Generating £500 a year in passive income from a £10,000 investment might not sound particularly difficult. But finding a dividend stock that can deliver that income while also growing its payout is a different challenge.
That’s what caught my attention about NatWest (LSE: NWG). The FTSE 100 bank’s currently offering a forward dividend yield of 5.10%. And with dividend cover at nearly 2 times, could this be the kind of income stock that can continue to grow its payout in the years ahead?
A growing dividend
The first thing that caught my attention was the bank’s decision to increase its interim dividend by 26% to 12p per share. That’s a substantial increase and, to me, suggests management has growing confidence in its ability to generate the profits and capital needed to support a higher payout.
And the numbers behind it are encouraging. Earnings per share increased 23% to 38p in the first half, while return on tangible equity (RoTE) reached 19.7%.
That strong performance has given management the confidence to upgrade its full-year 2026 RoTE guidance to more than 19%. At the same time, the cost-income ratio’s moving towards its 2028 target of below 45%.
Indeed, the strength of its performance has allowed it to bring forward its consideration of reintroducing share buybacks by six months to the year-end results.
A bigger opportunity
What also interests me is where NatWest sees its future growth coming from. Take its Commercial & Institutional division. It serves around 1.5m businesses across the UK, including a 20% share of the start-up market.
The bank’s also targeting structural growth areas such as infrastructure, social housing and transition finance. It provided £23bn of climate and transition finance in the first half alone, putting it on the path towards its £200bn target by 2030.
Taken together, I think this points to a growth trajectory that could see profits continue to increase. That’s important because all the cost-cutting initiatives in the world can’t deliver sustainable dividend growth on their own. Ultimately, only a growth in earnings and cash flows can achieve that.
The risks
There are, of course, risks to this income story. The biggest question for me is whether the bank can maintain its current level of profitability.
Interest rates are important because they influence the margin banks can earn on their lending and deposits. Higher energy costs, in the midst of an ongoing cost-of-living crisis, continue to weigh on consumers and businesses alike. A weaker UK economy could force the bank to increase its provision for credit losses.
There’s also the question of expectations. After 23% earnings per share growth in the first half and RoTE of 19.7%, the bar has now been set high. If earnings growth starts to slow, there may be less scope for the dividend to keep rising at its current pace.
That doesn’t undermine the income case, but it does mean I wouldn’t assume the 26% increase in the interim dividend will be repeated every year.
That said, NatWest’s balance sheet’s in good shape, with a CET1 ratio comfortably above minimum regulatory requirements. So for income-focused investors, I do view the stock as one to consider.
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Andrew Mackie owns shares in NatWest.
This story originally appeared on Motley Fool
