Bank of Montreal (TSX: BMO) just hit a new 12-month high. Investors who missed the bounce are wondering if BMO stock is still undervalued and good to buy for a self-directed Tax-Free Savings Account (TFSA) or Registered Retirement Savings Plan (RRSP) portfolio focused on dividends and total returns.
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Bank of Montreal share price
Bank of Montreal trades near $146 per share at the time of writing. The stock has been on a wild ride in the past two trading sessions.
BMO released its fiscal fourth-quarter (Q4) 2024 results on December 5. Markets initially reacted negatively to the report, sending the stock from $134 to $127. As analysts combed through the results, however, sentiment shifted, and BMO reversed course. Savvy investors who bought the initial dip are up as much as 15%.
This kind of volatility is not historically common with the big Canadian banks that are broadly viewed as best-in-class global financial institutions. In the case of Bank of Montreal, the sharp jump in provisions for credit losses (PCL) scared investors who have been concerned that high interest rates are still putting pressure on businesses and households with too much debt. That scenario is likely to persist, even as interest rates continue to decline, but BMO said it expects PCL to moderate through 2025.
Bank of Montreal’s high provisions are largely connected to its U.S. operations. The bank has some commercial loans that are in trouble and has decided to set cash aside for potential losses. Bank of Montreal purchased California-based Bank of the West for US$16.3 billion in early 2023, enlarging its existing BMO Harris Bank operations. BMO negotiated the deal in late 2021, near the peak of the first post-pandemic rally in bank stocks. Since then, aggressive rate hikes by the central banks have put pressure on borrowers and have led to a surge in PCL at Bank of Montreal and its peers.
Opportunity
The market appears to be of the opinion that the worst is over for Bank of Montreal in the American business. Looking ahead, the U.S. Federal Reserve is expected to continue to cut interest rates, although the pace might slow down if planned tariffs drive up inflation.
Bank of Montreal’s large U.S. footprint positions the bank to benefit from growth in the U.S. economy, which is in better shape than the economy in Canada and will likely outperform the domestic market in the next couple of years.
Dividends and share buybacks
Investors might also be encouraged by the 3% dividend increase and BMO’s plans to repurchase 20 million shares. This suggests the board is comfortable with the earnings outlook for fiscal 2025 and beyond.
Risks
Unemployment in Canada for November inched up 0.3% to 6.8%. If job losses continue to increase as the economy softens, there could be a surge in loan defaults, even as interest rates are expected to decline. In Canada, roughly a million fixed-rate mortgages are coming due in 2025. Most people will see renewal rates that are much higher than their current rate. Banks have broadly said that households are doing a good job of being able to adjust to the rate increases, but a sharp jump in unemployment could change the narrative.
Another risk is Donald Trump’s planned tariffs on all goods entering the United States. Americans could see a surge in inflation as businesses pass on the costs to consumers. Canada’s economy could take a hit due to the amount of trade the country does with the United States. Both these situations would be negative for Bank of Montreal and its peers.
Is BMO stock a buy today?
Investors with a buy-and-hold strategy should be comfortable owning Bank of Montreal for its dividend. Given the size of the recent rally, however, it might be worthwhile to wait for a pullback or at least take a small position and look to add on a new weakness.
