Canada's big banks face more credit losses amid mortgage renewal crunch - Financial Post

Senin, 27 November 2023

Canada's big banks face more credit losses amid mortgage renewal crunch - Financial Post

Credit losses must peak and interest rate cuts must be closer at hand before banks enter recovery territory, analysts say

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Bank towers in Toronto's financial district. Bank earnings season kicks off on Nov. 28. Photo by Tijana Martin/The Canadian Press

Credit losses and expense controls will be closely watched when Canada’s big banks begin to roll out fourth-quarter earnings on Nov. 28, results that come as households and businesses contend with higher interest rates and the economic outlook casts a cloud over revenue growth expectations.

The probability of negative surprises on credit losses is low, but any downside shocks in the year-end reports are likely to receive outsized reactions from investors, CIBC Capital Markets analyst Paul Holden wrote in a recent note to clients. At the same time, he said, the lenders are “unlikely to be rewarded” for any earnings beats if credit losses come in on the low side.

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The fourth-quarter financial results are expected to reflect slower loan and revenue growth. Holden expects most banks will announce dividend increases alongside their financial results, but he forecasts smaller-than-usual bumps — between one and three per cent — due to lower earnings growth and a “challenging” year ahead.

“The market is anchored on higher losses in (fiscal) 2024” as the economic outlook dims, Holden wrote, adding that fourth quarter results and management commentary are unlikely to change that view.

“We do not see a lot to get positive on,” he said.

The analyst said “inflection points” for the sector would include a peak in credit losses and the start of interest rates cut by the central bank. If those come to pass, he said, fiscal 2025 “should be a recovery year” with average growth of around 10 per cent across the Big Six.

We do not see a lot to get positive on
Paul Holden, analyst, CIBC Capital Markets

In his report, Holden said the banks are working to get expenses in line with muted growth after ramping up hiring and planning increased expenditures based on what they thought would be a good year for revenue, something that should help with the eventual recovery.

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“Now we sit at the apex of the expense unwind,” the analyst wrote, adding that while some of the banks have announced staff cuts, there could be further severance costs as the sector continues to reduce headcount.

As 2023 draws to a close, the banks are in a period of uncertainty over how much regulatory capital they will have to hold as a buffer against bad times in the year ahead and, therefore, how much capital will be available for other uses. The Office of the Superintendent of Financial Institutions (OSFI) is set to update its domestic stability buffer requirements in December.

Gabriel Dechaine, an analyst at National Bank of Canada, said there is an expectation that OSFI is likely to raise the CET1 (common equity tier one) ratio by 50 basis points to 12 per cent.

“Most banks are taking concrete action to build CET 1 ratios above 12 per cent,” Dechaine wrote in a Nov. 20 note to clients. “If OSFI takes a more dovish stance, the sector could experience a relief rally.”

Dechaine said there are some stabilizing trends expected in the fourth quarter financial results, such as net interest margin (NIM) — the difference between the amount of money the bank earns in interest on loans and the amount it is paying in interest on deposits. Stability would be a positive development, as NIM compression has been a recent trend, he wrote.

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Bank of Montreal has already telegraphed large charges as it takes control of expenses. — Bank of Montreal has already announced large charges as it takes control of expenses. Photo by Andrew Lahodynskyj/The Canadian Press

In addition, he said actions taken to control expenses have been largely telegraphed by the banks, with Bank of Montreal and Bank of Nova Scotia already announcing large charges and Royal Bank of Canada likely to record smaller ones over several quarters. Canadian Imperial Bank of Commerce and Toronto-Dominion Bank are likely to report “housecleaning” charges in the fourth quarter, Dechaine wrote.

Looking ahead, however, he said will be upward pressure on provisions for credit losses as the banks get nearer to a large bump in mortgage refinancings in 2025 and 2026; the banks have added $2.4 billion to performing provisions this year.

Things could get even more challenging for Canadian banks if the economy deteriorates, Dechaine said in his note, pointing out that consensus earnings forecasts for fiscal 2024 have already been cut by 10 per cent since the start of the year.

A “modest” recessionary level of losses — for example, a 60-basis-point loan-loss ratio compared to consensus of 37 basis points, which is in line with the historical average — would translate into earnings per share downside of nearly 15 per cent, he said.

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