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Lloyds shares: Why investors may be facing a dividend cut

For the last few years, I’ve thought Lloyds (LSE: LLOY) shares had appeal from an income investing perspective. The dividend payout has been on the rise, dividend coverage – a key measure of dividend safety – has generally been healthy, and the yield has often been very attractive in today’s low-interest-rate environment.

Yet the severe impact of the coronavirus outbreak on the UK economy has dramatically changed the investment case for Lloyds shares. Lloyds’ dividend now looks far less secure. Here, I’ll explain why I think the FTSE 100 bank may be forced to cut its payout in the near future.

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Lloyds’ dividend at risk

The government’s recently announced lockdown measures are impacting a wide range of businesses across the UK, and they will need a considerable amount of capital to keep from going under. Banks will have a key role to play in providing that capital, and in stabilising the economy.

This means that banks may have to scrap their dividends in an effort to direct money to where it’s needed the most.

Regulatory pressure

Already, pressure is building on UK financial regulators to force banks such as Lloyds to suspend their dividends. Last week, Sir John Vickers, former chair of the Independent Commission on Banking, said that UK bank dividends should be blocked by the Bank of England (BoE).

For the sake of the health of the financial system, dividend payouts by banks should now be totally out of the question. I am surprised the Bank of England has not yet put a stop to them. It should do so at once,” Vickers said. “As well as further weakening banks’ ability to bear the losses that they face, dividend payouts would dilute the Bank of England’s measures to support lending,” he added.

Agustin Carstens, the general manager of the Bank for International Settlements, has called for a ‘global freeze’ on bank dividend payouts. He believes that banks need to be in a position to help “firms at the edge of the precipice” and says that paying dividends would harm their ability to do so.

It’s also worth noting that last week, the European Central Bank (ECB) told eurozone banks to skip dividend payments until October at the earliest, and to use their profits to support the economy in the wake of the coronavirus. “To boost banks’ capacity to absorb losses and support lending to households, small businesses and corporates during the coronavirus (COVID-19) pandemic, they should not pay dividends for the financial years 2019 and 2020 until at least 1 October 2020,” the central bank said in a statement.

This move from the ECB could increase pressure on UK regulators to follow suit.

Dividend uncertainty

Lloyds recently announced another big dividend for shareholders and increased its payout by 5% on last year. But the bottom line is that UK regulators may soon force the bank to cut its dividend, in an effort to support the economy.

Given this uncertainty over the dividend, I would not buy Lloyds shares for income at present.

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Edward Sheldon owns shares in Lloyds Banking Group. The Motley Fool UK has recommended Lloyds Banking Group. 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.