Dundee: More Risk Exposure Ahead for Canadian Banks

If you’ve done well with Canadian financials during the past few weeks, congrats. But its time to sell at least some of the Canadian bank stocks you’re holding, says one analyst, because waiting to see what the earnings from U.S. banks look like may cost you.

Recent market optimism is misplaced and another round of securities losses and a weaker earnings outlook for U.S. banks will continue to weigh on valuations there, according to Dundee Securities’ John Aiken, who said this will infect Canadian banks as well. However, he does not believe they will have to raise additional common equity or cut dividends.

While the analyst admits that valuations are cheap and very attractive for long-term investors, he expects continued pressure during the next six months will yield a much better entry point.

“We firmly believe that investors should take some early gains and sell into this rally,” Mr. Aiken said of Canadian bank stocks.

Investor behavior has shown that incremental write-downs and capital infusions both at U.S. and European banks have been viewed positively at times, due to hopes that the end may be near as balance sheet relief arrives. But “don’t kid yourself, more pain is coming,” and the earnings outlook for this sector is weak, Mr. Aiken told clients in a note.

He believes that consensus earnings estimates are too high and will need to come down to better reflect declining wholesale revenues and “rising provisions from deteriorating credit quality as a result of U.S. recession.” As a result, he said true price-to-earnings ratios are higher than they appear.

While Mr. Aiken is more confident in the Canadian banks given their ability to withstand significant pre-tax write-downs, he cut his second earnings estimates for each of Canada’s Big Six banks as a result of “the significantly weaker environment for capital issuances and merger and acquisition activity.” He forecasts that each of their advisory revenues for the coming quarter will match their weakest level of the past four years. Even if the BCE (BCE) deal closes – the only major M&A action around – it is expected to be included in the banks’ third quarter earnings. And as for trading revenues, Dundee’s expectations that the market volatility will subside somewhat later in the year, likely means declines there too.

Mr. Aiken said he is more concerned near-term about names like Royal Bank (RY), Toronto-Dominion (TD) and Bank of Montreal (BMO) since they have U.S. retail exposure, but feels that all of the Big Six will experience deteriorating credit quality. BMO, Bank of Nova Scotia (BNS) and National Bank [NA/TSX] meanwhile, were cited as having more risk given their higher levels of business lending exposure. He has increased his provisions for credit losses for all of the banks and expects others will do the same.

Mr. Aiken continues to rate BMO, CIBC (CM) and Royal at "sell," but cut TD, Scotia and National to "neutral" from "buy."

Comments

[jse17:]

Spot on analysis here!

There are likely other negative articles on financials but they are the exception in advocating selling into the current rally. When an accumulation of “experts” from Jaime Dimond through T.R. Price’s staff tell me to loosen the wallet and buy, look out below!

Granted, Jaime is good in context of his horrific peer group but being the best of the worst is not like winning the Kentucky Derby!

Nice article!

2008 Apr 20 05:29 PM