Why this potential dividend dynamo could blow Barclays plc out of the water

Long-term investors underwhelmed by Barclays plc’s (LON: BARC) 1.5% yield may find this competitor a compelling opportunity.

| More on:

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than you put in.

Read More

The content of this article is provided for information purposes only and is not intended to be, nor does it constitute, any form of personal advice. Investments in a currency other than sterling are exposed to currency exchange risk. Currency exchange rates are constantly changing, which may affect the value of the investment in sterling terms. You could lose money in sterling even if the stock price rises in the currency of origin. Stocks listed on overseas exchanges may be subject to additional dealing and exchange rate charges, and may have other tax implications, and may not provide the same, or any, regulatory protection as in the UK.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

It’s no secret that income investors accustomed to banking stocks delivering consistent and impressive dividend yields have been severely underwhelmed since the end of the financial crisis. Indeed, the likes of Barclays (LSE: BARC) still offers shareholders a miserly 1.5% yield after it slashed its dividend in 2016.

However, I think over the long term, smaller challenger banks such as Virgin Money may just prove to be the dividend dynamos their larger rivals once were. This is particularly true of Metro Bank (LSE: MTRO), which is quickly growing its substantial loan book and this morning announced it delivered its maiden profit in 2017.

Last year was another great one for Metro Bank as its loan book grew 64% to £9.6bn and it recorded a 47% uptick in deposits to £11.6bn. Importantly, the bank’s loan-to-deposit ratio also grew from 74% to 82%, which shows it is still finding suitable investments to deploy its ever-growing mountain of customer funding.

The management team has also set itself a series of ambitious targets for 2023 that would make it a fairly large and highly profitable lender with plenty of excess cash that could be returned to shareholders. From its current base of 55 stores and £11.7bn in deposits, Metro’s management wants to have 140-160 locations in five years with £50bn-£55bn in deposits.

Judging by the pace at which customers are flocking to its expanding online and offline array of services, this isn’t a far-fetched target. And due to the increasing benefits of scale, management is aiming for a cost-to-income ratio of 55%-58% by that time with a return on equity (RoE) of a whopping 17%-19%.

This is the level of returns that big banks were delivering before the financial crisis, but with its sole focus being on boring old retail banking, I believe Metro Bank’s plans are significantly less risky than those of the old Barclays or RBS. If management hits its targets, I could see it turning into a fantastic dividend-payer over the long term as it kicks off enough cash to cover expansion plans and shareholder rewards alike.

The right strategy? 

Compare this with Barclays, which under the direction of CEO Jes Staley is doubling-down on its huge investment banking operations even as it retreats from areas such as its African operations. While this could prove wise in the long term, for now the investment bank is recording relatively low profits that are obscuring the group’s highly profitable credit card and retail banking divisions.

In the first nine months of 2017, the corporate and investment banking division recorded RoE of 8.4%, which was lower than the 19.3% of the credit card division and 9.4% of UK retail banking operations. Furthermore, unlike newcomer Metro, Barclays is still weighed down by legacy bad assets and legal issues that sent the group’s statutory RoE down to -1.4% in the nine months to September.

While management is doing well to whittle down its bad asset portfolio, I remain unconvinced that pursuing the universal banking business model is still the way to go considering ever tighter regulatory requirements on banks. With a relatively low dividend yield and a lack of compelling growth prospects, I’d easily choose Metro over Barclays for the long term.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Ian Pierce has no position in any of the shares mentioned. The Motley Fool UK has recommended Barclays. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

More on Investing Articles

View of Tower Bridge in Autumn
Investing Articles

The FTSE 100 is closing in on 8,000 points! Here’s what I’m buying before it’s too late!

As the FTSE 100 keeps gaining momentum, this Fool is on the lookout for bargains. Here's one stock he'd willingly…

Read more »

Investing Articles

3 ideas to help investors aim for a million-pound Stocks & Shares ISA

The UK has a growing number of Stocks and Shares ISA millionaires, and this plan may be one of the…

Read more »

Illustration of flames over a black background
Investing Articles

2 red-hot UK growth stocks to consider buying in April

These two growth stocks are performing well, but can they continue to deliver for investors through 2024 and beyond?

Read more »

Charticle

Is JD Sports Fashion one of the FTSE 100’s best value stocks? Here’s what the charts say!

The JD Sports Fashion share price remains a wild ride during the first quarter. Could it be one of the…

Read more »

Investing Articles

Could the JD Sports Fashion share price double in the next five years?

The JD Sports Fashion share price has nearly halved in the past five years. Our writer thinks a proven business…

Read more »

Bus waiting in front of the London Stock Exchange on a sunny day.
Investing Articles

If interest rate cuts are coming, I think these UK growth stocks could soar!

Falling interest could be great news for UK growth stocks, especially those that have been under the cosh recently. Paul…

Read more »

Investing Articles

Are these the best stocks to buy on the FTSE right now?

With the UK stock market on the way to hitting new highs, this Fool is considering which are the best…

Read more »

Petrochemical engineer working at night with digital tablet inside oil and gas refinery plant
Investing Articles

Can the Centrica dividend keep on growing?

Christopher Ruane considers some positive factors that might see continued growth in the Centrica dividend -- as well as some…

Read more »