Even though the FTSE 100 has made an excellent start to 2015, Lloyds (LSE: LLOY) (NYSE: LYG.US) has still managed to disappoint. In fact, it is up just 4% since the turn of the year, while the wider index has risen by almost twice that. However, in the long run, Lloyds could easily outperform the FTSE 100 and make gains of 50%. Heres why.
Dividends
Although dividends have undoubtedly become much more important to investors, with low interest rates hurting income from cash balances in recent years, they are set to become even more appealing. Thats because there is no sign that the Bank of England will raise interest rates over the next couple of years, with a cut seemingly more likely if deflation does become a reality. As such, the yield on cash balances could fall further and cause income-seeking investors to bid up the prices of stocks that pay generous dividends.
While Lloyds only recommenced dividends after cancelling them during the financial crisis, its dividend growth prospects are quite astounding. For example, in the current year Lloyds is expected to pay dividends per share of 2.7p, which equates to a yield of 3.4% at Lloyds current share price. However, next year, this is set to rise by a whopping 52% to 4.1p per share, as Lloyds continues to improve its profitability and becomes a more financially sound bank. And, in order to maintain Lloyds current yield of 3.4% next year, its share price would have to rise to just over 120p, which is almost 53% higher than its current share price.
Looking Ahead
Of course, a gain of that magnitude may seem difficult to contemplate especially since in the upcoming months Lloyds could become a political hot potato, which may hurt investor sentiment in the bank. However, Lloyds and its banking sector peers have risen by amounts similar to that in the past; notably in 2013 when Lloyds added 61% to its share price, as sentiment surrounding its future improved.
Clearly, there will need to be a catalyst to cause investor sentiment to positively change, but a combination of low interest rates, the potential for an upturn in the Eurozone and a UK economy that continues to go from strength to strength could be enough to boost investor sentiment in Lloyds and keep its dividend yield at or around 3.4%. Were that to happen, a gain of 50% is very much on the cards over the medium term.
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Peter Stephens owns shares of Lloyds Banking Group. The Motley Fool UK has no position in any of the shares mentioned. We Fools don’t all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.
