Often one of our most anticipated quarterly releases, we’ll review the major bank earnings in this week’s newsletter.
This is going to be a content-packed newsletter. It is so jam-packed that we’ve decided to delay our commentary on Equitable Bank (TSE:EQB) until next week.
Let’s waste no time and get right into it.
Growing loan loss provisions
Although provisions for loan losses are expected during a time like this, we must look at not only the individual banks but all of the banks together. A single bank in isolation won’t tell us much, but comparing all the banks together can show us outliers.
For those who do not know, “provisions for credit losses” is money a bank sets aside for loans it believes could go unpaid.
A real life example? Lets say you lend someone $2,000 and you use your line of credit to do so. You charge them a higher rate of interest than you’re currently paying on your line of credit to profit from the loan.
Now, however, you’ve come to find out it’s highly unlikely that person is going to pay you back. As a result, you start to pull money out of your paycheque or savings to pay the loan off yourself.
These provisions come from the bank’s net income, ultimately impacting earnings. If, down the line, the bank has gone overboard with its provisions, you’ll often see what they call a “recovery” of PCLs, which ultimately will add to the company’s net income.
On the other hand, if a bank underestimates its provisions and is forced to play catch up with the other banks, earnings could continue to be impacted, especially in relation to other banks that have correctly estimated their PCLs and are no longer taking a hit to their earnings.
Below is a chart of the five major Canadian banks and their provisions for credit losses as a percentage of their total loans outstanding. In layperson’s terms, the data from the chart below tells you in the fourth quarter of 2024, for every $100 in loans TD Bank has, it has set aside 79 cents for loans it expects to go unpaid.
In addition, there are PCL numbers from the financial crisis to compare to this last quarter.
What can we take from this chart?
At first glance, it seems like Scotiabank is underrepresenting its total PCLs. We witnessed the bank do this during the pandemic, and it had to play catch up in a big way. Scotia’s most recent quarter, which we’ll talk about next, was another indicator that it is playing catch up with the other banks, as it reported a significant rise in its provisions for credit losses.
Another interesting element here is the fact that Toronto Dominion and CIBC are significantly above average when it comes to their provisions. It just so happens that they both also have the largest exposure to negative amortization loans.
As you’ll see when we tackle the individual earnings of the banks below, the vast majority of the increase in their provisions comes from their Canadian personal and commercial banking sectors. It is reasonably evident that the banks foresee issues in the Canadian economy, particularly with real estate.
The banks’ provisions are nowhere near levels we witnessed in peak crises, that being the fourth quarter of 2008 and 2009. Although the real estate situation is far from pretty, predicting how bad it will get here in Canada is complicated.
Both Mat and I are holders of Canadian banks, particularly RY, BMO, and TD, among the majors. Although we’re still bullish in the long term, we acknowledge that it could get worse before it gets better.
Let’s dive into individual earnings.
Scotiabank (TSE:BNS)
Scotiabank continues to struggle, posting arguably the worst fourth-quarter earnings out of any of the major institutions. Although revenue increased by 14% year over year, earnings per share came in at $1.26, a significant drop from the $2.06 it reported at the end of the fourth quarter last year.
The bank’s earnings per share have now declined to the point that it is posting the same earnings in 2023 as it did in 2017. This isn’t necessarily all from a decline in performance. While being a contributor, it is more so due to the large increases in provisions for credit losses.
Total PCLs came in at $1.256B on the quarter, much higher than the $850M~ that was expected. The most alarming area of provisions was the 460% increase in what they call “performing loans.” If you are unaware, a performing loan is a loan the borrower is still paying, but the bank thinks they could default in the future.
The bank’s Canadian segment reported a near-tenfold increase in performing loan PCLs.
The bank is struggling from many angles, and as mentioned, its earnings have dipped back to 2017 levels. In the company’s guidance, it predicts “modest growth” in terms of earnings in 2024.
If it can hit this guidance, it would result in earnings per share in the mid $6 range. Currently, the company pays $4.24 per share in dividends. A mid $6 earnings per share puts its payout ratio at 65%. The only time Scotiabank has maintained a payout ratio this high was during crisis-type situations – the financial crisis in 2008 and the COVID-19 pandemic.
