bank stock question | General financial discussion | Discussion forum

Last time I picked two of the big 5 bank stocks those two were the ones that went down.

I'm with Kanaka for you to buy a bank heavy ETF.

Here are partial results for the category Financial Services Equity from my RBC DI screener. You could search any or all of these using the trading symbol.

CEW iShares Equal Weight Banc & Lifeco Fund Common Class
FXF First Asset Can-Financials Covered Call ETF Common
HEF Horizons Enhanced Income Financials ETF Common Class
HXF Horizons S&P/TSX Capped Financials Index ETF
XFN iShares S&P/TSX Capped Financials Index Fund
ZEB BMO S&P/TSX Equal Weight Banks Index ETF
ZWB BMO Covered Call Canadian Banks ETF

GS

That is a loaded question.

RRSP - you will have to pay a minimum of 20% income tax on the principal plus growth when you withdraw. But you may get a income tax refund from the RRSP contribution.

TFSA - you won't be taxed at all. But no income tax refund and will be limited to your contribution room.

RRSP/TFSA no hassles with income tax on dividends and reporting a loss or gain at time of sale.

Short answer: it depends on your personal and financial circumstances, obviously. And yes, picking an ETF ensures you are "equally weighted" among all the major Canadian publicly-traded banks so you're not "picking a laggard". The downside(s) are: you're paying management fees for arguably the safest and most profitable Canadian industry, with a 100+ year history of growing dividends per share over time and never having cut their dividends. So really, I'd rather buy ETFs for my RRSP/Locked-In RSP and/or possibly by TFSA for the portion(s) of my portfolio where I either seek index return replication or areas of the market I have little knowledge of (i.e., bonds, perhaps commodities and global/emerging/frontier markets).

For something like the Canadian banks, I think you'll do just as well (they will all continue to do well, despite competition from upstarts [though that is waning, with the high-profile exit of Ally Canada from the Canadian landscape, Scotiabank buying ING DIRECT Canada in 2013 and the likely exit/sale of Canadian Tire Bank/Canadian Tire MasterCard portfolio in 2014], they are an oligopoly and enjoy a favourable regulatory environment that makes barriers to entry high). Some will have periods of lagging (Scotiabank & National Bank of Canada seems to be lagging the industry, when you compare it to TD, RBC and BMO in 2014), but that's why I think they're attractive. If Scotiabank were to pull back a few dollars, I'd look at adding to my 25 share position. I continue to like TD (disclosure: I do hold 153 shares post-split) and I like CIBC for the stability, albeit slower growth, of their core retail banking & wealth management earnings and a substantially de-risked balance sheet (they're ranked as #1 or #2 in the world in terms of best capitalized and lowest risk in the global rankings) and the 4.25% dividend yield is attractive. I like National Bank, too, thanks to their less focus on the higher growth/higher risk Capital Markets segment and increased focus on wealth management (they may lack a Western presence in retail banking, but they make up for it in wealth management, with National Bank Wealth Management offices in every major community in each of the western provinces and National Bank Discount Brokerage offers arguable the #2 or #3 most competitive pricing and highest customer service coupled with quality stock reports in the Canadian self-directed brokerage industry). Although I'm hesitant to add a fourth bank to my portfolio, if it were to pull back to sub-$40 per share, their book value (thanks to acquisitions in the last couple of years) is now in the mid-$20s per share and would look very attractive with a P/E Ratio of between 8 and 9.

The key with bank stocks is to maximize your return by not overpaying and I wouldn't pay more than 2x book value (1-1.25x would be ideal, though that doesn't happen as often) and, as far as P/E Ratios go, look for anything under 10 (if you can). Worse case, I might pay 11-12 for a company like TD if a long-term time horizon, but that will diminish your total shareholder return as you're potentially buying at or near their higher price points.

As for buying them in a TFSA, for a long-term hold and if buying them at, let's say 1.75x book/10x P/E multiple (or lower), although you would lose the capital loss potential (which isn't really applicable in the Canadian banks, especially if buying more than 5 years) and dividend tax credits, the long-term capital gains appreciation of the stock price and dividend increases coupled with the safety of the dividend make it a good potential use of your TFSA. Although past performance won't be indicative of future returns, for my own, it would not be unreasonable for me to predict the future value of my own TFSA invested in Canadian bank stocks (if I had them in my TFSA) to grow comfortably and slowly over the next 30 years from $30,000 to $90,000 over the next 25-30 year time horizon (including reinvested dividends).

