At first glance, the 7.29% dividend yield from Legal & General (LSE: LGEN) shares looks attractive. Not only is the payout among the highest on the FTSE 100, but it’s stayed thereabouts for years.
An investor receiving and reinvesting that yield consistently would see a £10,000 stake turn into £41,000 over 20 years (and that’s ignoring any rise in share price).
But there’s a reason – often overlooked by the average investor – why someone buying a stake in Legal & General shares today could expect more than just a big dividend from the stock….
Good times
One recent shift for a number of British companies across the FTSE 100 is to allocate buybacks, sometimes close to, or even exceeding, the dividend paid. This is true for Legal & General in the current financial year, with £1.2bn spent on dividends and a further £1.2bn spent on buybacks.
This means that total cash returned to shareholders is in the region of a 15% yield. While investors won’t see that cash landing in their broker accounts, the effect of reducing the number of shares on the market should – by way of supply and demand – have an upward pressure on the share price.
This is a particularly fruitful year, so a 15% cash yield’s unlikely to be sustainable. But even a a 9% total yield could have an impressive effect on total returns. Should the buybacks have a commensurate effect on share price (which is a big if) then this return would turn that £10,000 stake into £56,000 over 20 years.
A buy?
Are there risks? Certainly. One thing to keep an eye on is the firm’s Solvency II coverage ratio – a regulatory directive introduced in 2016. In simple terms, this is the capital reserve needed to withstand a 1-in-200 risk event. A percentage above 100% means the minimum’s met.
Legal & General currently stands at 210% which is well above the requirement, and also above the firm’s target range of 160%-190%.
The concern is that the figure’s falling, standing at 232% in 2024. Part of the reason for the drop was the large cash diverted towards buybacks. Should this fall further then those share buybacks might be first on the chopping block.
General returns might be affected too. Dividends are never guaranteed. And with poor business performance, investors may even lose money over the long run.
What’s the verdict then? Is Legal & General stock a good buy? I think so. The headline yield’s already impressive and has stayed at the high-single-digits for years. That buybacks can bump the figure up further is a real benefit too. There are risks to be aware of – the same as any stock market investment – but I think it’s worth considering.
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John Fieldsend owns shares in Legal & General.
This story originally appeared on Motley Fool
