Royal Bank of Canada (TSX:RY)(NYSE:RY) has been a top pick for income investors all over Canada for a long time. The stock had pulled back since the rout in oil prices in 2015, but it has since started to find its footing again. Should investors buy into the rally?
Royal Bank is the biggest Canadian bank, and it has more than just banking; it has insurance as well as transaction-processing services. While Royal Bank has approximately two-thirds of its revenue coming from Canada, the real growth going forward will come from its international segment.
It’s no mystery that the Canadian economy is very sensitive to the price of certain commodities like oil, and to be less correlated with this sensitivity, Royal Bank has taken the steps towards becoming a more internationally diversified bank. I believe Royal Bank will be very successful in its international expansion, and the result will make the company an even safer play than it already is.
Royal Bank has a very impressive dividend history and payout ratio. The company has aimed to keep the payout ratio below 50%, so the company could balance paying back shareholders with growing the business. If a recession happens in the near future, Royal Bank would have no issues paying its dividend. During the Great Recession, the company had its payout ratio soar to about 80%; the company kept its dividend secure throughout the crisis.
Royal Bank currently yields a bountiful 3.8%, and income investors can feel safe knowing the company will continue paying this dividend even if the worst of recessions were to come along. If there’s no recession, you can expect a dividend raise. The balance sheet is terrific, and this is why Royal Bank is a core holding of many Canadian income investors’ portfolios.
The only issue with Royal Bank is that it’s overexposed to the Canadian economy. Two-thirds of revenues coming from Canada is just too much, and, as we know, putting all of your eggs into one basket is never a good strategy.
The Canadian housing market is worrisome, and you can bet that if a housing collapse happens, then Royal Bank would be hit harder than its peers, such as Toronto-Dominion Bank, which has less Canadian exposure and more U.S. exposure. The management team at Royal Bank knows that it has to expand globally to support long-term growth, and I believe the company is headed in the right direction.
The stock is definitely not as cheap as it was earlier in the year, but there’s still some value to be had at current levels. The stock has a price-to-earnings multiple of 12.5 with a price-to-book multiple of two–both of which are less than their five-year historical average values of 12.7 and 2.2, respectively.
The stock is cheap, but it’s not a steal anymore. If you’re an income investor with a long-term horizon, that shouldn’t stop you from picking up shares in this fantastic company today.
