There are three key reasons why the FTSE 100’s financial sector is so appealing to me.
First, it was marked down after the 2016 Brexit decision (for no logical reason, in my view). This devaluation increased in the mini-financial crisis of March/April 2023.
Both overlooked the huge capital-boosting measures ordered by the Bank of England after the 2007 financial crisis.
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Many stocks in the sector have not fully recovered, leaving them very undervalued against their peers. Undervalued stocks are less likely to lose more value over time, which I like.
Second, given this undervaluation, many are prime takeover targets for more highly-valued international firms. To mitigate this risk, they have raised dividends to try to support share prices. High dividends generate big passive income, which I like as well.
Third, most of these businesses look strong to me. This means earnings and profits are likely to increase over time, pulling the share price and dividends higher, which I also like.
A prime case in point
FTSE 100 investment giant M&G (LSE: MNG) is a prime example of these factors at play.
There are risks in the stock, of course. One is its relatively high debt-to-equity ratio of around 1.9. Another is a genuine new global financial crisis.
However, its 2023 results showed a 28% rise in adjusted operating profit from 2022 — to £797m.
Operating capital also rose — by 21% year on year, to £996m – taking the total to £1.8bn over 2022 and 2023.
The company expects to generate £1bn-£1.5bn of additional sales each year from the booming bulk annuity market it re-entered in 2023. This is where companies provide insurance for other firms’ final salary pension schemes.
Overall, consensus analysts’ expectations are that M&G’s earnings will grow at 19% a year to the end of 2026.
Very undervalued
The firm also looks undervalued to me.
On the key price-to-book (P/B) stock valuation measurement, it currently trades at just 1.2. This is the lowest of all its peers, the average P/B of which is 3.4.
By how much is it undervalued? A discounted cash flow analysis shows the stock to be around 48% undervalued against its competitors.
So, with the shares currently at £2.05, a fair value would be about £3.94.
There is no guarantee they will reach that price, but it underlines to me how cheap they look.
What about the dividend yield?
In 2023, M&G’s dividend was 19.7p a share. On the present share price, this gives a yield of 9.6%. This puts it among just a handful of companies in any FTSE index paying over 9%.
Therefore, if I invested £10,000 in the stock, I would make an additional £960 in dividend payments this year. After 10 years on the same yield, I would have another £9,600.
However, if I reinvested the dividends paid back into the stock, I would have made another £16,017 instead.
After 30 years of doing this with an average 9.6% yield, I would have £176,113. This would pay me £16,060a year in dividends or £1,338 a month!
Of course, dividends can change — rising sometimes, but falling too.
Yet given its strong business, high yield, and undervaluation, I will be buying more M&G shares shortly.
