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The forward dividend yield for Lloyds (LSE: LLOY) shares currently stands at around 3.2%. On that basis, a £6,000 stake would return £192 in the next 12 months. That kind of figure is hardly one to set pulses racing – especially when Cash ISAs are paying out more at the moment. But this ignores the real advantage to investing in dividend stocks – growth. Even a few years of good growth can increase the yield on the original investment by three times or more.
To prove this, let’s run a little test. If we rewind back to 2021 and invest that stake of £6,000 – the Lloyds dividend was hovering around the 3%-4% mark then, too – then I’ve got a funny feeling that the results are going to be surprising, perhaps even extraordinary…
Excellent growth
In August 2021, a share in Lloyds changed hands for 45p. Applying today’s forecast dividend of 4.6p we get a dividend yield of 10.22%. The £6,000 stake would now return £732 in the next year. Pretty good, almost suspiciously so. Why is the return so high?
The answer is that Lloyds was a great stock to buy over the period. Conditions for banks improved and revenue and earnings increased. Bumper earnings allowed the firm to ratchet up the dividend several times in the last five years, resulting in excellent growth in the payout. The share price of 45p rose to 115p at present, so the value of the stake is up by nearly three times as well.
It could get even better, too. If the dividends had been reinvested along the way, then the yield could be as much as 12% in the next 12 months (the actual figure varies depending on when the shares are bought). All sounds good, doesn’t it? But what’s the catch?
Simply, Lloyds was a pretty good stock to buy into five years ago. Cherry-picking with the benefit of hindsight can show what is possible with shrewd stock selection, but we should also consider the downsides of bad choices too.
Banks may have been booming, but drinks and alcohol haven’t. Had I run the same calculation with Diageo (which dropped over 60% in the same period) then the numbers would look far from pretty.
A buy?
Could Lloyds still be a good buy today? I think so. The valuation still looks reasonable. A forward price-to-earnings ratio of 11 is well below the FTSE 100 average. It could be a sign that the stock is still a cheap buy today.
And higher interest rates should boost earnings – with the caveat that when rates go too high, it can cause defaults on the loans banks issue.
While I’m not banking (pun intended) on Lloyds to repeat the performance of the last five years, I think it could still be one of the better stocks to own for the next few.
Should you invest £5,000 in Lloyds Banking Group Plc right now?
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John Fieldsend owns shares in Lloyds and Diageo.
This story originally appeared on Motley Fool
