With the recent reduction in the Bank of Canada’s policy interest rate from 5% to 4.25%, Canadian investors may be facing a challenging landscape for fixed-income investments. As rates continue to decline, options like five-year guaranteed investment certificates (GICs) now yield around 4.3%.
This shift is prompting many investors to explore alternative avenues for generating income, potentially in the form of dividend stocks. One standout choice in this category is the Bank of Montreal (TSX:BMO), a blue-chip stock offering both stability and growth potential.
Why dividend stocks matter now more than ever
As interest rates decrease, the pursuit of high-yield, lower-risk fixed-income investments becomes increasingly difficult. With GICs providing lower returns, investors may find themselves seeking higher-risk assets to bolster their income. This is where dividend stocks come into play, offering not only attractive yields but also the potential for dividend growth.
For Canadian investors, dividend stocks can be especially appealing due to their tax advantages. Eligible dividends are taxed at lower rates than interest income or regular employment income, making them a smart choice for those holding shares in non-registered or taxable accounts. By allocating capital to dividend stocks, investors can create a more efficient income strategy, helping to offset the challenges posed by declining interest rates.
Bank of Montreal stock: A time-tested dividend performer
The Bank of Montreal has a track record of paying dividends, dating back to 1829. This long-standing commitment to returning value to shareholders is demonstrated by a solid 10-year dividend growth rate of 7%, which is impressive for a company of its stature. More encouragingly, the bank’s three to five-year dividend growth has been even more substantial, ranging from 9% to 11% annually.
Such growth rates are vital for Canadians who aim to maintain or enhance their purchasing power, especially in an environment of rising living costs. A dividend that grows faster than inflation can significantly improve one’s lifestyle over time.
Currently, Bank of Montreal offers a competitive dividend yield of approximately 5.2%. This yield is not just attractive. It’s also sustainable with a payout ratio of around 60% of adjusted earnings projected for this year.
Calculating the passive income
Investing in Bank of Montreal stock is not merely about immediate returns. It’s about long-term passive income potential. An investment of $7,000 today, equating to around 59 shares, would generate nearly $367 in annual passive income. While this income may seem modest when spread across 12 months, it’s crucial to consider the compounding benefits of dividend growth.
Investors are encouraged to accumulate shares of strong dividend growth stocks during market corrections. This strategy not only diversifies one’s income portfolio but also leverages the power of compounding over time. As your holdings grow and your dividends increase, the cumulative effect can lead to substantial passive income in the long run.
Attractive valuation and future potential
Currently trading at around $118.33 per share, Bank of Montreal stock is still approximately 22% below its peak in 2022. With a price-to-earnings ratio of about 11.3 based on adjusted earnings, the stock appears reasonably valued, particularly for a blue-chip business with significant turnaround potential.
Investors looking for both income and growth should consider BMO as a component of their portfolios. As market conditions evolve, Bank of Montreal stands out as a reliable option for generating passive income while also offering the potential for capital appreciation.
The Foolish investor takeaway
Investing $7,000 in BMO stock could yield $367 in annual passive income for starters, alongside the prospect of rising dividends that enhance financial security over time. With the right execution, this investment could become a cornerstone of a sustainable income portfolio.
