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I mentioned to someone recently that I could get 5% this year in dividends from Lloyds Banking Group (LSE:LLOY) shares. He replied: “Meh, 5% is no good to me.“
That may not seem like much when you think of the stock market as a get-rich-quick scheme, but it got me thinking about how much that kind of dividend yield could add up to.
I must emphasize that dividends are not guaranteed, and even that 5% is just the forecast for this year. Something could go wrong and prevent us from achieving it.
FTSE 100 Dividends
But in the long run, the FTSE 100 Index has been generating a yield of between 3.5% and 4% in dividends, which includes companies that only pay low dividends. And the difference this can make can be truly astounding.
The FTSE 100 index is up 21% over the past decade, but by my calculations, reinvested dividends would have taken the total return to around 65%. Given the so-called lost decade we've had for stocks, I think that's pretty good.
Lloyds Dividends
Back to Lloyds. The past decade has been a disaster for its share price, which has fallen by a painful 25%. And dividends have, at best, brought total returns close to break even.
The silver lining is that this has left us with a low valuation. Lloyds shares have a forecast price-to-earnings (P/E) ratio of less than 10. And that would fall to just seven by 2026, if forecasts are correct.
To put this into perspective, it is only about half the long-term average of the FTSE 100.
What kind of stock price and dividend yield should we estimate in order to calculate what the next decade might bring?
Valuation
Analysts expect earnings to rise in the coming years. From 2024 to 2026, they expect earnings per share (EPS) to rise by 39%. And they already expect a 25% increase in the dividend over those same two years.
Suppose the P/E remains at 10 (which I think would still be cheap), which would require the share price to rise to 80p in 2026. And then suppose the average increase is 3% per year for the rest of the decade.
According to these latest forecasts, we could see Lloyds share price at 101p by the end of 2034, representing a price increase of 77%.
Now, let's assume that dividend yields average 5% annually over the decade. By my calculations, that could boost our total return to about 125% over 10 years. Even with the near-term stock price increase I expect, dividends could still make a significant difference.
Be careful
Lloyds faces a very uncertain economic decade, and I think that adds risk to both the share price and the dividend. Any economic shock could affect either of them. Just look at the last decade.
And while I hope my guess is realistic, I could be way off base. But this is really just a “what if” guess and definitely not a prediction.
