Big 5 Canadian banks are all buys

The big five Toronto-based Canadian banks have reported their results for the first half of fiscal 2016. It pays to bet on them. All five remain buys for generous and growing dividends as well as long-term share price gains.

Some investors get worried when the big five banks report their second-quarter results. That’s because they usually earn a little less in the second quarter. What these investors overlook is that the second quarter is always two or three days shorter. Even in a leap-year, such as 2016, the second quarter (February, March and April) lasts for 90 days. The first quarter (November, December and January) lasts for 92 days. Given the banks’ enormous earnings, even two extra days make a big difference. Looking at quarter-after-quarter results can mislead you.

It’s better to look at the big banks’ expected full-year earnings. All five are expected to earn a little more this year and next (which starts on November 1). This year, Bank of Montreal’s (TSX─BMO) earnings are expected to rise by 1.6 per cent, to $7.11 a share. Bank of Nova Scotia’s (TSX─BNS) are expected to advance by 1.9 per cent, to $5.83 a share. Canadian Imperial Bank of Commerce’s (TSX─CM) are expected to creep up by 1.5 per cent, to $9.59 a share. Royal Bank of Canada’s (TSX─RY) are expected to inch up by 1.1 per cent, to $6.73 a share. Toronto-Dominion Bank’s (TSX─TD) are expected to climb by a relatively healthy 3.7 per cent, to $4.78 a share.

Continue to buy

Based on these estimates, the top five banks in Canada trade at attractively-low forward price-to-earnings, or P/E, ratios. Bank of Montreal, or BMO, trades at a P/E ratio of only 11.7 times. Bank of Nova Scotia, or Scotiabank, trades at a P/E ratio of 11.1 times. Canadian Imperial Bank of Commerce, or CIBC, trades at a P/E ratio of just 10.6 times. Royal Bank of Canada, or Royal, trades at a P/E ratio of 11.9 times. Toronto-Dominion Bank, or TD, trades at a P/E ratio of 12.1 times. Its higher P/E ratio reflects its superior growth prospects.

The S&P/TSX Composite Index as a whole has a P/E ratio of 19.8 times. The big banks have a heavy weighting on the Composite Index. Exclude the banks and the Toronto market’s overall P/E ratio would move unattractively higher. A skeptic might argue that the big five banks almost always trade at lower P/E ratios than the overall market. As long as such is the case, however,  it’s another reason to continue to buy these very conservative financial stocks.

Dividends are excellent . . .

The big five banks also pay generous dividends. Specifically, BMO’s dividend of $3.44 a share yields 4.13 per cent. Scotiabank’s dividend of $2.88 a share yields 4.43 per cent. CIBC’s dividend of $4.84 a share yields 4.74 per cent, the highest of the big five. Royal’s dividend of $3.24 a share yields 4.03 per cent. TD’s dividend of $2.20 a share yields 3.82 per cent. Its lower dividend yield also reflects its better growth prospects.

The average dividend yield of the 30 stocks in the Dow Jones Industrial index is 2.75 per cent. This is far below the dividend yields of the big five banks. The average dividend yield of the 500 stocks in the S&P 500 (Standard & Poor’s 500-stock index) is an even lower 2.17 per cent. The Toronto Stock Exchange now charges for its dividend yield information. That’s why its hard to come by. Even so, the banks almost always yield significantly more than the Canadian market as a whole.

What’s more, the big banks continue to raise their dividends. In the second quarter alone, BMO raised its dividend by a yearly eight cents a share. CIBC increased its dividend by a yearly 12 cents a share. TD raised its dividend by 16 cents a share—the most. Scotiabank and Royal also increase their dividends frequently. In other words, the big banks will reward you for holding their shares.

. . . and growing

The big banks’ growing dividends stand in contrast to the overall market. Many commodity producers, in particular, slashed or eliminated their dividends. As we often point out, steadily rising dividends give you an ever-rising yield, or a higher share price, or both. After all, growing dividends attract investors who need income. They eventually bid up the share prices of ‘dividend aristocrats’, such as the big banks.

If earnings growth slows for most companies, they’ll likely simply maintain their dividends. In this event, the banks’ growing dividends will prove even better. With well-diversified businesses, we expect the banks to continue to earn growing profits. In 2017, BMO’s earnings are expected to rise by 2.8 per cent, to $7.31 a share. Scotiabank’s 2017 earnings are expected to climb by 5.1 per cent, to $6.13 a share. CIBC’s 2017 earnings are expected to inch up by 1.6 per cent, to $9.74 a share. Royal’s 2017 earnings are expected to increase by 3.7 per cent, to $6.98 a share. TD’s 2017 earnings are expect to advance by 5.9 per cent, to $5.06 a share. Again, TD will continue to enjoy the fastest earnings growth of the big five banks. We expect their earnings and dividends to continue to grow for many years to come.

All of the big five banks remain buys for generous and growing dividends as well as long-term share price gains.

 

The MoneyLetter, MPL Communications Inc.
133 Richmond St. W., Toronto, On, M5H 3M8, 1-800-804-8846

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