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TFSA Investors: Why You Should Buy Banking Stocks

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If you have a TFSA, don’t waste it by using it as a savings account. Interest on savings accounts is very low, usually around 1%. This is below the inflation rate and means that you are losing purchasing power. While its name can be misleading, you can hold a variety of investments in a TFSA such as GICs, bonds, stocks, ETFs, and mutual funds.

You can make better use of your TFSA by buying stocks that pay dividends. Stocks in the banking sector are ideal for a TFSA, for several reasons.

Banks pay a safe, high dividend

If you look at the five largest Canadian banks, you will notice that they all have a solid record not only of paying out reasonably sized dividends but also of increasing them regularly.

For instance, Toronto-Dominion Bank (TSX:TD)(NYSE:TD) has been paying dividends since 1857. The current dividend amounts to $0.74 per share paid quarterly for a yield of 3.9%. That’s higher than the interest you can earn on a savings account. By buying shares of TD in a TFSA, you don’t have to pay any taxes on the dividend, so you keep the entire amount.

You can also benefit from interesting dividend hikes. TD increases its dividend every year, and it grows quickly, as shown by its five-year dividend growth rate of 9.5%.

If you are looking for a higher yield, you might want to consider Canadian Imperial Bank of Commerce (TSX:CM)(NYSE:CM). Its dividend yield is 5.4%, the highest among the Big Five banks. CIBC’s five-year dividend growth rate is 7%.

What’s also interesting with dividends paid by banks is that they are reliable and safe. You don’t have to worry about a dividend cut. Banks have plenty of money to pay dividends to their shareholders. Their earnings are much higher than the dividends they are paying, so they have room to keep increasing their dividends.

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Potential for strong capital appreciation

In addition to high dividends and high dividend growth rates, banks are also interesting due to their stock price appreciation.

If you take a look at TD’s stock performance record for the last 10 years, you’ll see that most years show positive returns in the double digits. The returns are pretty interesting over a long period, as shown by the 10-year compound annual growth rate of return (CAGR) of 12%. The P/E is currently 12.3, while the five-year average is 13.2, so it’s a good time to buy TD’s stock.

CIBC also shows good returns, with a 10-year CAGR of 9.8%. The stock is also cheap at the moment, trading at a P/E of 9.2 versus a five-year average of 10.7. The other large Canadian banks also show decent returns over a long period, and they’re also cheap now.

So, bank stocks offer you an interesting return in the form of high dividend yield and capital appreciation. By buying these stocks in a TFSA, you’ll never pay any taxes on either dividends or capital gains, so your money will increase faster.

As a TFSA doesn’t allow you to write off losses, it’s better to buy stocks that are not very volatile. Banking stocks are one of the safest stocks in the market, so you have less risk of losing money with those stocks than you do with more volatile stocks like energy stocks.

So, if you don’t know what to buy in your TFSA, bank stocks are an excellent choice to make your money grow.

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This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Stephanie Bedard-Chateauneuf has no position in any of the stocks mentioned.

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