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Is Lloyds Banking Group PLC The Best Dividend Share Out There?

Over the past couple of years, whenever investors have spoken of Lloyds Banking Group (LSE: LLOY) and Royal Bank of Scotland, a key milestone has been the resumption of dividends.

With new banking capital rules in place and stress tests having to be met, a return to paying out cash was not allowed without the permission of the Prudential Regulation Authority (PRA). Lloyds wanted to pay out some cash in the second half of 2014, and we waited with baited breath until the PRA gave its nod. Only 0.75p per share was paid, for a yield of 1%, but it was the beginning of a strong recovery.

This year, Lloyds has already paid a first-half dividend of 0.75p, and analysts are forecasting a full-year sum of 2.54p, which would give us a yield of 3.4% on a 76p share price. There’s also a leap to 5.2% penciled in for 2016, so should you buy shares now? Well, we’re looking at P/E values of only around 9 at the moment, which compares very favourable with the FTSE 100 long-term average of about 14, and with Lloyds set to provide a much better-than-average dividend. But it all depends on how reliable that dividend is likely to be, and whether the growth is set to continue.

Progressive dividend policy

At the interim stage, Lloyds told us “Our aim is to have a dividend policy that is both progressive and sustainable, and […] we expect ordinary dividends to increase over the medium term with a dividend payout ratio of at least 50 per cent of sustainable earnings“. That 50% target suggests sustained dividends of around 5.3% on current share prices and earnings levels, rising in line with future EPS growth.

In addition, the bank spoke of “…the distribution of surplus capital through the use of special dividends or share buy-backs” as a taster for the future. At this stage, that shows ambition and a desire to become a strong income provider for shareholders.

Now, there are shares out there that offer higher dividend yields, and they’re paying them now rather than the wait until 2016 that Lloyds shareholders will have to face before they’re likely to see 5%, so why do I think Lloyds might be a top dividend share?

Some of today’s higher payers are starting to look a bit shaky, while others are in sectors that are hurting and less likely to be sustainable. The utilities firms, like National Grid, are big favourites with income seekers, but they’re seeing a tough market right now with falling consumption and increasing competition — and they’re in a regulated industry and open to the next political whim that comes along. With EPS growth pretty much stagnating and dividend cover only around 1.3 times, National Grid could be facing a few years of dividend doldrums. And at SSE, we’re looking at a forecast 11% EPS fall with the dividend covered only 1.2 times.

And looking at the other top FTSE 100 dividend payers, the list is dominated by miners whose medium-term future is far from secure, and by BP and Shell whose predicted dividends exceed their earnings. There are insurance companies up there too, but they can be somewhat cyclical and have a reputation for boosting and then slashing their payouts.

Watchful eye

Against all that, with Lloyds being under the critical eye of the FCA and simply not allowed to pay out more than is seen as prudent, and with the firm’s clear aim of rewarding shareholders with sustainable cash, I see its dividends as being very safe for at least the medium term future.

Is it a good time to get in now while the P/E is so low and and secure some high future yields? I think so.

Reinvesting dividends is a key tactic that has helped many investors achieve millionaire status, and locking in high yields when share prices are low can greatly enhance your returns.

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Alan Oscroft owns shares in Lloyds Banking Group. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.