The Lloyds dividend yield is growing. What now?

A falling share price has boosted the Lloyds dividend yield. This shareholder explains why that hasn’t convinced him to buy more of the bank’s shares.

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It surprises me that massive bank Lloyds (LSE: LLOY) trades as a penny share. But the Lloyds share price is indeed in penny stock territory – and has been getting cheaper. It has lost 9% in the past year and 14% so far in 2022. That, as well as an increase in the annual payout, has been pushing up the Lloyds dividend yield.

But is the recent growth in the Lloyds dividend yield a good reason for me to add to my existing shareholding in the bank?

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Possible problems for the Lloyds share price

On the surface, the Lloyds business looks in rude health. Although post-tax profits in the first quarter fell 14% compared to the same period last year, they still came in at £1.2bn. The company is the country’s leading mortgage lender and the first quarter saw its loan book increase to almost £452bn.

But I see the challenge for the bank as what lies ahead for the economy at large. Given its UK focus and large loan book, Lloyds is sensitive to shifts in the economy. High inflation and weakening economic fundamentals could see more borrowers defaulting. That could hurt Lloyds’ profits.

I think the worsening Lloyds share price reflects those worries. If it keeps falling, it will push the Lloyds dividend yield up even more – as long as the bank does not reduce its payout.

Where next for the Lloyds dividend?

In the short term, I would be surprised by any cut in the dividend. The firm’s dividend policy is progressive, meaning the company seeks to increase it each year. Strong profits should help support that. Indeed, the bank has so much surplus cash right now it is in the throes of a buyback programme spending up to £2bn on its own shares.

But things can change fast in the wider economy and for that matter when it comes to the Lloyds dividend. It was cancelled in 2020 due to pandemic-related regulatory concerns and remains well below its 2019 level. It was also cancelled in the 2008 financial crisis.

I am not expecting the dividend to be cancelled in the short term. But looking ahead to the next few years, I am increasingly concerned that any serious economic decline could hurt the dividend. The current dividend sits below its 2019 level even though the firm has lots of surplus cash, This suggests to me that a high payout is not a key priority for management.

My next move

Despite that, the current Lloyds dividend yield of 4.6% looks attractive to me. Indeed, I continue to hold the shares in my portfolio.

But other FTSE 100 shares in more defensive sectors than banking, such as British American Tobacco, have significantly higher yields. I am concerned that the Lloyds dividend may not keep growing in coming years. I reckon I may be able to get higher yields for my portfolio from businesses that could be less affected than Lloyds by any serious economic downturn. So for now, I will not be buying more of its shares, despite the falling share price.

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Christopher Ruane owns shares in British American Tobacco and Lloyds Banking Group. The Motley Fool UK has recommended British American Tobacco and 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.

Should you invest the value of your investment may rise or fall and your Capital is at Risk. Before investing your individual circumstances should be considered, so you should consider taking independent financial advice.

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