Will Lloyds Banking Group PLC Be Your #1 Investment In 2016?

2016 could prove to be a rather exciting year for investors in the stock market. That’s at least partly because the sale of part of the government’s stake in Lloyds (LSE: LLOY) to the general public is due to take place in the first half of the year.

This could revitalise interest in the stock market for those individuals who benefitted from the privatisations of the 1980s and also allow those who didn’t (through age or lack of funds/interest) to kickstart their investment portfolios and retirement funds.

Big gains ahead?

Of course, the planned share sale of Lloyds is expected to be a very advantageous one for people taking part. Shares in the bank are set to be priced at 5% below their market price and for investors who hang on to their stake for a year, a reward of one share for every 10 is planned. This means that if Lloyds’ share price stays flat throughout 2016, investors could book a 15%-plus gain within a year.

However, the total return from Lloyds in 2016 is due to be much, much higher. That’s at least partly because Lloyds is forecast to ramp-up its dividend payments next year, with a rise of 54% in shareholder payouts being pencilled in for 2016. This means that Lloyds trades on a yield of 5.2%, thereby taking the potential total return to above 20% for 2016. And with dividends expected to be covered 2.1 times by profit, further dividend rises in 2017 and beyond are likely to be brisk at the very least.

Furthermore, Lloyds has huge upward rerating potential. As with most banks, market sentiment is very weak at the moment, with investors being more interested in other sectors. This means that Lloyds trades on a price-to-earnings (P/E) ratio of only 8.5. This is exceptionally low even for a bank and indicates that there’s the potential for a significant upward rerating to its valuation.

And, while the same could be said for a number of its banking peers, Lloyds has a sound and stable strategy that has seen its costs reduced and major efficiencies made. This has left it in an enviable position regarding its long-term profit outlook.

Property market exposure

Certainly, there’s a risk that the UK housing market endures a challenging period. The government and Bank of England seem intent on making life as a buy-to-let investor as difficult as possible. With a number of amateur landlords having only a sliver of equity in their property portfolios due to the abundance of interest-only mortgages, there’s a risk that an interest rate rise could lead to forced sales of investment properties. And with Lloyds having bought HBOS during the depths of the credit crunch, its exposure to the UK property market is huge.

However, even if the UK property market does endure a difficult period, Lloyds appears to have taken the appropriate steps to de-risk its balance sheet and improve its diversity in recent years. Furthermore, with it having such a low valuation, its margin of safety seems to be sufficiently wide to merit investment, with 2016 set to be a highly prosperous year for its old (and new) investors.

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Peter Stephens owns shares of 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.