Avoid the Lure of Lloyd’s Dividend Promise

by Marc Bastow | August 5, 2013 2:38 pm

Income-minded investors are always on the lookout for companies that not only pay a steady, increasing dividend, but also have room for to keep increasing those payouts as time goes on.

Thus, investors tend to look at a few metrics, including “dividend payout ratio” — what percentage of a company’s earnings are paid out in dividends. The lower the payout ratio, the more room a company theoretically has to increase its dividend without breaking the bank.

Granted, a high payout ratio signals that a company very much has its investors in mind, but don’t be fooled if the number is too unrealistic. What’s “too unrealistic”? Honestly, situations vary from company to company, but a couple good numbers to keep in mind is that the historical average for the S&P 500 is between 40% to 50%, and the current payout ratio is around 31.5%. Financials in specific pay out around 22% of their earnings in dividends.

So, when London-based financial services company Lloyd’s (LYG[1]) announced it will target a 70% payout ratio within the next three years[2], perhaps it should raise a few eyebrows.

Indeed, Lloyd’s announcement should come with even more skepticism considering this would come amid the resumption of a dividend — one that was suspended in 2008 — by a company that has lost more than $4.5 billion in the past three years and underwent a government-sponsored restructuring similar to that of U.S. banks.

Frankly, I think investors targeting income in the financial sector have a couple better options.

Perhaps the two best examples for income investors are Wells Fargo (WFC[3]) and JPMorgan Chase (JPM[4]). Both have not only put together strong earnings growth during the past three years — while shoring up their balance sheets — but they’ve already made the step of improving their dividends without taking on huge payout ratios.

Wells Fargo: WFC has increased its dividend sixfold since the beginning of 2011, from its Great Recession payout of 5 cents to 30 cents currently. Wells Fargo also pays out less than the S&P 500 in earnings at just 27% of profits. Meanwhile, WFC is just coming off a boffo quarter in which it earned a record $5.5 billion. WFC currently yields 2.7%.

JPMorgan: JPM also has come a long way from its Recession-lessened 5-cent payout, which lasted until early 2011, raising its dividend some 760% to its current 38 cents, which yields 2.7% on current prices. JPMorgan pays out even less of its earnings (20%) in dividends, and it too enjoyed a great Q2 in which it logged a 30% gain on the bottom line.

None of this is to say Lloyd’s will be a dividend failure, but let some proof show in the pudding before you dip in and consider getting your financial-sector dividends elsewhere until then.

Marc Bastow is an Assistant Editor at InvestorPlace.com. As of this writing, he did not hold a position in any of the aforementioned securities.

  1. LYG: http://studio-5.financialcontent.com/investplace/quote?Symbol=LYG
  2. target a 70% payout ratio within the next three years: http://www.dividend.com/news/2013/lloyds-banking-group-reports-plan-to-resume-dividends-lyg/
  3. WFC: http://studio-5.financialcontent.com/investplace/quote?Symbol=WFC
  4. JPM: http://studio-5.financialcontent.com/investplace/quote?Symbol=JPM

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