When it comes to dividend yields, M&G (LSE:MNG) currently has the third-largest payout among Britain’s biggest businesses.
Buying shares today instantly unlocks a 7.9% income stream. And if analyst forecasts are correct, this yield could grow to 8.1% by 2026 and then 8.4% by 2027!
Needless to say, the stock looks like a lucrative passive income opportunity right now. So for investors seeking chunky and reliable dividends, should M&G be on their radar in 2025? Let’s investigate.
Analysing dividends
As an asset management and life insurance enterprise, M&G’s had an interesting couple of years. The rapid ramp-up of interest rates created a powerful tailwind for its insurance business, particularly within the annuities and pension risk transfer markets.
While interest rates are now dropping again, that’s helping boost valuations within the financial markets, giving its asset management arm a welcome boost. In fact, it recently achieved record net inflows from clients, creating a countercyclical offsetting force for its insurance segment.
The result is an impressive level of free cash flow generation. But is that enough to cover the dividend?
This is where questions start to arise. In its latest interim results, management hiked interim dividends slightly to 6.7p, putting the stock on track for six years of consecutive growth. This translates into a total of £321m. However, looking at underlying earnings, pre-tax operating profits only landed at £378m over the same period.
That’s an underlying payout ratio of 85%. And when taxes are taken into account, dividend coverage gets even tighter. In other words, the high yield today is affordable, but that could quickly change if a spanner’s suddenly thrown into the works.
Is it worth the risk?
Looking at the latest projections and recommendations from institutional analysts, most seem to be cautiously optimistic. The team at Berenberg Bank is among the most bullish, with a share price target of 342p, suggesting that on top of the 7.9% yield, there’s a 34.3% potential capital gain awaiting to be unlocked.
Digging deeper, this optimism’s seemingly being driven by improved operational performance indicators like net inflows. At the same time, management’s £500m share buyback programme is also signalling its confidence for what’s on the horizon.
Nevertheless, Berenberg’s still identified key risks for investors to watch closely moving forward. The most prominent appears to be concerns surrounding the rising level of volatility within the financial markets.
This can adversely impact its asset management division, especially if clients get spooked and start withdrawing their money. And as previously mentioned, with dividend coverage already tight, a sudden outpouring of cash flow could make a dividend cut inevitable.
For me, the risk surrounding this dividend stock and its yield is pretty substantial. The diversification across the countercyclical financial sector definitely helps M&G stand out among its peers and builds in some natural resilience.
But with other high-yield, lower-risk income opportunities to explore right now, I’m not rushing to buy the shares even with a 7.9% payout on offer.
