The average bank has a dividend yield of around 2.5%, using the SPDR S&P Bank ETF (NYSE: KBE) as an industry proxy. What if you could own a bank that yielded 6.1%? What if it was conservatively run, had a solid core business, and was a reliable dividend payer? You’d probably jump at the chance to own a high-yield bank like that. No problem: You can buy Bank of Nova Scotia (NYSE: BNS)Here’s why now is a great time to take the leap.
Why is the Bank of Nova Scotia’s yield so high?
The Bank of Nova Scotia, better known as Scotiabank, has lagged behind other banks. A big part of the reason for this is that it followed a different strategic direction than its Canadian banking peers. Most major Canadian banks chose to expand south into the U.S. market. Scotiabank skipped the U.S. market and began developing a business in Central and South America.
The logic is sound, given that the United States is a highly competitive market and, moreover, fully developed. The markets that Scotiabank entered were developing and less competitive, indicating that there was potential for long-term growth. While that may have been true, and perhaps still is, these less developed markets were not as profitable as expected. Scotiabank has lagged its peers in key metrics such as earnings growth, return on equity, and risk-adjusted return on assets.
So, despite being one of Canada’s largest banks (with an entrenched position in the sector thanks to strict Canadian banking regulations), Scotiabank offers a dividend yield of 6.1%, more than double the yield of the average bank. The bank has paid a dividend every year since 1833, has a generally conservative ethos (another hallmark of being a Canadian bank), and has an investment-grade-rated balance sheet. In fact, the risk here seems quite modest for the high-yield reward.
What is Scotiabank doing to address its poor performance?
Of course, the problem for investors is that Scotiabank hasn’t performed particularly well relative to its peers, but management isn’t ignoring the problem. In fact, it has taken the issue head-on and is working in a new direction. It’s exiting weaker markets (like Colombia) and putting more effort into expanding in better markets (like Mexico). The company is also following in the footsteps of its peers by building a larger presence in the United States.
This last part is important to Scotiabank’s approach, because it wants to create a dominant bank in North America that reaches from Mexico to Canada and across the United States. This way, it can serve a regional trading bloc with a geographically integrated product. This is where Scotiabank has just made a big splash.
Instead of trying to build a business from scratch, he agreed to buy just under 15% of Key Corporation (NYSE: KEY)The deal will be carried out in two transactions and is expected to have an immediate impact on Scotiabank’s earnings. It is also a lifeline for KeyCorp, which needed to shore up its own finances. Essentially, it is a win-win situation. However, the real benefit is likely to be more long-term in nature.
At this point, Scotiabank’s investment is just that, an investment in another bank. However, it hopes to find ways to work with KeyCorp to offer products and services together. It’s worth noting that KeyCorp is more consumer-oriented, while Scotiabank is more focused on businesses, so the two banks won’t interfere with each other. Any partnership would be complementary to each bank’s business.
The deal includes a five-year sunset clause, so KeyCorp can’t do much more than that, for now. However, it’s hard not to imagine Scotiabank at least considering the possibility of buying KeyCorp at some point in the future, a move that would instantly give it a big presence in the U.S. market.
The future will be very different for Scotiabank
Investors should never read too much into an investment like the one Scotiabank just made. But it is a clear statement that management intends to change course dramatically and quickly in its attempt to narrow the performance gap with its peers. It will be a multi-year effort, to be sure. But with such a forceful push from the start by a financially strong, high-performing bank, investors who think in decades rather than days may want to invest now. That generous dividend yield may not last as long as one thinks if Scotiabank’s business starts to improve amid an aggressive effort to improve performance.
Should I invest $1,000 in Bank Of Nova Scotia right now?
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Reuben Gregg Brewer has positions at Bank Of Nova Scotia. The Motley Fool recommends Bank Of Nova Scotia. The Motley Fool has a disclosure policy.
Did This High-Yield Stock Change the Game? was originally published by The Motley Fool