The Tax-Free Savings Account (TFSA) is one of the most powerful financial tools available to Canadians. Why? Well, it’s largely due to a combination of zero taxation on dividends, interest, and capital gains earned in this account. If your goal is generating passive income, prioritizing this account may be ideal.
Another benefit is the annual contribution limit, which was recently increased in early 2023 from $6,000 to $6,500. If you’re itching for a solid stock to invest this in, I have two big Canadian bank picks for you to consider today: plus an exchange-traded fund, or ETF, alternative.
Royal Bank
The largest stock in Canada’s benchmark S&P/TSX 60 Index is a powerhouse that deserves a spot in any Canadian dividend portfolio. Royal Bank of Canada (TSX: RY), or RBC, currently holds the title of Canada’s largest bank and largest stock by market-cap weight.
RBC’s operations are not limited to Canada but extend to over 40 countries worldwide. The bank has a diverse portfolio that includes personal and commercial banking, wealth management, and capital markets. This wide array of revenue streams can provide a buffer during tough economic times.
RBC has a long track record of paying consistent dividends, with periodic increases a common sight over the last 10 years. Right now, the stock is paying a forward annual dividend yield of 4.13% coupled with a very sustainable payout ratio of just 48.33%.
Toronto-Dominion Bank
RBC’s main competitor is Toronto-Dominion Bank (TSX: TD), or TD. TD currently sits at the number two spot in the S&P/TSX 60 Index. Recently, the stock made headlines for bailing out on a $13.4 billion planned acquisition of First Horizon amidst the ongoing U.S. regional bank crisis.
What I like about TD is how it’s made significant strides in expanding its U.S. operations, where it now operates a sizable amount of branches and brokerage operations. This geographic diversification helps to balance the bank’s exposure to economic cycles in any single market.
TD also has a strong record of paying dividends and was known for its consistent growth in dividends. Compared to RBC, TD currently pays a higher forward annual dividend yield of 4.67% against a lower payout ratio of 43.89%, which gives it the edge up in this realm.
My ETF alternative
That being said, RY and TD are still just single bank stocks. As large and well-established as they are, I’d still be hesitant to bet a significant chunk of my TFSA on them. Hence, BMO Equal Weight Banks Index ETF (TSX: ZEB) is a great alternative for those seeking more diversification.
For a 0.28% expense ratio, investors receive equal exposure to not only RBC and TD but also four other big bank stocks: Bank of Nova Scotia, Canadian Imperial Bank of Commerce, Bank of Montreal, and National Bank. This ETF is a great way to cheaply index all six big bank stocks in equal amounts.
What I really like about ZEB is its monthly distribution schedule. Whereas RBC and TD pay quarterly dividends, ZEB pays on a monthly basis! Currently, this ETF is sporting an annualized distribution yield of 4.94%, which is the average of all of its underlying bank stocks.
