Legal & General (LSE:LGEN) shares offer one of the highest dividend yields within the FTSE 100 index. At present, the prospective yield here is around 7.5%.
Are the shares worth buying for this big dividend yield? Let’s take a look.
Is L&G a dividend trap?
A high yield can sometimes be a trap. Often, it’s because there’s something fundamentally wrong with the company.
And what’s happened is that the ‘smart money’ has offloaded the stock, pushing its share price down and the dividend yield up, temporarily. The company then cuts its dividend, and the yield comes back down. We see this sequence play out all the time.
Looking at Legal & General however, I’m not convinced that there’s anything fundamentally wrong with the company.
Sure, there was some uncertainty a few months ago, during that mini budget crisis. This event led to clients selling higher fee products to meet collateral requests.
However, it said in November that this will only impact 2022 profits by around £10m. It also said expectations for its overall full-year profit and capital generation remained unchanged.
Looking ahead, the FTSE 100 company looks well-placed for growth. Legal & General is a major player in the bulk annuity space (this is an insurance policy purchased by a defined benefit pension scheme to offload risk) and 2023 is expected to be one of the biggest years on record for this type of insurance.
Meanwhile, in the long run, the company – which has built up a formidable investment management business in recent years – should benefit as global equity markets rise over time.
So, overall, there’s a lot to be optimistic about here.
Dividend track record
Zooming in on the dividend, this is expected to be well-covered by earnings in the near term.
For 2022, analysts expect Legal & General to pay out 19.4p per share from earnings per share (EPS) of 34.2p. That equates to dividend coverage of around 1.8 times.
And for 2023, analysts expect a payout of 20.5p per share on EPS of 34.5p. That gives dividend coverage of around 1.7 times. Generally speaking, a dividend coverage ratio close to two indicates a low chance of a dividend cut.
It’s worth noting here that Legal & General has put together a great dividend growth track record recently. The company hasn’t cut its dividend since the Global Financial Crisis of 2008/2009. And over the last decade, it has increased its payout significantly.
This gives me confidence that the dividend is secure in the medium term (although there’s no guarantee it is).
Attractive valuation
As for the valuation, the shares appear to offer some value right now. Given that analysts forecast EPS of 34.5p for 2023, the forward-looking price-to-earnings (P/E) ratio is less than eight. That’s an undemanding multiple.
This combination of a low valuation and a high yield looks quite compelling, to my mind.
Of course, there are risks to consider. One is share price volatility. Legal & General shares have a ‘beta’ of around 1.7. This means that they are around 1.7 times as volatile as the broader UK market. In other words, if the UK market was to fall 10%, its shares would most likely fall around 17%.
Overall though, I believe the shares currently offer an attractive risk/reward proposition.
