Is Lloyds Banking Group PLC An Annuity Alternative?

Annuity giant Legal & General expects the UK annuity market to halve in size following the changes announced to pension rules in this year’s Budget.

That means that the £12bn annuity market could shrink to just £6bn — leaving an extra £6bn per year in the hands of investors, many of whom I believe are likely to invest their pensions funds in dividend stocks.

I reckon George Osborne’s decision to liberate pension funds could end up giving the stock market a boost. One stock I believe could resurrect itself as a top dividend payer is Lloyds Banking Group (LSE: LLOY) (NYSE: LYG.US).

Leap of faith?

LloydsI admit that as Lloyds doesn’t currently pay a dividend, banking on it to provide part of your retirement income is a big leap of faith. However, when you look a little more closely, the risks aren’t as large as they might seem.

1. The dividend cometh

Lloyds has said that it will apply to the regulator to restart dividend payments in the second half of 2014, with the intention of moving to a medium-term payout ratio of ‘at least 50 per cent of sustainable earnings’.

The government is selling of its stake in Lloyds at a steady pace, and consensus amongst City analysts is that dividend payments will restart this year. Current forecasts suggest a 2014 dividend of 1.57p, rising to 3.27p in 2015.

At Lloyds’ current share price of 75p, that equates to a 2.1% 2014 forecast yield, rising to 4.4% in 2015.

2. Track record

Until 2008, Lloyds was one of the UK’s top income stocks, and like most large banks, has a long-standing tradition of paying a reliable dividend to its shareholders.

Between 1996 and 2008 — the longest period for which I could find data — Lloyds’ dividend payout rose by 200%, from 12p, to 36p.

Lloyds’ payout isn’t likely to return to these levels in the near future, but it doesn’t need to; next year’s forecast 3.27p payout gives a healthy 4.4% prospective yield — more than 50% higher than the FTSE 100 average of 2.8%.

Get in early?

I expect Lloyds’ share price performance to remain subdued until the dividend is finally confirmed, and the government has disposed of its remaining 25% stake.

Once these two clouds have disappeared from the horizon, Lloyds’ share price could perform strongly — but early investors now have the chance to lock in a prospective yield that could provide a long-term, inflation-busting income.

If you already own Lloyds shares, or are thinking about adding some to your portfolio, then I'd strongly recommend you take a close look at "The Motley Fool's Guide To Banking", before making any further decisions.

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Roland does not own shares in any of the companies mentioned in this article.