One of the reasons I buy shares in large FTSE 100 companies is for the passive income prospects of their dividend streams. At the moment, the well-known bank Lloyds (LSE: LLOY) offers a dividend yield of 4.7%. So ought I to add it to my portfolio?
Strong price performance pushed the yield down
Currently, the yield is attractive to me. It is well ahead of the FTSE 100 average, which stands at around 3.3% right now.
Lloyds has also been growing its dividend strongly over the past several years. Last year’s annual growth of 15% followed a 20% increase the prior year. So far this year, the interim payout per share has been raised by 14%.
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But the yield, though decent, is actually lower than it was a few months ago. This reflects the fact that the Lloyds share price has grown by 50% over the past year.
No dividend is ever guaranteed
So if I had bought the shares a year ago, I would have benefitted from strong price growth as well as a very attractive dividend yield.
No dividend is ever guaranteed though – and a look at Lloyds’ history illustrates this point very clearly. The payout per share remains nowhere near what it was before the last financial crisis, over 15 years later. On top of that, even after the interim dividend increase this year, the projected full-year payout remains lower even than it was in 2019, before the pandemic.
During that period, the Black Horse bank has generated enough spare cash to spend billions of pounds buying back shares. So it had the money to declare a higher dividend but decided not to do so. It seems to me the dividend is not at the top of the priority list for the Lloyds’ board.
Things could get even better, but there are risks
The surging Lloyds share price and solid dividend yield point to the fact that the bank has done well in the past several years. As the nation’s largest mortgage lender with a big customer base, well-known brands, and long experience in its core UK market, Lloyds has a lot going for it.
It has been strongly profitable in recent years. Despite the recent rapid share price growth, the Lloyds share price-to-earnings ratio is a fairly modest 9.
But the history here can be instructive, in my view. It may not predict what will happen, but it is a useful reminder of risks that still exist.
Key among those is any sudden unforeseen economic crisis, especially if it hurts prices or confidence in the housing market. Lloyds is better prepared for such an eventuality than it was in 2007, but I still see it as an important risk. A dividend yield well above the FTSE 100 average suggests to me that some other investors share my concern in this regard for Lloyds and, to some extent, the banking sector more generally.
Until there are clearer grounds for stronger medium-to-long-term confidence in the British economy, I have no plans to add the share to my portfolio. The current yield alone is not enough to tempt me, given the risks.
