An unexpected winner among Canadian bank stocks
Canada’s banks have become the envy of the financial world, says this analyst, but the best Canadian bank stock may be the least known.
The world admires Canadian banks.
U.S. investment publications in particular often sing the praises of the Canadian banking system and its performance during the financial crisis.
It was not a perfect performance, as several of Canada’s big banks got caught with bad paper. But it was far better than most.
Now that the banks have started raising their dividends again, investors who have stayed away from bank stocks can probably just pick one of the big five and buy in, right?
Not so fast, says one Canadian analyst. The Canadian bank stock that has done the best over the past five years is none of the above.
It is not a stock that is on everyone’s radar and whose name pops up in the business media like clockwork.
It is, in fact, Laurentian Bank (TSX-LB), says Dr. Sunil Vidyarthi.
This seasoned analyst makes the case for this not-so-glamorous bank in Investor's Digest of Canada. Along the way, he reveals a few home truths about stock picking. And about being a contrarian.
“If everyone knows the good news, chances are you’re already late to the party. And if there’s one sector most Canadian investors are quite in love with, it’s banking.” But you may not be late with Laurentian.
The usual suspects
If you were asked what Canadian bank performed best over the past five years, says this analyst, you would certainly be forgiven if you named the usual suspects.
Toronto-Dominion Bank (TSX-TD), perhaps? Not a bad choice. TD raised its dividend in March and now yields 3.2 per cent on its payout of $2.64. The stock has risen steadily and trades at $82.78, knocked back a bit from its end-of-March high by recent market turbulence.
Or you might say Royal Bank of Canada (TSX-RY), the largest stock by market cap on the TSX. It hasn’t raised its dividend yet, but it still yields 3.3 per cent on its $2.00 payout. It has also risen recently to sit at $60.04.
On the other hand, some might opt for a smaller bank that has gotten lots of love from analysts, Canadian Western Bank (TSX-CWB). It is consistently profitable and it raised its dividend in December. The yield is 1.7 per cent on a payout of $0.52. The shares have flattened out a bit lately, but at $30.13 they’re still close to the February high of $31.75.
All of these banks have done well and all are sound investments. But they and their colleagues still played follow the leader.
Return on equity
Laurentian Bank has lagged behind its rivals in many of the traditional benchmarks of banking. Return on equity, for instance. And revenue growth. Nor has it spread its wings into new markets.
And yet it has outperformed those rivals as a stock. It has returned 60 per cent over five years. The other “smaller bank,” Canadian Western, has returned about 40 per cent — and it has the advantage of serving a booming Western Canadian economy, this analyst points out.
Some analysts, Dr. Vidyarthi admits, believe Laurentian might come back to the pack. Several have it as a hold.
The chief sticking point is that all-important measurement, return on equity. Laurentian’s is less than 12 per cent. That’s up from nine to 10 per cent a few years ago.
But the major banks had an average return on equity of almost 20 per cent in the heady days before the financial crisis — and they’re still ahead of Laurentian by some four per cent.
Of course, this is reflected in the stock’s price/earnings (PE) ratio, says the analyst. It stands at less than 11. Its forward PE ratio is less than 10, figures that indicate there is ample room for growth.
Thus the question is, will the market “pay for history or look forward?”
Closing the gap
As long as the Chinese economy holds up, our economy and our banks will continue to do well, forecasts Dr. Vidyarthi in Investor's Digest of Canada. “And Laurentian will keep closing the gap with its rivals.”
In its latest quarter, the bank pushed up its total revenue, net income and credit quality from the year before. In keeping with its recent history, however, return on equity was lower.
The bank has the means to get that return on equity higher, states the analyst. “Laurentian’s focus, agile growth and execution constitute competitive advantages,” he says.
To name just one, it has exclusive rights to all 81 automated teller machines on the Montreal transit system.
Dr. Vidyarthi expects a further increase in the stock price over the next few years — “one that’s over and above what may happen to the sector in general.” In short, even after outdoing its rivals for five years, this stock is still undervalued.
Up 30 cents today, the shares trade at $50.40, about five dollars off their early February high. They yield 3.1 per cent on a dividend of $1.56, which was raised for the second time in a year this past December.
There are plenty of good reasons to turn to the most familiar stocks, this analyst admits. But look a little deeper, and you may hit the jackpot with a winner that many investors didn’t even consider.
|
E-mail this article
Printer-Friendly
