Interactive Investor

Prepare for Lloyds dividend shock

22nd September 2016 12:15

Lee Wild from interactive investor

Investors hanging onto their Lloyds Banking Group shares in the hope of a dividend windfall should prepare to be disappointed. That's the warning from Stephen Bailey and Jamie Clark who run the Liontrust Macro Equity Income fund.

"Lloyds will not return to the days of being a dividend cash cow," Bailey told me last night. "We'll never see those days again."

Before the financial crisis Lloyds was yielding 7%, and the other incumbent UK banks at least 5%. Lloyds returned to the dividend list last year after a six-year break, but a 0.85p a share interim payout was less than the 1p expected by analysts.

And the big banks remain compromised by the financial crisis settlement, with huge charges a constant overhang. They're under-capitalised, too, Bailey argues.

Lloyds announced a common equity tier 1 (CET1) ratio - a core measure of a bank's financial strength - of 13% at the half-year results in July, but it also warned that capital generation might be "somewhat lower in future years than previously guided".

However, Liontrust's Clark thinks we're all watching the wrong number.

"The CET1 measure of capital adequacy is cod science," he says. "Instead, investors should look at the money measure, which indicates a lack of capital adequacy."

It's an argument previously backed by former Bank of England governor Mervyn King, who wrote in his book The End of Alchemy: Money, Banking and the Future of the Global Economy that "a simple leverage ratio is a more robust measure for regulatory purposes".

Lloyds just reported a leverage ratio of 4.7%. Other banks tend sit anywhere between 4% and 5%. But Clark reminds us that King favoured a ratio as high as 10%. If banks are told they have to hold extra capital, there'll be much less cash to distribute to shareholders.

There could also be trouble with the challenger banks. Bailey and Clark like challengers such as Virgin Money, which are unencumbered by problems from the financial crisis and are in a much better position than the established lenders.

This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.