Income investors love big dividends, but what they crave most are reliable dividends. After all, what good is a juicy payout that quickly disappears? For this reason, bank stocks have long seemed suspect to many seeking passive income. From the global financial crisis to this year's wave of bank failures, these stocks have gained an unreliable reputation.
But what if I told you there is a group of bank stocks paying industry-leading dividends that have proven resilient over the past two decades? These stocks combine blue-chip stability with high yields, and all you need to do is look north of the border. That's right -- Canadian banks can be your ticket to low-stress dividend income.
Canadian banks are powerful
The U.S. banking industry is mainly known for its behemoths, but it's actually fairly fragmented. There are literally thousands of competitors, from nationwide giants that handle multibillion-dollar transactions to a litany of smaller regional and local players.
Canada, meanwhile, has roughly 35 domestic banks, and a handful of them dominate the industry. This consolidation has led to greater pricing power for Canadian banks than their U.S. peers. It also means these banks don't have to take on outsized risk in order to carve out their share of the market. No Canadian bank made the kind of misplaced bets that capsized Silicon Valley Bank's niche lending portfolio.
Partially due to differing regulations, Canadian banks also have stronger balance sheets. Across several metrics, including both liquidity coverage ratios and Tier 1 capital ratios -- two key indicators of safety -- Canadian banks typically come out ahead. This stability was easily verified during the 2008 financial crisis: There were no catastrophic failures like Lehman Brothers or Bear Stearns in Canada. In fact, while U.S. home prices were collapsing -- the driving force behind the financial crisis -- Canadian home prices were rising. That means Canadian banks exited the crisis stronger than before.
From less competition and greater pricing power to stronger balance sheets and resilient end markets, Canadian banks stocks have proven more reliable than U.S. banks stocks over the last several decades.
This resilience creates reliable dividends
Most U.S. bank stocks now have dividend yields ranging between 2% and 5%, including the four largest: JPMorgan Chase (JPM 0.06%), Bank of America (BAC -0.21%), Citigroup (C 1.41%), and Wells Fargo (WFC -0.03%). The average payout for a Canadian bank stock, meanwhile, is considerably higher. Bank of Nova Scotia's (BNS 0.71%) dividend yield, for example, recently surpassed 7%.
The real dividend magic, however, doesn't come from big payouts. Canadian bank stocks shine most when it comes to the reliability of dividends. Over the past two decades, scores of U.S. banks have slashed their payouts, some more than once. The road hasn't been perfect in Canada, either, but it's been a cakewalk compared to the U.S. market.
Consider Toronto-Dominion Bank (TD 0.46%), popularly known as TD Bank. The company's payout did stagnate during the global financial crisis, but dividend payments were soon back near all-time highs. Bank of America, for comparison, slashed its payout to a penny a share. Even after years of gradual growth, Bank of America investors are getting less than half as much per share in dividends as they were before the crisis.
If you're looking to jump into Canadian banks, TD Bank is a great first choice. Its lucrative and reliable dividend is great for steady income, while its industry-leading Tier 1 capital ratio shows the bank is well-equipped to absorb sudden losses. Its lending portfolio is extremely diversified, spanning dozens of sectors and geographies. And at recent prices, shares trade around 1.35 times book value, a discount to its five-year average of 1.6 times book value.
Canadian banks like TD Bank benefit from many structural advantages, all of which have fueled higher and more reliable dividends than the average U.S. bank stock.
Canadian banks aren't risk-free
Keep in mind that no matter how attractive Canadian bank stocks are versus their U.S. peers, these are, after all, still bank stocks. That means their performance will be strongly correlated to the performance of Canada's economy.
What are the biggest trends you should be paying attention to? The first is energy markets. Canada's economy is still highly reliant on fossil fuel production. As the saying goes, wherever oil prices go, so goes the loonie, the nickname for Canada's currency. And on average, Canadian banks have higher exposure to residential mortgages than U.S. banks. The health of the country's housing market, therefore, is a critical factor for balance sheet health.
Canadian bank stocks are far from risk-free, but if you're looking for income-producing investments, don't get stuck just looking at U.S. options.
