Legal & General (LSE: LGEN) shares are down 14% from their 31 January 12-month traded high of £2.58. As a stock’s price and yield move in opposite directions, the shares now pay an annual dividend return of 9.2%.
However, the financial services and asset management giant has pledged to push these payouts even higher in the coming years. It promised a 5% increase this year from last year’s 20.34p dividend. This would produce a 2024 payment of 21.36p a share (giving a current yield of 9.7%).
It has then pledged to increase this by 2% in 2025 (to 21.79p) and by another 2% in 2026 (to 22.23p). These rises would generate respective yields of 9.9% and 10.1%.
How much passive income could be made here?
Passive income is money made from minimal effort, such as dividends paid by shares. I have focused on stocks that can maximise this revenue stream for me since I turned 50 a while ago. I aim to increasingly live off these dividends.
I am considering buying another £5,000 of Legal & General shares to add to my current holding. This would make £460 in dividends this year at a 9.2% yield.
Over 10 years on the same basis, this would rise to £4,600 and over 30 years to £13,800.
Turbocharging returns by compounding
These returns are not to be sniffed at certainly, but much more can be made using ‘dividend compounding’. This is a standard investment practice in which more stock is bought with the dividends that it pays.
By using this method on the same average yield, my £5,000 would make another £7,503 after 10 years, not £4,600. And after 30 years on the same basis, I would have made £73,172 in dividends, rather than £13,800.
By that time, the total value of my Legal & General shares (including the £5,000 initial investment) would be £78,172. On a 9.2% yield, I would be making an annual passive income of £7,192, or £599 each month!
How does the share value look?
A company’s dividend (and its share price) are driven by its earnings growth over time.
A risk for Legal & General is a reversal of the recent downward trajectory in UK inflation and interest rates. This could prompt a resurgence in the cost of living and cause customers to close their investments with the firm.
That said, consensus analysts’ forecasts are that the firm’s earnings will grow by 28% a year to end-2026. Factoring this growth along with other figures into a discounted cash flow analysis shows the shares are currently 59% undervalued.
Therefore, a fair value for Legal & General stock is £5.39, although it may go lower or higher than that, given market unpredictability. However, it underlines to me how cheap the stock looks, in addition to being a passive income gem.
Will I buy more of the stock?
I have bought Legal & General shares several times over the years for the firm’s strong growth prospects. Nothing has changed here, in my view.
Ultimately, I expect these to drive the share price much higher, in addition to maintaining a very high dividend yield.
As such, I will be buying more shares very shortly.
This post was originally published on Motley Fool
