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Should I buy Lloyds shares now as a future potential dividend star?

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Lloyds Banking Group (LSE:LLOY) shares are frequently among the most traded stocks within the FTSE 100 index. Over the past couple of years, the focus has been on potential share price growth instead of dividend potential. The last dividend was paid out back in September 2019. Since then, the impact of the pandemic has meant that the bank has cut the dividend. Times are changing, so could now be the right time for me to buy Lloyds shares for future dividend income?

The 2020 dividend cut

The decision to cut dividends last year wasn’t solely down to Lloyds. As the pandemic started to grow, the PRA regulator contacted all major banks. It advised them to cut dividends in order to maintain a strong cash position. Given the relationship between the regulators and banks these days, any ‘advised’ action is taken as an instruction by a bank.

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Even without the PRA call, I think Lloyds would have decided to cut the dividend anyway. Last summer, the bank was reporting the need to set aside £4.5bn-£5.5bn for bad loan provisions. Although the year-end figure was reduced to £4.2bn, during 2020 that end figure was still unknown. So the safe thing to do was to cut the dividend in case the provisions figure was at the top end of the estimate. 

Even if the bank had kept the dividend, I still don’t think it would have stopped the slide in Lloyds shares. Technically, the share price is up 39% over the past year. However, this doesn’t include the market crash from March. Over two years the share price is down almost 37%, which I feel is a more accurate representation of its performance during this period.

My outlook for Lloyds shares

Looking forward, things do look brighter for income investors buying Lloyds shares. In February, the bank announced a resumption of dividend payments, due to be paid at the end of May. The amount was 0.57p per share. 

Using a current share price around 42p, this provides a dividend yield of 1.35%. The FTSE 100 average yield is 3.06%, so it currently isn’t a dividend star by any means. But this is just the start, a tentative toe in the water from the management team. 

Back in 2019, buying Lloyds shares would have given me a dividend yield above 5% for most of the year. So it’s clear that although past performance is no guarantee of future returns, the dividend yield for Lloyds should return over time to a higher level.

One risk to buying Lloyds shares is the continued low-interest-rate environment we find ourselves in. This ultimately will make it hard for a retail-focused bank to make money in the traditional way, given the fact that the rate is so low. 

Yet overall, I do think Lloyds shares are a good buy for myself for future dividend income. With the share price low based on historic levels, buying now could help me to increase my yield down the line. For example, if I buy at 42p and next year the dividend gets raised to 1.14p, my yield has doubled to 2.7%.

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jonathansmith1 has no position in any of the shares mentioned. The Motley Fool UK has recommended Lloyds Banking Group. 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.

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