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A high dividend yield is the most important thing to look for when choosing stocks for income, right? Not exactly. The thing about yield is that it can be attractive for exactly the wrong reasons. If the share price falls and dividend payments remain stable, the yield naturally increases. Suddenly, a 5% yield becomes a 10% yield – great news!
Except the real news might be that the stock price just dropped 50%. Of course, if the company really did double its annual dividend payment, then that's big news. So it's important to check.
It also makes sense to evaluate the company's underlying fundamentals to see if it's reliable. There's nothing worse than investing in a high-yielding stock only to have its dividend cut due to weak earnings. It's also worth checking the ex-dividend date. A closer date reduces the chances of anything serious happening before the payout.
With all this in mind, I am considering the prospects for high performance. FTSE 250 Index stock.
The specialized banking group
OSB Group's (LSE: OSB) is a financial services company offering specialist mortgages and retail savings accounts through its various subsidiaries, which include Kent Reliance, Precise and Charter Savings Bank.
The high yield makes it look like a great moneymaker, but as I noted earlier, the high yield is the result of a price drop. A reduction in margin guidance in August caused a 25% drop in price, bringing the yield from 6% to 8.5%.
The company’s H1 2024 results revealed that underlying pre-tax profit more than doubled to £249.9m and its net lending book grew by 15%. Underlying return on equity increased by 18% and a £50m share buyback programme was announced.
So is it worth investing in?
Recent falls aside, the price has remained relatively stable over the past five years. It has seen some volatility of late, but has generally held a position between 400p and 500p. Growth has been slow, but that is typical of companies seeking to generate value through dividends.
One promising metric is the price-to-earnings (P/E) ratio of 3.8. This has also come down along with the price drop, from 7.3 in June. So it could be a potential bargain right now – that is, assuming it goes back up.
According to several analysts who rate the stock, that’s exactly what they expect to happen. Their average 12-month target price is 547p, a 43% increase from the current price! And based on future cash flow estimates, the stock is 77% undervalued.
My verdict
There are strong arguments for growth, particularly as the mortgage market is improving, but given that most metrics use historical data, they are not a very accurate indication of what might happen in the future.
The forecast for tight margins is a much more telling sign of future performance, and it has spooked investors. That could hurt the stock price. Still, I think the high yield makes the stock a worthwhile investment, so I've added it to my buy list for October.