Royal Bank vs. National Bank: Where Should You Park Your Investment Capital?

With both Royal Bank and National Bank already earning total returns of more than 25% so far this year, what’s the best stock to buy now?

Key Points
  • Royal Bank (TSX:RY) is much larger and more diversified while National Bank (TSX:NA) is more Quebec‑focused; both are reliable dividend growers (5‑yr dividend growth: RY ~43%, NA ~66%) but now offer similar forward yields of ~2.9%.
  • After 25%+ YTD gains both look slightly overvalued so waiting for a better entry makes sense; income seekers wanting immediate bank exposure can consider the BMO Covered Call Canadian Banks ETF (yield ~5.68%, MER 0.72%).
  • 5 stocks our experts like better than Royal Bank of Canada

Canadian investors love to own the big bank stocks. In fact, top-notch bank stocks such as Royal Bank of Canada (TSX: RY) and National Bank of Canada (TSX: NA), which are up 26% and 27%, respectively, so far year to date, are some of the most popular investments among Canadians.

Banks are ideal long-term investments because they sit at the centre of the economy, they have the potential to make money in any environment, and they’re some of the most reliable dividend-growth stocks on the TSX.

Deciding you want to gain exposure to the banking sector is never the hard part. The hard part for investors is deciding which bank stocks to own.

As you can see from the chart above, in the near term, they will typically move in tandem; it’s only over the long haul where certain bank stocks tend to outperform others.

So, let’s compare the largest Big Six bank, Royal Bank, to the smallest of the Big Six, National Bank.

businesswoman meets with client to get loan

Source: Getty Images

What are the main differences between Royal Bank stock and National Bank?

The first and most significant difference between Royal and National Bank is the size and scale of the two businesses. Royal Bank is not just the largest bank in Canada; with a market cap of $297 billion, it’s more than four times the size of National Bank, which is still a massive large-cap stock itself at $63.6 billion.

That size difference is significant for a few reasons. First off, National Bank has always been the most regional member of the Big Six, with deep roots in Quebec. Even after its acquisition of Canadian Western Bank earlier this year, it still offers far less geographic diversification than Royal.

Meanwhile, Royal Bank’s size gives the stock a lot more diversification across Canada, internationally and even across segments with more capital market and wealth management exposure.

That means that generally, Royal Bank is a more reliable business, although both stocks are ultra-safe. It also means that, as a far bigger company, naturally, Royal is likely to grow at a slower pace over the long haul.

With that being said, both stocks perform incredibly similarly. Not only do their share prices typically move in tandem with the other Big Six, but even their dividend yields are similar.

Furthermore, both stocks offer impressive dividend growth. Over the last five years, Royal Bank stock has increased its dividend by a whopping 43%, while National Bank has increased its dividend by 66%.

Which is the best bank stock to buy now?

While both stocks have proven for years to be some of the best and most reliable long-term investments you can make, deciding which stock to buy today is a little more complicated. After more than 25% gains to start the year, both Royal Bank and National Bank are trading at premiums.

Furthermore, with the run-up in their share prices, both stocks now offer forward dividend yields of 2.9%. That’s considerably lower than Royal Bank stock’s five-year average forward yield of 3.6%, and National’s five-year average of 3.8%.

It’s also worth noting that Royal Bank’s average analyst target price is sitting at $227.74, a 7% premium to where the stock is trading today. Meanwhile, National’s average annual target price of $162.59 is actually 5% lower than its current trading price.

That doesn’t mean either stock is a poor long-term investment; it just means that they’re trading slightly overvalued today.

What to do now

Buying stocks slightly overvalued is never ideal, but it’s also not the worst-case scenario if you’re investing in high-quality businesses and planning to hold for the long haul.

With that being said, right now the best option is to wait for a better entry price for both Royal Bank and National Bank stock.

And if you’re a dividend investor who still wants exposure today, BMO Covered Call Canadian Banks ETF is the best option to consider right now.

It still offers the same bank exposure, but the covered-call strategy limits a bit of upside for a much higher payout, making it the ideal investment now when the sector is already sitting at 52-week highs. Currently, the exchange-traded fund offers a yield of 5.68% and charges a management expense ratio of 0.72%.

Fool contributor Daniel Da Costa has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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