Everyone wants passive income, right? But whether it’s supplementing my income now, or using my compound returns strategy to top up my retirement pot, choosing the right stocks can be tricky. Right now, I’m looking at banking stocks.
Interest rates are on the rise and that’s good for banks’ margins. It might slow new business, but existing customers will be paying more to service their loans, including mortgages.
And with inflation tipped to hit 18%, interest rates really could go a lot higher than most are expecting. In fact, Bloomberg suggests UK interest rates could go as high as 4% next year.
Interest rates in the UK haven’t been that high since 2008. And while these are a response to the soaring levels of inflation, I think, in the long run, rates will be higher than we’ve seen over the past decade.
And as net interest margins (NIMs) — the difference between savings and lending rates — rise, I think these two banks could raise their dividend payments accordingly. Moreover, banks don’t tend to fail that often. In fact, both of the ones below were founded in the 18th century.
So here are two discounted banks, both with sizeable dividend yields, that I’ve recently bought to enhance my passive income earnings, now and for years to come.
Close Brothers Group
Close Brothers Group (LSE:CBG) is a merchant banking company that offers financial services to small businesses and individuals in the UK. The FTSE 250 firm provides securities trading, lending, deposit-taking and wealth-management services. Specific offerings include financing for car buying, property development, and asset purchases.
The share price is currently 29% down over 12 months. But I think that discounted share price is a good entry point. Its loan book has continued to grow despite the macroeconomic environment and that its NIM is a sizeable 7.8% — albeit only a slight rise on last year.
But with interest rates going up, I’d expect Close Brothers’ NIM to grow further. The loan book may slow down if rates continue to rise, but there is plenty of resilience here. RBC recently highlighted the bank’s defensive qualities as it has a consistent track record of earnings even during recessions.
It currently trades with a price-to-earnings (P/E) ratio of just 7.6. It also has a dividend yield of 5.5%.
Lloyds
Some 61% of Lloyds‘ (LSE:LLOY) loans were mortgages last year. That’s a fairly safe part of the market, in my opinion. But with rate rises, it could be a highly profitable one.
Lloyds recently said its NIM was now expected to be greater than 280 basis points. And the bank’s NIM has responded quickly to higher rates. At the end of the second quarter, the net interest margin stood 30 basis point above where it was during the last quarter of 2021.
Several brokerages have reiterated their positivity on Lloyds in recent months. Analysts at Bank of America upped their price target to 60p and highlighted the robustness of the UK bank’s credit quality.
Although recession forecasts won’t be good for credit quality, I think higher interest rates will more than make up for that.
Lloyds has a P/E ratio of 5.9 and a dividend yield of 4.6%. I can see dividend payments increasing if net interest margins continue to rise.
