Up to now, shareholders have consoled themselves with the thesis that the Canadian banks were prudent lenders and didn’t have a housing bust to pull them down. But house prices are falling all the same, with the Canadian Real Estate Association reporting a decrease of 4.5% over the year to November, according to its new methodology. And TD Bank (TD) and Bank of Montreal (BMO) have about a quarter of their loan portfolio at subsidiaries in the U.S.
Moreover, Canada did have a commodity boom and it is now unwinding. Plus, there is recession elsewhere, notably in auto manufacturing. The Canadian industry is concentrated in Ontario, where the banks have half their loan portfolios.
The recent round of equity issues from Canadian banks is reminiscent of what occurred before the U.S. meltdown. It’s not a comforting sign when equity is issued after a 40% decline in prices and when dividend yields are in the unheard of range of 5% to 8% (earnings will be reduced by the dividends to be paid on the new shares).
Dividend payout ratios are rising too. TD has climbed from 36% last year to just below 50%. The worse case, BMO, is currently at 75%. With its dividend yield now over 8%, speculation seems to growing that BMO will be the first to slash its payout.
Will this turn out to be the “DOPE-DUD” phase? Francis Chou called it the DROP phase when he applied it to US banks in early 2008 but I like the DOPE-DUD nomenclature, which stands for: Dribbling the bad news out slowly with the most Optimistic Projections while raising as much money as possible from Every investor (DOPE), followed by Divulging all the Unpleasant news and Dousing (DUD) investors with a big bath.