Royal Bank (TSX:RY) and TD Bank (TSX:TD) just reported fiscal third-quarter (Q3) 2023 earnings. The share prices remain well below the 12-month highs, and contrarian investors are wondering if RY stock or TD stock is now undervalued and good to buy for a self-directed Tax-Free Savings Account (TFSA) or Registered Retirement Savings Plan (RRSP) portfolio.
Royal Bank
Royal Bank is the largest company on the TSX with a current market capitalization of $170 billion. The stock trades near $122 per share at the time of writing. That’s up from the 12-month low around $117 but down from $139 earlier this year.
Royal Bank reported solid fiscal Q3 2023 results in a challenging environment. Adjusted net income came in at $4 billion in the quarter, up 11% from the same period last year. Adjusted earnings per share hit $2.84, also up 11% over fiscal Q3 2022.
Adjusted return on equity (ROE) improved slightly to 15.1%. Royal Bank is a very profitable company compare to global peers. American banks generated average ROE around 13% in the first part of 2023.
Royal Bank finished fiscal Q3 with a common equity tier-one (CET1) ratio of 14.1%. This is a measure of the capital reserve the bank holds to enable it to ride out tough times. The Canadian banks are currently required to have a CET1 ratio of at least 11.5%, so Royal Bank is sitting on excessive cash. However, the CET1 ratio is expected to fall once Royal Bank completes its $13.5 acquisition of HSBC Canada. The deal is expected to close early next year.
Royal Bank set aside more money for bad loans in the latest quarter. The provision for credit losses (PCL) was $616 million, up $276 million from the same quarter last year. Soaring interest rates are putting some borrowers in difficult situations, and this trend could continue, as the Bank of Canada and the U.S. Federal Reserve continue to increase interest rates.
Royal Bank raised the dividend earlier this year. The payout currently provides a 4.4% yield.
TD Bank
TD is the second largest financial institution on the TSX with a current market capitalization of close to $150 billion.
The stock price is near $82 at the time of writing. This is up from the 12-month low of around $76, but down from $93 at the 2023 high in February. TD came under pressure in recent months after the chaos that erupted in the United States banking sector after a handful of regional banks went bust.
TD has large U.S. operations and intends to buy First Horizon, a regional bank with more than 400 branches in the southeastern states. Regulatory issues forced TD to cancel the US$13.4 billion acquisition. TD was going to pay US$25 per share for First Horizon. The stock currently trades near US$12.25 per share.
TD reported fiscal Q3 adjusted net income of $3.73 billion compared to $3.81 billion for the same period last year. Adjusted ROE came in at 14.1% compared to 16.1% in fiscal Q3 2022.
The bank is seeing more customers struggle with higher borrowing costs. TD’s PCL for fiscal Q3 was $766 million, up from $351 million in the same quarter last year.
The bank finished fiscal Q3 with a CET1 ratio of 15.2%. TD had built up a large cash position to buy First Horizon. It now has to figure out how to deploy the cash to drive revenue and profit growth. TD has indicated it will expand organically in the United States in the next few years. This will eat up some of the funds. TD might also find another takeover opportunity in a different market or segment.
TD stock looks cheap today, but upside could be capped until there is better clarity on how TD will generate earnings growth.
At the time of writing, investors can get a 4.7% dividend yield from TD stock.
Is one a better pick?
Royal Bank and TD are very profitable banks paying attractive dividends that should continue to grow.
Both stocks deserve to be on your radar at current share prices. If you are a contrarian investor, however, and only want to buy one, I would probably make TD the first pick. The stock is likely more oversold than RY stock at this point and should deliver solid long-term returns for patient investors.
