I bought shares in Lloyds Banking Group (LSE: LLOY) in April 2020. That was after the FTSE 100 looked liked it was coming out of the bottom of the crash. But, the Lloyds share price still had further to fall. I bought again in November 2020 when a recovery in the price looked to be underway.
At the current share price of around 43p, my position in Lloyds is now slightly in the green. I am not jumping for joy just yet. Lloyds, like other banks, was forced by regulators to cut its 2019 and 2020 dividend. I bought Lloyds because I was banking on it one day returning to paying chunky dividends.
Lloyds bank dividend
Lloyds has declared a 0.57p per share dividend, the maximum permitted by regulators, for 2020. That means the dividend yield on Lloyds stock is around 1.33%, which is not impressive. But, I think one day Lloyds could get back to pre-Covid-19 payouts to shareholders. My shares could be yielding over 6% if that happens.
The UK has a clear roadmap out of lockdown, and the coronavirus vaccination programme is on track. The outlook for the UK economy looks better now than it has done for a long time. Bank stocks like Lloyds tend to do well when the economy is roaring. If the UK is poised on the cusp of an economic boom, then Lloyds should be able to start to increase its dividend. The analyst consensus is for 1.7p in 2021 and 2.3p in 2022. Of course, analysts’ forecasts can change.
Lloyds share price
If Lloyds starts paying out dividends again, then shouldn’t the share price start to rise as well? Yes, it probably would. But I think there is a cap on how high it can go. For one thing, as a share price increases, the dividend yield starts to fall, making it less attractive. Looking at a chart of the Lloyds bank share price from 2008 (the great financial crash) onwards and it appears to move between 21p and 88p.
Dividend investors could have been moving in and out of the stock when its dividend yield gets too high and too low. If so, one way to break out of the range would be to increase dividends in the future substantially. But, I think there is a limit to how much earnings Lloyds can generate and pay out as dividends.
Since 2008, regulations have tightened, limiting the risk but also the profits banks can generate. Challenger banks have also emerged to compete with Lloyds’ core business in UK retail and commercial banking. Lloyds has an insurance and wealth management business, but these are small. They would have to grow substantially to drive earnings higher in the long term.
Right now, a return to pre-Covid-19 performance is what I have in mind. But, Lloyds still faces headwinds today. Although 2020 loan losses were not as bad as expected, many could still turn sour. There is a pension deficit to correct, a looming restructuring charge for 2021, and cost-cutting has not been delivering as expected.
I am happy holding my Lloyds shares because the potential of a 4%, 5%, or maybe 6% dividend yield in the future makes the risks of holding them worthwhile – assuming, of course, Lloyds gets back to pre-Covid-19 performance. At higher share prices, the potential dividend yield rewards start looking less enticing, given the risk level.
