right now appeared first on The Motley Fool UK.
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HSBC Holdings is an advertising partner of Motley Fool Money. Simon Watkins has positions in HSBC Holdings and NatWest Group Plc. The Motley Fool UK has recommended HSBC Holdings and Lloyds Banking Group Plc. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
