Could the Lloyds dividend be a growing source of second income?

In that week Lloyds (LSE: LLOY) boosted its annual shareholder payout by 20%, many investors will be hoping for a juicier payout from the bank than before. So maybe buying shares now gives you the chance to grow your own second income, thanks to Lloyds’ rising dividend?

Dividend payment date on LLD shares

The way dividends work, they are declared first before the stock becomes “ex-dividend“. In this case, the next dividend payment date is April 13. So I have more than a month, if I buy shares and continue, I will receive the payment announced this week.

The next dividend payment is about 1.6p per share, paying 2.4p. Dividend income at Lloyds, Inc. is 4.6%.

However, I have to invest a lot of money to generate double income. With a yield of 4.6%, earning £23,000 a year would require me to invest half a million pounds. I don’t have any money and even if I did, I wouldn’t invest in just one company.

But, could there be a more modest place for a dark horse bank in my portfolio?

Strong dividend growth

Let’s say I put £10,000 into shares today. I will definitely get £460 next year, thanks to the Lloyds dividend.

But what if the company continues to raise its dividend by around 20% per year?

In that case, 10 years from now, the payout will be almost 15p per share. That equates to a yield of about 29% at current prices. So a stock worth £10,000 today should return nearly £3,000 in double-year income ten years down the line.

That certainly sounds attractive – but is it likely to happen?

Lloyds share price changes

I don’t think so. Although the bank raised its dividend substantially this week, it is still below pre-pandemic 2019 levels.

Raising dividends by 20% every year is like folding paper over and over again. It gets harder to do each time, as the baseline increases.

Currently, Lloyds pays out only a fraction of its post-tax earnings as dividends, around 29% last year. But that percentage could rise rapidly if Lloyds’ dividend grows rapidly.

Last year, for example, earnings per share were 7.5p and dividends per share were 2p. Last year, the next dividend payment was 2.4P per share. But earnings fell to 7.3p per share. That is still a comfortable level of coverage for now. But over the long term, if dividends rise too much and earnings don’t (or fall, as happened last year), strong dividend growth becomes unrealistic. Indeed, there may be cuts in such situations.

I didn’t buy it

Lloyds has a strong position in UK banking and remains profitable. But could last year’s decline in earnings be a sign of things to come?

I see a risk that a weak UK environment could lead to higher defaults, damaging bank profits. In the result, the bank marked “risks from an inflationary environment and higher interest rates“.

I would look elsewhere for a large second income rather than investing in Lloyds.