After a long hiatus, banks on dividend revival

Share

If you invest in bank stocks, Toronto-Dominion Bank's foray into the United States should raise one simple question: What's in it for me?

TD, like other Canadian banks, has shown a wonderful aptitude for generating piles of cash over the years, which has translated into steadily rising dividends. However, those dividend increases were put on hold during the financial crisis as banks built up their cash reserves during an uncertain period.

Now that Canadian banks have been reporting blowout earnings during their fiscal first quarter and the financial crisis has begun to lose its intensity, it's reasonable to expect the taps to open once again - especially after banks get clarification on new international rules, expected later this year, on how much capital they must hold.

A resumption in dividend hikes would be a big deal. As attractive as the current dividends on Canadian bank stocks are today (their yields range from a low of 3.5 per cent to a high of 4.7 per cent), the growth of these dividends is even more rewarding to long-term investors.

Even with the recent pause in dividend hikes - a dry spell that is approaching 21/2 -half years in some cases - the five-year dividend growth rate for the Big Six banks still averages about 11 per cent. In the case of TD, the growth rate is a little above the average, at 11.8 per cent, which has had a big impact on the stock's return.

Over the past decade, to the end of February, TD shares have risen 83 per cent, demolishing the 27 per cent return of the benchmark S&P/TSX composite index over the same period. But after factoring in dividends over this period, TD's total return shines even brighter, at 153 per cent - or nearly three times the total return of the index.

Put another way, dividends have accounted for nearly half of TD's total return over the past 10 years, largely because these dividends have been growing. TD isn't alone here, of course. In fact, its long-term gains aren't even particularly spectacular when compared with other banks.

Bank of Nova Scotia's 10-year total return is 381 per cent, and about 36 per cent of this return is due to dividends. Royal Bank of Canada's 10-year total return is 409 per cent, and 35 per cent is due to dividends (full disclosure: I own shares in Royal and Canadian Imperial Bank of Commerce).

The key, of course, is for the dividend growth to resume. There have been dry spells before: TD didn't raise its dividend for nearly five years between 1989 and 1994. Most droughts end, though, and this one is not going to be an exception.