Lloyds (LSE: LLOY) shares currently pay a dividend yield of 3.7%. That kind of yearly payout is nothing to sneeze at, of course. But it’s hardly the kind of return on investment that will get pulses racing. It’s below what I could get from a Cash ISA at the moment, for one – and that return is guaranteed, too.
Here’s the thing. Focusing on a single year is not how you should approach investing in the stock of a company. What we want to do instead is look at the longer term and the effects of dividend growth and share price appreciation that could push that yield into the 10% range or even higher. Let’s take a look at how, using an example stake of £5,000.
How much in dividends?
Five years ago, the dividend yield offered by Lloyds shares was 4.69%. On the surface, it sounds pretty similar to today’s yield, doesn’t it? Except there’s a key difference.
Lloyds has enjoyed a terrific few years. Earnings have grown, and so has the share price and the dividend offered. An investor picking up a 45p share in 2021 would be looking at a forecast dividend today of 3.65p – that’s a yield of 8.03%. Not bad, but we can go one better.
Let’s reinvest the dividends collected along the way. To simplify the calculation, I will assume the reinvestment from each year’s dividends happens in May. Putting it together, the dividend yield would now be 10.93% on the original stake.
That means the £5,000 stake invested then would be looking at a dividend return over the next 12 months of £547. I should mention the stake itself has grown a great deal during that time too – it would now be £12,845.
That sounds pretty good to me. But can the good times continue?
A buy?
It should be pointed out here that the above results come during what has been a very good time for Lloyds Bank. Had I selected a five-year period shortly after the 2008 recession then the numbers above would not have looked so rosy. And looking towards the future, there are risks to be aware of in the coming years too.
Chief among them, perhaps, is Lloyds’ focus on mortgages. As the nation’s largest mortgage lender, the sluggish rate of housebuilding in the country and persistently high mortgage borrowing costs could both pose problems.
And with around 95% of revenue coming within these shores, the stuttering UK economy may be a drag on the stock too. Rivals like Barclays in the US and HSBC in China are attached to much faster-growing economies.
A counterpoint to the above is that the biggest driver of Lloyds recent success – higher interest rates, which mean higher margins for banks – is looking set to stay high. I saw a 6% inflation target being mooted a few days ago too. That could be another reason rates are kept high and mean the next five years of dividends would be similar to the last five. I think the stock is worth a look.