As for stock splits, they don't generally have much of an impact on shareholder return, except, I'd argue in the Canadian banks. Because of the relative safety/strength of their dividends, when you now own twice as many shares, your dividends are reinvested at a lower price point instead of paid in cash because most people own their shares as "beneficial owners" through a broker/intermediary meaning their broker/broker's clearing agency (the Canadian Depository for Securities) registers the shares in their and you've elected them as your "nominee". Because of that, fractional shares normally purchased through a registered DRIP from the Bank's transfer agent aren't possible so you can only purchase shares (generally at a discount to the market price) when your dividend is equal to or higher than the share price. With a lower share price, the likelihood of reinvesting those dividends into a share (or a higher number of shares) is greater. This gives you a greater compounding effect to your dividends.

kanaka - not sure where you get your numbers from, but if you're referring to withholding tax on RRSP withdrawals, that is 10% on the first $5000 of the withdrawal. And, the withholding tax percentage is per-withdrawal based not cumulative of all withdrawals for the tax year. Now, depending on your marginal tax rate and effective average marginal tax rate, you may have to pay more tax come tax filing time or receive a refund for overpayment of tax. I think my average income tax rate was at or under 10% last year and has never been more than 15% (on anywhere from $27,000 to $36,000 of annual income).

Cheers,
Doug

Kilarney
You have to choose TFSA, RRSP or non registered based on your current income, RRSP and TFSA contribution room and your personal preferences. But for younger folks with two options and "if" income is real good I would max out RRSP and TFSA and make sure the tax refund from the RRSP contribution is invested in the RRSP or TFSA.

Also review what is said here about grossing up when you declare dividends outside of a registered plan.

If you are happy with the room you have in your TFSA and that is satisfactory for how much you would like to invest....I would go TFSA.

Doug
Hi, correct. I should have said "average tax" is 20%. But who knows how much Kilarney is making?
In regards to RRSP withdrawal yes 10%, 20% etc. BUT that is not the true income tax and for Kilarney's sake to cover that the actual tax will show once your actual return is completed and MAY be more or less as you say. But never the less CRA gets the better part of their share upon withdrawal.

Once again, I'm not sure I understood all of these comments. Wish I did.
I did look on the ING site, and could not find a "Fees" page that looked to be comprehensive, so be careful - unless I missed it.

Doug, anyone who knows as much as you do ought to be earning a lot more money. Can we help you find a better job??

Greg, I have been reading a couple of books lately which suggest the best strategy for collapsing RRSP/RIFs is not necessarily to wait until you are 71. If you are concerned about the tax bite from a largish RSP, they are saying you might consider starting to withdraw it when you retire, enough to max out your current tax bracket, as it could cost you more later.

thanks, Greg. Sounds like you are on the right track.
I am not much good with computer programmes, myself.
I am a bit fuzzy on whether, apart from getting the pension tax credit, there is any need to convert to RIF before 71, or if it's just OK (and more control) to withdraw directly from RSP. I suppose an advantage of conversion might be that you could keep the same investments without having to change anything in that regard? This question probably doesn't belong in this thread, but it occurs to me now.

I am not sure I understand you, Kanaka, probably because I have not been in this position.
Are you saying that for some reason you must choose whether to withdraw from RSP/RIF your GICs or from your stock market stuff? I obviously haven't given this any thought, but why can't you take some of each? diversification in reverse, you might say.
I'm sure there is something I don't understand, but diversification makes theoretical sense to me.
If that's not possible, as you are still relatively early in the retirement process, perhaps hold onto the Mutual funds/etfs, if you think the market will go up. If you are conservative, and need the reliability of income in the future, perhaps best to keep the GICs.

What you get, Greg, is a tax credit. $300 federal, and I believe it's $60 provincial in Ontario. In a 20% tax bracket, that would almost wipe out the tax on $2000 and would refund your withholding tax. It only comes via RIF, not via RSP withdrawal.6
It gets advertised as a complete freebie but I don't see where that is quite the case. Someone will correct me if I'm wrong, I'm sure.
If you belong to an employer-based pension plan, then you can get the same tax credit that way, but you only get one or the other.

That's correct. RSP withdrawals as such don't count.