Toronto-Dominion Bank (TSX:TD) and Royal Bank of Canada (TSX:RY) are two of Canada’s best-known bank stocks. Both are in the top three TSX stocks by market capitalization. Both are leading players in Canadian financial services. And finally, both are dividend stocks with comparatively high yields (very high in TD’s case; slightly higher than average in RY’s case).
Both TD and Royal Bank are well-known banks with strong brands, conservative lending standards and high capital/liquidity ratios. There’s a case to be made for owning both. However, there are some investors out there who want the best-in-class names in their portfolios. For those investors, it might pay to know which, between TD and Royal Bank, is the better bank stock. In this article, I’ll explore that question by comparing TD and Royal Bank side by side.
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The case for TD Bank
A case for buying TD Bank instead of Royal Bank can be based on relative valuation.
TD Bank is much cheaper than Royal Bank stock today. At today’s price, TD trades at the following:
- 11 times adjusted earnings
- 18 times reported earnings
- 12.5 times analysts’ estimate of this year’s earnings
- 2.8 times sales
- 1.4 times book
These are pretty low multiples, particularly if you think that TD’s adjusted earnings figure better represents the company’s long-term average than reported earnings (it excludes the $3 billion fine the company took last year).
Now, let’s look at the same multiples for Royal Bank. At today’s price, RY trades at the following:
- 13.90 times adjusted earnings
- 15 times reported earnings
- 13.6 times analysts’ estimate of this year’s earnings
- 4.4 times sales
- 1.9 times book
Apart from the reported price-to-earnings (P/E) ratio, these multiples are all much higher than those of TD Bank. Now, if we take the average of the adjusted and reported P/E ratios, TD is at 14.5 times earnings and RY is at 14.45. These are nearly identical figures, so TD is cheaper overall, ignoring growth potential and risk.
The case for Royal Bank
As I showed above, TD Bank stock is cheaper than Royal Bank stock if we ignore growth potential and risk. The thing is, we can’t just ignore growth potential and risk, as these are factors in valuation. And it’s here that a case for buying Royal Bank can start to be built.
TD Bank stock is riskier than Royal Bank of Canada stock by several measures. RY actually has a slightly higher-than-average beta than TD, but if we consider operational risk, there’s no question that TD is riskier. The bank got embroiled in a money laundering controversy in 2023 that led to it taking a $3 billion fine and a $430 billion asset cap last year. The $430 billion asset cap will hold back growth in U.S. retail, which was previously TD’s main growth driver. Royal Bank is not involved in any such legal entanglements, so its business faces fewer risks than TD.
Foolish takeaway
For my money, TD Bank is the better bank stock because it’s cheaper than Royal Bank, and the risk factors discussed above appear to be behind it. Donald Trump is notorious for preferring lax banking regulations, so I doubt TD will take more fines this year. With that said, the most risk-averse investors might prefer Royal Bank. It’s probably a less stressful hold.
