Why Your TFSA Will Fail to Earn Passive Income

Canadians should invest in stocks like Thomson Reuters Corp (TSX:TRI)(NYSE:TRI) to avoid common TFSA pitfalls and begin earning passive income.

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The odds are that you will not earn passive income on your TFSA this year — or next. Here’s why.

A survey conducted by Royal Bank of Canada found that Canadians do not take full advantage of their Tax-Free Savings Accounts (TFSA). Instead of using their TFSAs to grow their income tax-free, Canadians store their savings at meagre interest rates. In fact, 42% of TFSA savings are not invested in mutual funds, stocks, or even risk-free Government-Insured Certificates (GICs).

Even if TFSA investors manage to diversify their holdings into stocks and exchange-traded funds, there is a learning curve involved in picking high-quality investments. The learning curve prevents many Canadians from even attempting to diversify outside of simple savings, mutual funds, and term deposits.

If fear of trying doesn’t bring your TFSA down, your TFSA will ultimately fail to earn passive income through investments in low-return or poorly performing stocks. Here’s one stock you should not be afraid of buying into, and why it is a safe investment for your TFSA.

Thomson Reuters soared 44% the past 12 months

That’s right. TFSA investors who bought shares in Thomson Reuters (TSX:TRI)(NYSE:TRI) in September 2018 are now sitting on a 44% capital gain plus an 11.5% dividend yield for the year. At its current share price of $93.26, Thomson Reuters still offers a decent dividend yield of 2.05%, but it also comes with substantial risk for the uninformed investor.

The market now values the stock at a historic high. Before this surge, the stock’s other two peaks in the early 2000s and the summer of 2017 did not go above $66 per share. Buying a stock at record highs can be scary — so, should you take the risk and invest in Thomson Reuters? Will the stock undergo a downward correction, or are these gains sustainable?

The way to answer this question is to research the company’s announcements just before and after the share price began rising. In these press releases, you will likely find the reason behind why Thomson Reuters’s market valuation rose so high this past year.

Thomson Reuters returned US$10 billion to shareholders

On October 08, 2018, Thomson Reuters announced plans to distribute $10 billion to shareholders and increase the annual dividend to $1.40 per share. The board of directors reached this decision after finalizing the sale of 55% of its Financial & Risk (F&R) business.

Besides the dividend increase, Reuters decided to return the proceeds of this sale to shareholders in three ways:

  • US$6.5 billion issuer bid/tender offer around October 9
  • US$2.5 billion cash distribution of $4.45 per common share and share consolidation
  • US$1 billion share repurchases under normal course issuer bid

The stock rose in value because the supply of the stock decreased, and investment returns increased. Thomson Reuters is very generous with shareholders when it comes to dividend payouts and rewarding long-term investors for their loyalty. Thus, the rise in value is likely sustainable.

Foolish takeaway

Thomson Reuters’s last reported profit margin is nearly 70%, and its diluted earnings per share is $6.65. Since the company is so profitable, TFSA investors should make a long-term commitment in the stock with the understanding that the company will take care of them.

Canadians who want to avoid common TFSA pitfalls should consider adding Thomson Reuters stock to their portfolio to begin the journey toward earning passive income.

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 Debra Ray has no position in any of the stocks mentioned.

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