Some recent regulatory changes in Canada’s financial sector may lead to some above average returns over the next few quarters. In an article in the Financial Times (September 15), Bernard Simon, reviews some recent changes by Canada’s financial services regulator. According to Simon:
Canada’s financial services regulator has opened the door for the country’s big banks to pursue acquisitions and raise their dividends after a three-year hiatus.
It has been well documented that Canada’s financial system and in particular, Canadian banks, has handled itself substantially better throughout the build up to, and during the fallout of, the financial crisis when compared to their U.S. counterparts as well as their European counterparts. Simon quoted the Superintendent of Financial Institutions (minor digression: superintendent has a much better connotation than Czar, at least to me) as saying that it “expects sound financial management by deposit taking institutions…but will no longer require the increased conservatism in capital management announced late in 2008.”
While I am sure there is more than just simple encouragement in their financial regulation, I am feeling naïve enough to believe that Canadian financial practitioners are just that much better than the rest, thus needing little more than a small amount of encouragement to remain prudent with shareholder capital and solid contributors to the Canadian economic system. I have been finding myself increasingly interested in pension fund management, and it even seems that the Canadians are dominating that field as well.
So what does the removal of some recent restrictions actually mean? According the article, “in light of ‘greater certainty as to reform of capital rules’ created by last weekend’s Basel agreement, it was lifting restrictions on transactions that could impair their capital, which were imposed at the height of the financial crisis.” Several analysts were quoted in the FT article arguing that several Canadian banks hold capital ratios well above Basel requirements and in particular one analyst said, “Canadian banks are prolific generators of capital, so even if they generate modest organic growth, capital ratios would increase significantly by 2013.”
What is the opportunity? Well, The Canadian ETF (EWC) happens to be weighted about 32.33% towards financials, according to the iShares website as of August 31, 2010. If the supposition that Canadian finance is superior to the rest is true…this regulatory change could yield some outperformance by EWC in the coming quarters ahead.
This is not without risk, unfortunately. A few Seeking Alpha contributors have been examining a potential housing boom that could spell trouble for Canadian banks in the near future. Additionally the original article argues that the Canadian banks can become “less conservative” with capital which is to say take on incremental risk. It is definitely advisable to try and get a handle on as many risks to the Canadian stock market and economy as possible before allocating capital to Canadian stocks. As usual, nothing is ever that easy. But it could be well worth the effort.
Disclosure: Long position in EWC
Disclosure: Long position in EWC