Outside of that, it has always maintained a payout ratio in the 45-50% range. So, it is not surprising the bank was one of the only ones not to raise the dividend this past quarter. No dividend growth from Scotiabank would not surprise us, outside of maybe a minuscule raise to keep its dividend growth streak intact.
Overall, it wasn’t the brightest quarter for the company, posting what is, in our opinion, the weakest quarter out of the banks.
CIBC (TSE:CM)
CIBC posted arguably the best quarter of the major banks. Revenue of $5.84B missed expectations by a small amount, and earnings of $1.57 came in 5 cents higher than expectations.
However, while many of the banks reported a decline in earnings in multiple segments, CIBC witnessed growth in its Canadian personal and commercial banking along with its wealth management segment.
The company has been more aggressive in terms of loan loss provisions. As a result, it reported a decline in provisions relative to last quarter, the only bank to do so. With its PCL ratio being among the highest out of the big banks, this isn’t all that surprising. It is possible that CIBC is being overly cautious here or that its high exposure to the Canadian housing market is simply resulting in higher provisions due to the real estate situation in Canada.
Speaking of the company’s mortgage situation, it posted some interesting data relating to its renewals.
The company states that if rates were to remain at levels witnessed now, on average, those renewing would see the following increase in mortgage payments:
2024: 21% ($349)
2025: 26% ($462)
2026: 28% ($555)
2027: 30% ($690)
The data paints a pretty clear picture: those who signed 5-year fixed-rate mortgages during the pandemic (in 2021 or 2022) are in the biggest danger of seeing significant increases in their payments.
A glass-half-full perspective would be that interest rates, although never guaranteed, are highly unlikely to stay elevated into 2026 or 2027.
The company did follow through with a dividend raise, boosting it from $0.87 to $0.90 a quarter.
We’ve mentioned this a few times, but CIBC has a bit too much Canadian exposure for our liking here. We’ve often passed on the bank, even during discounted valuations.
This was a solid quarter, but we’d need to see the situation improve on the Canadian economy front before we’d consider buying this bank.
Royal Bank (TSE:RY)
Royal Bank has been our Canadian Foundational bank stock here for multiple years, primarily due to its consistency. It rarely posts surprises, and this quarter was no exception. Revenue of $13.03B came right in line with expectations, and earnings of $2.78 per share beat estimates by 14 cents.
Many banks reported revenue increases but declines in net income due to the severity of PCLs. Royal Bank, on the other hand, reported flat earnings per share. Although the company does have relatively high exposure to Canada, it seems like its broader exposure to 40+ other countries is helping shore up earnings.
Much like the other banks, however, it’s reporting strong increases in its Canadian segment regarding provisions. If there is one thing we can take from all of the banks over the last few quarters, it’s that their outlook isn’t exactly bullish for the Canadian economy.
Overall, Royal Bank gave us probably the least to talk about among the major institutions. Underlying business operations are very strong, but higher provisions are impacting earnings.
There is a chance that Royal’s strong international exposure could be a tailwind for the company moving forward compared to the other banks.
Bank of Montreal (TSE:BMO)
For its part, BMO posted a relatively in-line quarter. Earnings of $2.81 missed by $0.04 while revenue of $8.36B topped estimates by $109M.
The company’s CET1 ratio came in at 12.5%. Although this is down materially from the 16.7% reported last year, this was expected as the company’s acquisition of Bank of the West was being completed. If you remember, BMO had to issue shares last year in anticipation of their CET1 ratio dropping below regulatory requirements after the acquisition closed. So, their CET 1 ratio was artificially high.
While the ratio is currently on the low end of the banks (2nd lowest), it is up for the second consecutive quarter post-acquisition. The expectation is for the ratio to come in around 12.4% next quarter (Q1 of Fiscal 2024) as it announced a 0.25% impact in its annual review. From then on, however, the ratio is expected to rise materially.
The company also provided disclosures on mortgages in a position of negative amortization – the first time it has done this. The total value of those mortgages came in at $29.9B, down 9% QoQ – a positive sign.
