Dividends are recovering – but will it continue?

It’s been a good week for dividend recovery. Shares in the stricken Royal Bank of Scotland jumped 3.1 per cent to 257.9p on news that it will make its first dividend payment since the 2008 bail-out. The 2p per share interim dividend is hardly likely to set pulses racing and it is subject to the finalisation of a $4.9 billion (£3.8bn) settlement with US Department of Justice over the sale of mortgage-backed securities.

Over at rival bank giant Lloyds, the interim dividend has been hiked to 1.07p per share after announcing a 23 per cent jump in profits to £3.1bn in the first six months of 2018. The news sent shares 1.6 per cent higher to 63.4p. Another one-time favourite, oil giant BP announced a dividend rise for the first time in nearly four years, after a quadrupling of profits.

BP shares rose 1 per cent to 571p after a dividend standstill for the last 15 quarters. The hike comes on the back of profits of $2.8bn for the three months to the end of June, ahead of expectations and four times more than over the same period last year.

What is particularly heartening about these announcements is the sense that troubled times for these companies are now largely behind them. With that comes the expectation of further pay-out rises.

But are these companies really out of the woods? Are they less vulnerable to shocks? What of the quality of those recovering profits?

Legacy issues, by their nature, require a long recovery period. Banks will long live under the shadow of the financial crisis, and their survival owes everything to a monumental government bail-out. This was a crisis not lightly to be forgotten – nor should it ever be. The companies are still vulnerable to external shock over which they have little control.

What is notable is how hesitant the share price recoveries have been, for all the promise of better times ahead. Shares in RBS at 257p are still around 15 per cent lower than in June, despite a £1.8bn pretax profit for the first half of 2018. Investors should have been further buoyed by RBS’S plans to move towards a 40 per cent payout ratio, together with the promise of “further distributions in addition to regular dividend payouts”.

Shore Capital analyst Gary Greenwood said the resumption of dividends showed RBS’S “tremendous progress in addressing legacy issues over the past 12 months”.

All very bullish. So why has the share price reaction been so muted? Russ Mould, investment director at AJ Bell, said investors were “probably right to demand such a high yield to compensate themselves for both the residual risks associated with the company and its lack of real underlying growth. The bulk of the improvement in profits is still coming from lower litigation costs, lower loan impairments and lower restructuring charges, so the quality of earnings may not be great, even if the quantity pleases”.

Investors in Lloyds may be feeling particularly aggrieved over the lacklustre performance of its shares.

The dividend rise puts them on a prospective yield of 5.5 per cent, the highest of the big five FTSE 100 banks, with a healthy dividend cover of 2.1 times.

Since chief executive António Horta-osório, left, took over in 2011 the bank has swung from an annual loss of £260 million to a profit of £3.5bn. But the shares at 62.5p are roughly the same level as when he took command.

Here, too, the improvement in profits belies continuing large provisions for “legacy issues”. There was a further £550m provision for PPI mis-selling compensation taking the total set aside by the bank to £19.2bn. The good news for shareholders is that this firsthalf provision is around half the amount set aside over the same period last year.

All told, the combined cost of bad loans, PPI and restructuring costs fell by £539m compared to the first six months of 2017.

While PPI provisions have declined year-onyear, the bank’s fresh hit was still an “unwelcome development” said Interactive Investor head of markets Richard Hunter, given £460m was set aside in the second quarter.

Consigned to history? Not quite. Britain’s banks face the threat of a huge new PPI bill that could add to the staggering sum of £30bn already paid out in compensation, following a court ruling lauded by claims management companies as “hugely significant”.

The ruling suggests that even if PPI was not mis-sold, the buyer may still be able to reclaim because commissions were excessively high.

If it stands, it presents a fresh PPI nightmare for Britain’s banks. In addition to the colossal £19bn paid out by Lloyds, RBS has paid out £5bn and Barclays £9bn. Has anyone been brought to book for this? Has anyone been fired?