Should you buy Westpac Banking Corp shares for its 5.5% dividend?

When it comes to dividends, many investors will go straight to the big four banks for their generous yields.

This is hardly a surprise. After all the Westpac Banking Corp (ASX: WBC) dividend not only smashes term deposits and high interest savings accounts, but also the market average 4.3% yield.

So should you snap up shares in Australia’s oldest bank today?

I’m not sure you should. Whilst there’s no denying that Westpac’s trailing fully franked 5.5% dividend is attractive, I think it comes with significant risks.

With its shares trading at a level I would deem to be overvalued, I think there is a danger that an investment today could result in a loss over the next 12 months.

In my opinion the fair value for Westpac’s shares at present is around the $30 mark. At this share price Westpac would be trading at close to 13x trailing earnings, which is the average price-to-earnings ratio its shares have traded at over the last 10 years.

Should Westpac’s shares fall to my fair value price, it would mean a decline of approximately 12% from the current share price. Even after factoring in the dividend this would equate to a 6.5% loss on your original investment.

What about the other big banks?

Unfortunately I think it is the same story for Commonwealth Bank of Australia (ASX: CBA) and Australia and New Zealand Banking Group (ASX: ANZ), which both look expensive compared to historical levels.

While National Australia Bank Ltd. (ASX: NAB) shares look to be better value by comparison, they still don’t stand out as being in the buy zone just yet.

In light of this I think investors would be better off avoiding the sector altogether until their respective share prices come down to more reasonable levels.

Until then I would invest in this dividend share. It has a yield comparable to Westpac and bucket loads of growth potential.

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Motley Fool contributor James Mickleboro has no position in any stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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