Adjusted total provisions for credit losses came in at $446M, a material increase from the $266M reported a year ago. This is not unique to BMO, as every major institution here in Canada has raised PCLs materially this past year. That said, PCLs came in much lower than the consensus ($511M) due largely to better-than-expected results in performing PCLs. You’ll notice that many other banks saw material increases in this area. However, BMO was one of only two banks to have a decrease quarter-over-quarter (QoQ). Performing PCLs came in at $38M, down 76% QoQ.
The bank continues to integrate Bank of the West, and the good news is that the expected cost synergies are now expected to come in at around US$800M, up from US$670M. It is worth noting that one-time costs currently impact BMO’s earnings per share.
Finally, the bank announced a 2.7% ($0.04 per share) raise to the quarterly dividend. Combined with their raise from earlier this year, the bank raised by 5.59% in Fiscal 2023. All things considered, it’s not a bad dividend growth rate.
Toronto Dominion (TSE:TD)
It was a mixed quarter for TD Bank as earnings of $1.83 per share missed by $0.07 and revenue of $13.18B (+7%) beat by $820M. Core net interest income (NII) came in at $7.541B (up 4%), and net interest margin (NIM) rose by 4% quarter-over-quarter (QoQ).
As mentioned above, TD’s PCLs as a percentage of total loans was an industry-leading 0.79% as total PCLs came in at $878M, just slightly above consensus estimates for $871M. Much like many of their peers, PCLs on performing loans jumped significantly QoQ (+54%), rising to $159M and above the consensus estimates for $125M.
In terms of liquidity, the company’s CET1 ratio came in at 14.4% (-0.8% QoQ) as the company continues to redeploy liquidity in light of the failed Horizon Bank acquisition.
The bank repurchased 37.75M shares and announced a 6.25% dividend raise to $1.02 per share. This number is lower than their historical averages, but in the current environment, we are not surprised to see a more cautious approach to the dividend. Unlike most banks, TD Bank only announces a raise once per year, which is why it came in much higher than the others that raised this quarter.
It is also worth noting that management indicated that their buyback activity may not be as pronounced as it has been. While it remains the best-capitalized bank, there is still plenty of macroeconomic uncertainty, and it is still dealing with the anti-money laundering (AML) issues in the U.S.
The bank outlined a restructuring plan expecting approximately $600M in savings – most of which will be reinvested into AML infrastructure. Of note, the company did not comment on their ongoing conversations with the regulator regarding their AML issues, so there is still much unknown concerning what a potential fine/punishment could be.
As a reminder, TD Bank is also one of the banks with a high exposure to mortgages in negative amortization. In the quarter, these mortgages declined by 18% to $37.4B as the company showed signs of progress in this area. This rate of decline was above both BMO and CM, which are also exposed to these types of mortgages.
National Bank (TSE:NA)
It was a steady quarter for National Bank, which was one of the few to top estimates. Earnings of $2.32 per share beat by $0.03 and revenue of 2.759B beat by $106M. The strong beats come on the back of improved performance from capital markets (+41%), as its Financial Markets segment benefited from strong trading revenues and lower tax rates.
Total PCLs came in at $115M, below the consensus for $123M, and it was one of the few banks that posted lower quarter-over-quarter (QoQ) PCLs on stage 3 (performing loans). Those dropped to $63M, a 14% drop from the previous quarter.
National Bank’s CET1 ratio of 13.5% was flat QoQ. Still, it is worth noting that the company expects a 35-40 basis point hit to the CET1 ratio next quarter.
In-line with their trend, the bank announced the second dividend raise of the year, a 3.9% bump to $1.06 per share. Combined with their raise from earlier this year, National Bank raised their annual dividend by 9.2% in 2023. This is the highest rate among all of the major Canadian banks.
On the flipside, they didn’t repurchase any shares this past year despite having an NCIB. Along with Q4 results, they announced a new NCIB to repurchase up to 7M shares (~2%). Whether they do or not will depend on their progress with the banks CET1 ratio.
We consider the quarter to be a solid one – nothing really that stands out which is a good thing in this environment. The company is trading just below historical averages. It remains one of the best-performing banks on this side of the border.
