A 9.5% yield but down 14%! Time for me to buy more of this dazzling FTSE 100 gem?

This FTSE 100 investment management firm pays one of the highest yields in the index, has strong growth prospects, and looks very undervalued to me.

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Shares in FTSE 100 investment manager M&G (LSE: MNG) have dropped around 14% from their 21 March £2.41 traded high.

There are two key reasons for this, in my view.

First, the UK’s financial sector continues to be marked down following the 2016 Brexit decision. The argument ran that the country would lose its position as Europe’s number one financial centre as a result. This has not happened.

Second, investors dislike uncertainty, and this is what they saw ahead of the 2024 General Election. The new government has a clear majority, which should remove much of this skittishness.

Are the shares cheap right now?

One key measurement I use to ascertain whether a share is undervalued is the price-to-book (P/B) ratio. 

M&G is currently trading at a P/B of just 1.2. This compares to the average P/B of its peer group of 3.9, so it looks very cheap on this basis.

How cheap though? A discounted cash flow analysis shows the shares to be around 47% undervalued against its competitors.  

Therefore, with the shares currently at £2.08, a fair value for them would be about £3.92.

They could go lower or higher than that, but this gives me a good idea of how undervalued they appear.

How are its growth prospects?

A share’s price and dividend rely on sustained rises in earnings and profits. In M&G’s case, these look very good to me.

2023 saw a 28% rise in adjusted operating profit from 2022 to £797m.

Operating capital increased by 21%, to £996m. This means that together with 2022’s figure, the firm generated £1.8bn of this funding. It now looks very well-positioned to achieve its £2.5bn target by the end of this year.

This huge war chest can be used to finance further growth and to support increasing dividends.

A risk in the shares is a relatively high debt-to-equity ratio of around 1.9. It contrasts with the 1.5 top end of the range considered good for many companies, depending on the industry. Although several investment firms use debt to finance growth, I would like to see this come down. 

That said, analysts’ expectations are that M&G’s earnings will grow at 18.6% a year to the end of 2026. Earnings per share are expected to increase by 18.2% a year to that point.

Huge dividend payer

M&G shares pay one of the highest dividends available in any FTSE index – currently 9.5%.

If I invested £10,000 now in them – and reinvested the dividends back into the stock (‘dividend compounding’) I would have a £25,761 total after 10 years. This would pay me £204 a month in dividends.

After 30 years on the same average yield, my M&G investment would be worth £170,949. This would give me £16,240 a year of income or £1,353 every month!

The share’s huge dividend income potential, extreme undervaluation, and underlying growth prospects are too good for me to miss, so I will be buying more very soon.

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 assessed. Consider taking independent financial advice.

Simon Watkins has positions in M&g Plc. The Motley Fool UK has recommended M&g Plc. 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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