Lloyds Banking Group plc is heading for a golden decade

Ace investor Benjamin Graham famously said that “In the short run, the market is a voting machine but in the long run, it is a weighing machine“.

What he meant was that, regardless of short term sentiment, the market will eventually weigh up the true value of a company. And that’s part of what makes me think Lloyds Banking Group (LSE: LLOY) is a good investment. I own some, though I don’t intend to sell them for quite some time. But what might they be worth in ten years time?

I reckon the decade will be a good one for Lloyds, but not everyone agrees. My colleague Kevin Godbold sees steady and rising cash flow as a key requirement for a long-term investment capable of funding a happy retirement, and he explains how far away from that ideal Lloyds has been in recent years.

I’m not so worried about the erratic cash flow myself right now, as Lloyds is coming out of a very tough period and it’s going to be some time before we can really see what long-term stability looks like. But Kevin is right that it’s an issue for the long term, and the uncertainty is surely part of what’s keeping the share price down right now.

Dividend risk

The other big fear is whether Lloyds’ resurgent dividend will prove sustainable. It has recovered strongly, from nothing in 2013 all the way to 2.55p per share in 2016 for a yield of 4.1% — and analysts are forecasting rises to 5.3% this year and 6.2% next, based on the current share price of 69p.

I’ve said before that I’d be happy for dividends to be held at the 2016 level for a couple of years, until we can see the longer-term picture of our post-Brexit banking industry — and that would actually give me more confidence. But with its 2016 results announcement, the bank was insistent on its “progressive and sustainable” dividend policy, and was able to exhibit an impressive set of liquidity measures to back it — though for me, it remains a bit of a risk.

Those are the negatives, but ten years is a long time in banking, and I think the landscape should be looking a lot less pot-holed by then. We’ll have been out of the EU for close to eight years, any Brexit shock will be well in the past — and with Lloyds’ already restructured as a UK-focused retail bank, I don’t foresee any great pain.

Price targets

Forecasts put Lloyds shares on a P/E of 10 for 2018, and a share price gain of 40% to 97p would get that close to the long-term FTSE 100 average of around 14. That would drop the prospective dividend yields for the next two years down to 3.8% and 4.4%, and I see those as the kind of long-term levels that we should actually be aiming for.

So, I think a share price of close to 100p would be about right in the relatively short term, were we not in the midst of so much financial uncertainty right now.

And if we estimate something like EPS progress of around 6% per year averaged over the next ten years (just a guess, but I think a not unreasonable one), I can see that doubling the share price.

So, my price targets for Lloyds are… 100p in the medium term, and 200p by 2027.

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Alan Oscroft 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.