With the big five Canadian banks scheduled to release earnings this week, it's a good time to consider the Canadian banks from an investment perspective. While they're not high-growth stocks, in these times of financial uncertainty, Canadian bank stocks represent a relative safe investment with their steady dividend payouts. Earnings are expected to be moderate, considering the impact of the economic slowdown on the country's economy. However, the general consensus is that the banks will hike dividends, which will be well received by investors, who haven't seen much change in the stock price in the last year.
The Canadian banks are amongst the best performing in North America, and all five banks feature in the 'Global Finance - World's 50 Safest Banks'. The banking industry in Canada benefits from diversified business segments, high asset quality, little dependence on wholesale funding, and strong tier ratios. In essence, they are more traditional banks, and retail banking forms the backbone of their earnings.
Canadian Economic Outlook
The Bank of Canada projects the Canadian economy to grow by 2.4 percent in 2012 and 2013 before stabilizing at 2.2 percent in 2014. The IMF expects the Canadian economy to lead global growth. Canada, however, is prone to external shocks such as the euro crisis and a slowdown in the United States. Commodity driven exports remain a concern, putting the economy at the mercy of commodity prices, especially oil.
The following are some key points highlighting the strength of the Canadian banking sector:
45% Revenue from Retail Banking
The Canadian banks on average earn about 45% of their total revenue from Retail Banking, and 20% from Wealth Management. The global economic slowdown and the uncertainty in Europe has taken its toll on the Wholesale banking business, resulting in reduced trading and deal activity and diminishing margins. In contrast, Canadian Banks generate only 20% of their earnings from Capital Markets and are, to a degree, shielded from this downturn in Capital Markets activity as compared to their global peers.
Adhering to Stringent Regulations and Well Capitalized
The Canadian banking sector is well regulated and the Canadian regulator OSFI (Office of the Superintendent of Financial Institutions) imposes strict regulations on the banks. All banks are required to adhere to Basel III capital rules starting Q1/2013. All the major banks that reported estimates of Basel III Tier 1 ratios exceed the OSFI requirement of 6%, demonstrating the strength of their balance sheets.
|Banks||Tier 1||Basel III Tier 1|
|Royal Bank of Canada (RY)||13.2%||8.3%|
|Bank of Nova Scotia (BNS)||12.2%||Not Reported|
|Bank of Montreal (BMO)||12.0%||9.5%|
|Canadian Imperial Bank of Commerce (CM)||14.1%||Not Reported|
External Agency Ratings
Canadian banks are amongst the highest rated by all external agencies, which foresee little reason for any downgrade. These ratings are supported by consistent profitability, earnings diversification, high-quality assets, impressive loan loss reserves, and strong capital ratios.
|Royal Bank of Canada||AA-||Aa1|
|Bank of Nova Scotia||AA-||Aa1|
|Bank of Montreal||A+||Aa2|
|Canadian Imperial Bank of Commerce||A+||Aa2|
Canadian banks have been successful in reducing their GIIPS-Exposure. Exposure to peripheral Europe is limited. However, Canadian banks face a risk of spill-over in case the U.S. and the global economy slip into recession.
(all figures in CAD MM)
|Royal Bank of Canada||1,166||1,245|
|Bank of Nova Scotia||2,468||2,764|
|Bank of Montreal||160||155|
|Canadian Imperial Bank of Commerce||357||366|
Canadian banks have been acquisitive over the last few months. This is seen as a positive especially since it comes at a time when their global peers are struggling to maintain minimum regulatory ratios. It reflects the capital strength of the Canadian banks.
|Toronto-Dominion||• Chrysler Finance|
• MBA Canada Credit Card Portfolio
|Bank of Nova Scotia||• Dundee Wealth|
• Bank of Guangzhou (20% stake)
• Banco Colpatria (51% stake)
|Bank of Montreal||• Marshal & Ilsley|
|Canadian Imperial Bank of Commerce||• American Century Investments|
• McLean Budden Private Wealth
In conclusion, the Canadian banks have performed exceptionally well compared to their global peers, and are positioned to exploit growth opportunities.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.