European banks have actually outperformed the tech-focused Nasdaq since the beginning of the year. While this is great for shareholders, it does mean that banks like Lloyds (LSE:LLOY) and Barclays (LSE:BARC) aren’t quite as attractive for investors seeking a second income as they were a year ago.
This is because, as share prices rise, dividend yields fall. Nonetheless, Lloyds and Barclays still represent excellent options for dividend-focused investors. Which one’s best?
Lloyds
Lloyds’ dividend yield currently sits at 5%. And that was covered 2.75 times by earnings in 2023.
However, it’s more important to consider where the dividend will go next. Thankfully, analysts think the trajectory’s upwards.
According to analysts estimates, the dividend yield — based on today’s share price — would rise to 5.3% for 2024, 5.8% for 2025, and a whopping 6.9% for 2026.
Those forecasts put Lloyds towards the top end of the index with regard to dividends.
More generally, the outlook’s positive for Lloyds with the exception of near-term concerns about the impact of very high interest rates on customer defaults.
Looking forward however, with interest rates expected to start falling later this year, things are looking up.
Interest rates are set to settle somewhere between 2.5% and 3.5% over the medium term — that’s often referred to as the Goldilocks Zone for banks — while the economy’s expected to enter a phase of slow but steady growth.
This is partially positive for Lloyds as it doesn’t have an investment arm and is entirely UK-focused. It’s more interest-rate sensitive than its peers as well, with 68% of loans being UK mortgages.
Barclays
Barclays stock has surged in 2024 and is one of the best-performing stocks on the FTSE 100.
This does mean that the dividend yield has fallen. The current yield is 3.7% and, like Lloyds, analysts expect this to improve in the coming years.
The forecast dividend yield for 2024 is 3.9%. This rises to 4.3% in 2025 and 4.7% in 2026. While this isn’t as strong as Lloyds, it’s worth noting that Barclays has a very strong dividend coverage ratio — 3.75 times in 2023.
Like Lloyds, Barclays faces some of the near-term concerns mentioned above. While the economy isn’t in recession, we’re not out of the woods yet.
While Barclays should also benefit from falling interest rates, management’s promised a game-changing strategy to revive the company’s fortunes.
CEO CS Venkatakrishnan wowed investors earlier in the year with his plans to cut costs and allocate an additional £30bn of risk-weighted assets to its UK retail bank — the most profitable part of the business — in the years to 2026.
Barclays already appears to be making moves towards this goal with the acquisition of Tesco‘s banking arm for £600m.
The bottom line
If investing for a second income, my choice would be Lloyds. It simply offers a stronger dividend yield over the medium term.
While Barclays is more diversified and is embarking on an exciting programme to improve returns, Lloyds may also have more room for share price appreciation over the same period.
This post was originally published on Motley Fool
