Lloyds Banking Group plc should continue to beat the FTSE 100

At first glance, recent share price performance at Lloyds Banking Group (LSE: LLOY) has been disappointing, with the stock falling 17% in the past 12 months. It’s an anti-climax after the heady years of 2012 and 2013, when the share price almost tripled from 27p to 79p. 

Big isn’t beautiful

Naturally, no stock this size can maintain that rate of growth for lengthy periods. As the FT recently noted, Lloyds is still the only one of the UK big four banks to have beaten the FTSE 100 index since 2012. Performance relative to its sector has been good, with Barclays, HSBC Holdings and Royal Bank of Scotland Group all down between 30% and 50% over the same period.

I believe Lloyds’ recent sluggish performance is good news because investors now have an opportunity to buy before it embarks on the next leg of its revival. The bank has spent longer in recovery than Hollywood actor Robert Downey Jr, but without the inspirational comeback. However, that moment is moving closer, as the bank now boasts a healthy Tier 1 capital ratio of 13% and a total capital ratio of 21.4%. Its capital largely restored, it’s increasingly in a position to pass on the surplus to investors, in the shape of special dividends and share buy-backs.

Clean and mean

That Downey Jr moment is edging closer with the happy surprise of no further provision for PPI claims in Q1. The mis-selling scandal continues to generate 8,500 complaints a month but these are in line with expectations. Credit quality remains strong with impairments down 6% and with scant sign of a UK interest rate hike on the horizon, they should remain low.

At today’s price of 72.5p Lloyds is only slightly below the level at which Chancellor George Osborne can sell it off and claim to have made a profit for the taxpayer (break-even point is 73.6p). As a taxpayer, I would like Osborne to hold onto the stock for longer to see how much profit we can all make, but as an investor I would like him to get rid, so the shadow hanging over the bank can finally be cast off.

Dividend delight

Today, Lloyd yields 3.1%. By December, that should almost double to 6%. By the end of 2017, consensus forecasts suggest it will hit 7%. A number of FTSE 100 stocks already yield that amount, but in many cases the dividend is under threat. Trading at 8.5 times earnings, Lloyds still looks like a no-brainer for long-term dividend-seeking investors, even if markets don’t quite share my enthusiasm.

They worry that Lloyds will struggle to grow, given its dominant position in a mature domestic market, and loss of appetite for global expansion. Income actually fell 1% in Q1, which is a concern, even if the bank offset the loss by cost-cutting across the business to post operating profits of £2.1bn.

Lloyds is being targeted by young and hungry challenger banks, and has the Competition & Markets Authority snapping at its heels, desperate to boost competition but unable to persuade apathetic customers that switching current account is worth the effort involved. Britons are more likely to get divorced than dump their bank. Lloyd still faces challenges but its dividend prospects should sweep away all doubts.

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Harvey Jones has no position in any shares mentioned. The Motley Fool UK has recommended Barclays and HSBC Holdings. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.