Canadian investors of all ages can take advantage of the TFSA to shelter income from the government, but young investors can really leverage the product to set aside a serious pile of cash.
Why?
Time is the most valuable asset any investor has, and people in their 20s and 30s can tap the power of compounding to turn relatively small initial investments into substantial sums for retirement.
All they have to do is purchase quality dividend-growth stocks and reinvest the dividends into new shares. It’s a bit like rolling a snowball down a hill. The bigger it gets, the more snow it picks up. If the hill is long enough, the end result is pretty impressive.
Investors have utilized this strategy to build wealth for decades, but the arrival of the TFSA means young people can build a nest egg much faster. The retirement fund also doesn’t have to be as big because capital gains are not taxed once the investor decides to cash out.
Which stocks should you buy?
The best plan of action is to pick companies that have long track records of raising their dividends. Ideally, these businesses operate in industries with few competitors and high barriers to entry.
With these thoughts in mind, I think Royal Bank of Canada (TSX:RY)(NYSE:RY) and Canadian National Railway Company (TSX:CNR)(NYSE:CNI) are good picks to get young investors started.
Royal Bank
Royal Bank is a giant in the financial industry and has made many of its long-term investors quite rich.
The banking industry is supposed to be facing some headwinds right now, but Royal Bank continues to put up great numbers. Last year the company earned just under $10 billion. That’s right, $10 BILLION in profit in just one year!
The bank achieved this through a diversified revenue stream that spans several successful segments including retail banking, capital markets, wealth management, and insurance.
Royal Bank is also making a big push into private and commercial banking in the United States, and that should help drive growth in the coming years.
Some investors are concerned the oil rout and an overheated housing market will hammer the Canadian banks. Royal Bank has less than 2% of its total loan book exposed to oil and gas companies, and its mortgage portfolio is capable of riding out a hefty downturn in housing.
Rough times will certainly come and go, but Royal Bank has survived every financial disaster in the past 150 years, and there is little reason to believe the future will be any different.
A $10,000 investment in Royal Bank just 20 years ago would be worth $207,000 today with the dividends reinvested.
CN
CN is another company that sits at the top of the ladder in its industry, and when you look for a stock that has a fantastic competitive edge, CN is one of the best in the market.
The company is the only railway in North America that owns tracks running to three coasts, and the odds of a competitor building new lines along the same routes are pretty much nil.
CN doesn’t take the advantage for granted. The company is very efficient and continues to invest in new locomotives, track upgrades, and intermodal hubs to ensure it remains the best-run railway in the industry.
The downturn in the oil market has had a negative effect on the energy segment of CN’s business, but the company has such a diversified revenue stream that other areas are picking up the slack.
Weak oil prices are driving down value of the loonie, and that is proving to be a positive when CN’s U.S.-based earnings are converted back to Canadian dollars. The weaker currency is also helping the forestry and auto sectors, which are big CN customers.
CN kicks off a ton of free cash flow and it just raised its dividend by 20%. Over the past two decades, the average annual increase to the payout has been 17%.
The returns?
A $10,000 investment in CN just 15 years ago would now be worth more than $123,000 with the dividends reinvested.
