From a dividend investing point of view, Lloyds (LSE: LLOY) shares do have a certain amount of appeal, in my view.
For a start, the dividend yield is high. Analysts currently expect the group to pay out 3.37p per share for FY2019 which equates to a yield of 5.8% – around four times the best Cash ISA rate.
Secondly, the dividend payout is trending up. Since reinstating its dividend in FY2014, the bank has now registered four consecutive dividend increases, and analysts expect further increases this year and next.
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Additionally, dividend coverage (a measure of dividend sustainability which is calculated by dividing earnings per share by dividends per share) looks solid at the moment, which suggests the payout is sustainable.
And finally, Lloyds shares remain attractively valued. Currently, the forward-looking P/E is just eight.
Overall, I think there’s a lot to like about Lloyds shares. Having said that, Lloyds is not the first FTSE 100 dividend stock I’d buy today. Here’s why.
Risks remain
The thing that concerns me about Lloyds shares is that there are a number of risks that could potentially impact the bank’s near-term profits and its dividend payout.
For example, one key risk is the bank’s exposure to the UK economy. With economic growth remaining extremely low due to Brexit uncertainty (EY expects growth of just 1% next year), this is an issue that shouldn’t be taken lightly.
Worryingly, Lloyds’ recent Q3 results showed that bad debt charges for the first nine months of the year increased 28% on the same period last year to £950m. As my colleague Roland Head said last week, if this trend continues, it could put real pressure on near-term profits.
It’s also worth pointing out that brokers are lowering both their earnings forecasts and their share price targets for Lloyds at the moment. For example, last Friday, both Citigroup and JP Morgan cut their share price targets for Lloyds. This could weigh on Lloyds’ share price in the near term.
So overall, while I do see investment appeal in Lloyds, it’s not the first FTSE 100 dividend stock I’d buy today.
FTSE 100 alternatives
So, what dividend stocks would I buy over Lloyds then?
Well, one stock that I continue to hold in high regard is financial services group Legal & General. It also offers a bumper yield (6.5%), as well as dividend growth, but I see its business model as a little more diversified than that of Lloyds, meaning overall risk is lower. I see its current valuation as very attractive.
Given the threat of a recession in the near term, I also see appeal in dependable ‘recession-proof’ stocks such as Reckitt Benckiser right now. It owns a world-class portfolio of brands such as Nurofen, Dettol, and Durex and is able to generate relatively consistent revenues and profits throughout the economic cycle. The dividend yield here is a fair bit lower than Lloyds’, at around 3%, but the company has a brilliant dividend growth track record. It also looks attractively valued right now.
Ultimately, in the current environment, a focus on potential risk, as well as reward, is paramount.
