Article content

Canada’s top banks may still be facing credit headwinds, but analysts say that the relatively stable earnings display in the last quarter suggests that they are not going to “fall off the cliff” anytime soon.

The Big Six lenders, which dominate the market, this week reported financial results for a quarter that was once again dominated by questions about the amount of money they were keeping aside for loans that might go bad.

Article content

Provisions for credit losses, or PCLs for short, have been increasing at the big lenders as interest rates were rising, pinching the finances of indebted consumers and businesses alike. But analysts say that the banks’ ability to produce solid earnings despite tighter monetary conditions was a big positive.

“The banks are able to earn through these high provisions even in a very challenging economy,” said Jefferies Financial Group Inc. analyst John Aiken. “While not the best of quarters, we are actually quite pleased with the (banking sector’s) earning stability…. This bolsters the outlook as long as we can get a bit of a soft landing in the economy given the rate cuts.”

Four out of the big six lenders reported lower-than-expected PCLs for the period ending July 31.

This was a “positive surprise,” wrote National Bank of Canada analyst Gabriel Dechaine, in a note on Thursday. The banks with the largest positive deviations were Canadian Imperial Bank of Commerce and the Royal Bank of Canada, reflecting an improvement in their wholesale portfolios, he said.

Aiken echoed the sentiment, noting that the pace of provisions wasn’t increasing “precipitously” and that the banks were “very stringently” controlling costs. While it’s still early days, he added that there were “signs of life” in the lending arena with Canadian households increasing their lending capacity in the quarter.

Article content

Article content

“We may be starting to see a potential inflexion point,” he said. “We saw a little bit of lift in terms of residential mortgages. Credit cards volumes are increasing but there is a little bit of seasonality around that. We did see some signs of life in commercial (businesses).”

The “notable exception” to this trend this quarter was the Bank of Montreal, which posted a third consecutive quarter of higher-than-expected losses, said Dechaine. “The bank expects higher losses for the next one to three quarters, tied mainly to its U.S. commercial portfolio,” he said.

While BMO missed analysts’ estimates, CIBC, RBC and National Bank of Canada beat them comfortably. Bank of Nova Scotia’s results were in line with expectations, whereas the Toronto-Dominion Bank posted a rare loss on account of the US$2.6 billion that it had to keep aside to resolve anti-money laundering issues it is facing in the U.S.

This “disparity in performance and valuation” among Canada’s top six banks is much wider than what analysts are accustomed to seeing, according to TD Securities analyst Mario Mendonca.

Article content

“No single metric differentiates across the two groups better than the change in return on equity,” he wrote in a note sent to clients on Friday.

“Specifically, CIBC, National Bank and RBC’s return on equity are 100 to 200 basis points better than last year, while BMO’s is down 200 basis points and BNS’s is down 90 basis points.”

National Bank’s Dechaine attributes this divergence to issues that banks are facing with investments outside of Canada.

“The banks that reported the biggest beats were also the banks with the heaviest skews towards the Canadian market,” he said. “This performance lines up well against the ‘overweight Canada’ investment theme we outlined (in April).”

Aiken said that, historically, Canadian banks’ losses in the U.S. have been higher than in Canada due to structural issues, but there are benefits since the U.S. economy is expected to grow faster than Canada’s in any given year.

“If there actually is weakness in Canada, that’s not necessarily in the U.S. We saw that at least economically over the last 12 months,” he said. “Unfortunately, that hasn’t necessarily translated into U.S. lending buying growth.”

Article content

He added that the burden is higher in the U.S. since banks have to invest in technology and regulatory compliance there. “The banks that are operating in there at least at present are having to spend more there than Canadian operations,” said Aiken.

Despite the better-than-expected performance in PCLs, overall expense management, which grew at around seven per cent, wasn’t as strong as expected, said Dechaine.

Looking ahead, Aiken is keeping an eye on how banks intend to utilize their capital. Recent acquisitions such as RBC’s purchase of HSBC Canada and the anti-money laundering charges against TD have brought capital levels down, which has created a “bit more separation” among the group than in the past, he said.

“Interesting to see how that’s going to play out,” he said. “That may be a bit of a differentiating factor moving forward.”

• Email: [email protected]

Bookmark our website and support our journalism: Don’t miss the business news you need to know — add financialpost.com to your bookmarks and sign up for our newsletters here.

Article content