3 Canadian Bank Stocks for Value and Dividend Income
Investors may not realize that Canadian banks tend to trade for lower valuations than their U.S. counterparts, and many also have higher dividend yields.
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Geographic diversification can be valuable for stock market investors. When one country is in recession, another might not necessarily be in the same condition. There are times when stocks from other countries might be more attractively valued, or have better growth prospects that domestic stocks.
For this reason, investors should consider Canadian banks. Investors may not realize that Canadian banks tend to trade for lower valuations than their U.S. counterparts, and many also have a higher dividend yield.
Below, we'll highlight three Canadian bank stocks that are attractive for income investors.
Canadian Bank #1
Bank of Nova Scotia BNS (often called Scotiabank) is the fourth-largest financial institution in Canada behind the Royal Bank of Canada RY , the Toronto-Dominion Bank TD and Bank of Montreal BMO . Scotiabank reports in four core business segments: Canadian Banking, International Banking, Global Wealth Management, and Global Banking & Markets.
Scotiabank reported fiscal Q4 2023 results on Nov. 28. For the quarter, revenue rose 8.9% to C$8.3 billion, while non-interest expenses jumped 22%. Ultimately, adjusted net income declined 36%, which translated to adjusted earnings per share falling 39%. Provision for credit losses more than doubled year over year. The bank's capital position improved -- the Common Equity Tier 1 ratio was 13.0% versus 11.5% a year ago.
Scotiabank's 10-year EPS growth rate was just north of 2.4% in Canadian dollars and essentially flat when converted to USD. BNS could have more volatile earnings because of its exposure to international markets and different currencies. For now, we give BNS an EPS growth rate of 4.8% and a DPS growth rate of 4.0% through 2029, which should keep the dividend growing modestly.
From fiscal 2014-2023 and 2019-2023, Scotiabank traded at an average price-to-earnings ratio of about 11.0 and 10.5, respectively. We use the more conservative P/E of 10.5 as our target multiple, due to the slightly more negative EPS outlook. Using our 2024 EPS estimate, the bank currently trades at a P/E ratio of 9, which makes the stock slightly undervalued.
BNS normally has a payout ratio of around 50% that aligns with other big Canadian banks. Its payout ratio was higher than normal in fiscal 2020 due to a higher provision for credit losses from pandemic impacts. BNS's payout ratio is again higher than normal, but we expect it to head towards the 50% range.
BNS stock currently yields 6.6%.
Canadian Bank #2
Bank of Montreal BMO was formed in 1817, becoming Canada's first bank. The past two centuries have seen Bank of Montreal grow into a global powerhouse of financial services and today, it has about 2,000 branches (including Bank of West branches) in North America. In a normal year, Bank of Montreal produces about C$14 billion in net income. It generates about 45% of earnings from the U.S. (including Bank of the West) and the rest primarily from Canada.
Bank of Montreal reported its fiscal Q4 2023 financial results on Dec. 1. For the quarter, compared to a year ago, adjusted net revenue declined 25% to C$8.2 billion and adjusted net income rose marginally by 0.7% to C$2.2 billion. Adjusted diluted EPS declined by 8% to C$2.81. Higher provision for credit losses (PCL) of C$446 million (versus C$226 million a year ago) as well as a 19% jump in non-interest expense to $5.7 billion weighed on earnings. The bank's common equity tier 1 ratio remained solid at 12.5%, down from 16.7% a year ago. It also increased its quarterly dividend by 2.7%.
From 2014 to 2023, the bank increased EPS by 6.6% in local currency. The company estimates medium-term EPS growth of 7-10% per year. Through 2029, we use a 5% growth rate for the EPS.
From 2014-2023, BMO's average P/E ratio was 11. From 2019 to 2023, it was 10.4. We think a P/E of 10.4 is more conservative for the expected longer-term EPS growth rate of about 5%. The current P/E of 9.3 makes the stock slightly discounted.
BMO's dividend policy is a payout ratio of 40%-50%. Its payout ratio was higher than normal in 2020 and 2023 due to higher provision for credit losses from a more negative macro-outlook. We expect BMO's payout ratio to stay within its target payout ratio range in most years.
BMO stock currently yields 4.6%.
Canadian Bank #3
Toronto-Dominion Bank TD traces its lineage back to 1855 when the Bank of Toronto was founded. It is now a major bank with C$1.8 trillion in assets. The bank produces about C$14 billion in annual net income each year.
TD reported fiscal Q4 2023 earnings results on Nov. 30. For the quarter, TD reported revenue decline of 16% to C$13.1 billion with the net income falling 57% to C$2.9 billion. A drag on earnings came from C$878 million of provision for credit losses which was 42% higher year over year, 39% higher insurance claims and related expenses, and a 20% jump in non-interest expenses. The adjusted revenue growth was 8%, while adjusted net income came in 14% lower.
TD's medium-term goal is to grow adjusted EPS by 7-10% per year. However, the foreign exchange fluctuation between the C$ and US$ will impact the effective growth rate. That said, TD's EPS performance has been stable in the last decade despite forex volatility. From 2014 to 2023, the bank increased its EPS by 5.1% per year (and DPS by 5.9%). Fiscal year 2020 was one of those abnormal years with a pandemic triggering a decline in TD earnings. Results rebounded strongly in the subsequent year. We estimate TD can grow its EPS and DPS by 5.0% per year through 2029.
TD normally has a dividend payout ratio of under 50%. The bank's competitive advantage is its focus on retail banking in Canada and in the U.S. This means the stock's performance will be closely related to the health of the North American economy, for which there are worries of a recession if interest rates rise too quickly. Still, as a leading North American bank, TD stands as one of the strongest banks that can navigate through any economic hardship.
In November, TD increased its quarterly dividend by 6.25%.
TD stock currently yields 4.7%.
At the time of publication, Ciura had no positions in any securities mentioned.