Never believe the news headlines, especially when they have been created by political spin. This week’s headlines were about Nick Clegg and the Lib Dems pushing to give every UK voter £1,000-worth of shares which the government already owns in Lloyds and RBS. However there is a catch and the reality is that you will not be able to parlay these “free shares” into anything like £1,000 in your bank account.

What is actually being proposed is to create a special share account for every one of the 45 million voters on the UK electoral roll (thus ensuring that no Johnny Foreigner/Polish Plumber living in the UK ends up with any of “our shares”). Each account then gets credited with a maximum of 615 Lloyds Banking Group and 880 RBS shares (assuming all of the UK government’s 27.7 bln Lloyds shares and 39.6 bln RBS shares are distributed equally amongst 45 mln UK voters). Given that Lloyds and RBS shares closed at 45 pence and 37 pence respectively last night, simple arithmetic implies that these shares are currently worth approx. £602 – not quite the £1,000 as claimed by the Lib Dem spin doctors…

But it is not even that good. Because the UK government paid for these shares with borrowed money and the UK is currently in a bit of a debt pickle, the government wants to get its money back before allowing those 45 mln voters to actually sell their shares. Hence the not-to-be-forgotten condition that the “free shares” may only be sold for a profit (and the voter gets to keep that profit). The bad news is that the government’s break-even price is 74p for Lloyds and 51p for RBS. Since the government injected £66 bln into Lloyds and RBS, the highest price the shares have traded at is 79p and 58p respectively. If both shares rallied back up to those prices, then the profit actually due to each lucky voter would be a whopping £93. Don’t go spending it all at once…

Those readers with a calculator will have worked out that 27.7 bln Lloyds shares at 74p plus 39.6 bln RBS shares at 51p only add up to £40.5 bln. Given that the government injected £66 bln into Lloyds and RBS, then where has the other £25.5 bln gone? The answer is the government also bought 51 billion B shares in RBS, at a cost of 50 pence each. The government cannot distribute these to voters because RBS has the right to buy them back out of post-tax profits if the government hasn’t already converted its B shares into RBS ordinary shares. The RBS share price would need to be well above 50p before this conversion event takes place.

One positive aspect of this “free share” distribution proposal is that it would remove the glass ceiling which currently prevents Lloyds and RBS shares from rallying much above 74p and 51p respectively.  However an even bigger negative aspect is that should the Bank of England decide Lloyds and RBS need to raise additional capital to boost their Core Tier 1 Capital ratios further above 10% then they would be unable to launch rights issues with so many shares held by the public (who would be most unlikely to buy extra shares in a rights issue).

Essentially all those headlines about £1,000-worth of free banking shares in Lloyds and RBS were written by lazy journalists just simply recycling the story they had been fed by the Liberal Democrat press department. If you think that the UK banks will recover over the next few years then you might as well go out and buy shares in LLOY and RBS today (at 45p and 37p respectively). Then by the time they rise to 74p and 51p you will be sitting on a healthy capital gain and will be free to sell them if you wish.