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Should I Buy Lloyds Banking for My ISA?

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LONDON -- You only have a few weeks to use your tax-efficient ISA allowance before the April 5 deadline. ISAs are issued on a use 'em or lose 'em basis, so don't fluff it. You can save up to 11,280 pounds in the current tax year, and put the lot of it into stocks and shares. To find out more, click here. But which stocks should you buy? How about Lloyds Banking Group  (LSE: LLOY  )   (NYSE: LYG  ) ?

Failures or safe?
Loathe them or loathe them, the major U.K. high street banks are too big to fail. The taxpayer knows this, to their cost. Politicians know it, and feel helpless. The Bank of England knows it, and sets monetary policy accordingly. Does this make Lloyds a failsafe investment for your ISA?

Up, up, up
The big banks have enjoyed a share-price resurgence over the past twelve months.

Royal Bank of Scotland is up 18%, Barclays is up 32%, but Lloyds has trumped them both with a 48% rise. That compares to a return of around 7% from the FTSE 100.

The banks have been the major beneficiaries of the central-banker policy of flushing markets with loose money and liquidity. Lloyds did particularly well out of the Bank of England's Funding for Lending Scheme, picking up 22 billion pounds to fund cheap loans, compared to just 9 billion pounds for Barclays.

Lloyds has also been working hard to mend its broken business and simplify its sprawling operations, off-loading everything from private-equity assets to Irish property loans, and selling 632 branches to the Co-operative Bank. Lloyds has also pulled out of ten territories, and is now focused mostly on the U.K.

Cutting its losses
Lloyds' full-year results for 2012 showed a dramatic slowdown in the rate at which it is losing money.

Losses fell to 570 million pounds, down from a massive 3.5 billion pounds in 2011. The 2012 figure included 1.9 billion pounds set aside for mis-selling payment protection insurance (PPI) and interest rate swaps. Excluding mis-selling claims, the bank's underlying group profit actually rose to 2.6 billion pounds, up from 638 million pounds in 2011.

Compare that to the 5.2 billion pounds pre-tax loss posted by RBS, and Lloyds starts to look positively healthy.

Lloyds also plumped up its financial cushion, or core tier 1 ratio, by another 12%, and cut group costs by 5% to 10 billion pounds, two years ahead of schedule. Management now plans another 9.8 billion pounds of cost cutting in 2013.

And the bank continues to raise money by off-loading assets, scooping 520 million pounds from institutional investors by selling a 20% stake in financial advisor St James's Place. Lloyds still has a 37% holding, but won't sell any more shares for at least a year. Every little helps.

One scandal after another
If you're considering Lloyds for your ISA, you also have to be aware of every scrap of potential downside.

We're all victims of the banks, but the banks are their own worst enemies. The PPI mis-selling scandal has so far cost Lloyds a whopping 6.7 billion pounds, while bills for mis-selling interest rate-hedging products to small and medium-sized businesses have also been rolling in. Investors never know when the next mis-selling scandal will hit the headlines.

Lloyds is also 40%-owned by the state, which hasn't yet decided how to off-load its stake, casting shadows over the share price. If you like investing for dividends, you will hate this stock, because, like RBS, it doesn't pay one.

At least Barclays yields 2.1%, covered more than five times, giving it scope for growth. You might also be worried by Lloyds' strategy of focusing on the U.K. market, given the dismal state of the UK these days.

No angels, with dirty faces
Nobody said Lloyds, Barclays and RBS were angels. If they were, they would cost a lot more.

Right now, you can buy Lloyds for 50 pence a share. But what do you get for your money? No trust, no dividend, and a lousy operating margin of -1.5%. All that is true. You're also exposed to any further eurozone tremors.

Earnings per share growth is negligible for this year, but is forecast to rise to a meaty 24% in 2014. This isn't a dull, safe stock. You can expect further volatility.

But management is cautiously optimistic, and has been steadily ditching riskier operations and shoring up the balance sheet. One day, the dividend will return. 

Lloyds is too big to fail. Be brave, be patient, hold your nose, and it should prove a profitable stock pick for this year's ISA.

That said, if Lloyds looks too risky, you may prefer to use your ISA allowance to invest in the "Motley Fool's Top Growth Share for 2013."

After extensive research, our analysts have hailed this company the single best growth stock in the U.K. To find out what it is, simply download our free report. It won't cost you a penny, so click here now.

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