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Banks are the same Lloyds Banking Group (LSE:LLOY) could be an excellent stock to buy for solid income.
Interest from their borrowing activities provides a consistent and significant flow of cash that they can distribute to their shareholders. This can be done through a large and growing dividend and through share buybacks.
The dividend on Lloyds shares has risen every year since the height of the Covid-19 crisis. And City analysts expect it to continue growing until 2026, at least.
As a result, market-beating profits generate Lloyds' reputation for rising slowly over time. This is shown in the table below.
| A year | Dividends per share | Share growth | Dividend yield |
|---|---|---|---|
| 2024 | 3.3 p | 20% | 5.6% |
| 2025 | 3.48p | 6% | 5.9% |
| 2026 | 4.04p | 16% | 6.9% |
But income investors need to consider how realistic dividend payout ratios are before buying. They also have to think about weighing the prospect of big cash prizes against the potential for a stagnant (or even falling) Lloyds share price.
Here's my take FTSE 100 the bank.
It is in excellent condition
The first part of my test is very encouraging. I believe that Lloyds is in a good position to pay the large dividends expected by analysts.
Over the next three years, Black Horse Bank shares are covered between 2 and 2.2 times expected earnings.
Both figures remain close to the accepted safety benchmark of 2 times and more. This is important given that the UK's economic climate remains highly uncertain, which poses a threat to banks' profitability.
Investors can also take comfort in the healthy balance sheet of Lloyds. As of June, its common equity tier 1 (CET1) ratio was 13.7%. It means the bank can continue to pay large dividends even if earnings are disappointing.
Big risks
The dividend picture is pretty rosy at Lloyds, it's fair to say. But does this make the bank a top stock to buy? I'm not convinced.
When I invest, I look for companies that can pay income again delivering healthy financial appreciation over time. And I'm not sure if the bank meets my criteria.
Lloyds' share price has jumped more than 40% in the past year. But it is about a quarter cheaper than it was 10 years ago.
And I believe it could go down again quickly as conditions worsen.
First, the boost provided by higher interest rates to margins has already been withdrawn. Lloyds' net interest margin (NIM) fell 24 basis points in the first half, to 2.94%. And things will get even more difficult if (as expected) the Bank of England cuts interest rates slightly over the next year.
Its borders are also under attack as opposition banks strengthen their operations. High street banks need to lower lending rates or raise savings rates to stop losing customers like Revolut. And, so far, this has only limited benefit.
It's cheap for a reason
Stocks are currently really cheap. As well as having such huge dividend yields, the bank trades at a price-to-earnings (P/E) ratio of 9 times.
However, in my opinion, this low rating is a good reflection of the risk that the bank poses to investors. I'd rather buy some dividend stocks today.
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