Best Bank Value? Look North

03/10/2014 8:00 am EST

Focus: STOCKS

Ian Wyatt

Publisher & Chief Investment Strategist, Wyatt Investment Research

I have decided to add further bank exposure to our portfolio; this bank is the oldest and most undervalued bank stock in Canada, notes Ian Wyatt, editor of $100k Portfolio.

Why do we need Canadian exposure? One word: value. Canadian banks are cheaper than US banks right now. While US bank stocks have flourished in recent years, Canadian bank stocks have been slow to recover.

That makes them cheap. Given the growth prospects for the Canadian economy this year, it also makes them extremely attractive. And one Canadian bank stands out as a better bargain than any of them.

Established in 1817, Bank of Montreal (BMO) was Canada's first bank. Nearly two centuries later, the bank is not only still standing—it's thriving.

The company earned a record $6.30 in EPS in its last fiscal year (ended September 30), up 5% from the previous year. But none of that growth translated to a rising share price. Why the poor returns? Part of it is guilt by association. Economic growth slowed a bit in Canada last year.

But according to economists, that's about to change. GDP growth in Canada is expected to return to its pre-2013 levels.

A further catalyst that could drive all North American banks in the coming years will be rising interest rates. As the Federal Reserve scales back its bond-buying stimulus measure, interest rates should rise—both in the US and Canada.

Higher interest rates should result in improved profit margins for North American banks. Given their underperformance of late, that makes Canadian bank stocks particularly attractive.

And few banks look more undervalued than Bank of Montreal right now. The stock trades at just nine times forward earnings, a 5% discount to the average P/E of the six largest US banks, and a 40% discount to the S&P 500.

Bank of Montreal is a consistent dividend payer. Its 4.4% yield is higher than any of the six major US banks.

For a stock that already offers the appetizing combination of a low valuation and projected future growth, Bank of Montreal's high yield is a nice little cherry on top.

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