It is that time of the year again – bank earnings season. Canada’s Big Six banks are among the most widely held stocks across the country and as such, it’s worthwhile doing a little recap.
Before we get started, we’d just like to let members know that we are finalizing a new Bull List addition that should be out this week. Also, the development of our screeners is going quite well. We’ve got two member-requested additions being added in right now. They should be live relatively soon.
One is the ability to see the number of stocks a screen would return before actually screening. This is more user-friendly and prevents going back and forth to narrow your search.
Secondly, you will have the option to always show the Stocktrades Growth & Dividend Safety Score’s in your results, even without them being filtered.
Bank earnings
Since the banks are largely considered to be bellwethers of the Canadian economy, how they perform can give us insight into the impacts of the current rate hikes and high inflation. Worth noting that the Bank of Montreal (BMO) has yet to report but we’ll recap its earnings next week and re-post this table along with it.
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Well, it certainly was a mixed bag. Last quarter, most of the banks handily topped estimates but that was far from the case this time around. Only one bank topped on both the top and bottom lines, and that was Toronto Dominion Bank – a Dividend Bull List stock.
TD Bank
While earnings did dip slightly YoY, it posted strong double-digit revenue growth – an impressive feat considering its size. Canada’s second-largest bank posted better than expected margin expansion in its US operations as it curtailed costs enabling it to offset higher provisions for credit losses (PCLs). Net interest margin (NIM) a key profitability metric for banks jumped by 41 basis points in its US Retail operations.
Circling back to PCLs, which is the estimation banks make on loans they think will go unpaid, they jumped to $351M. This increased from $27M in the prior quarter and compared with a recovery of $37M in Q3 2021. It was the biggest increase in PCLs among all banks QoQ so far and is the main reason for its drop in earnings per share as compared to Q3 of Fiscal 2021.
In a week in which the TSX struggled to gain momentum and lost 1.2% of its value, TD Bank was the only bank that reported and topped the TSX in terms of returns, as strong earnings erased most of its weekly losses. TD Bank ended the week relatively flat, down only 0.5%.
Scotiabank
The worst performing bank of the week was the Bank of Nova Scotia as it shed 7.88%. Despite this, we do not believe it posted the worst set of earnings. We say this even though it missed on the top and bottom lines and posted lower year-over-year earnings. BNS is typically more volatile than the others as it has struggled with performance in recent years.
Royal Bank
In our opinion, Royal Bank stood out as a laggard. Perhaps it is our own expectations, but Royal did not perform up to its usual standards. The bank typically commands a premium over its peers. Why? Because it has been among the best performing banks of the past couple of decades. It is the largest bank in the country, so when it is one of only two that misses on the top and bottom lines, it tends to stand out.
The biggest factor that contributed to the miss was lower than expected revenue growth which was partially offset by lower costs. PCLs appeared to be in line with expectations, but the company’s reported ROE of 14.6% was 3.8% lower quarter over quarter. This was mainly a result of higher-than-expected markdowns in the Capital Markets segment.
This segment was particularly impacted by a soft market for IPOs and secondary offerings, lower trading revenue, and a big $385M write-down on loans. Looking forward, this segment isn’t likely to pick up in Q4 which runs from August to October unless there is a material increase in activity over the next couple of months.
While Royal remains one of the top performing banks on the year (-6.91% which is good for 2nd best), it did lose 3.14% of its value this week. A steep drop by Royal Bank’s standards.
We should also note, that the best performing bank of 2022 is BMO (-5.14%), and depending on earnings next week, Royal Bank could yet again emerge as the pack leader in terms of performance YTD.
Dividend Increases
Last fall, the Feds lifted the freeze on dividend raises and all the banks quickly jumped on the opportunity to announce dividend increases in the months that followed. This was Q4 of Fiscal 2021.
Interestingly, none of Canada’s major banks announced a raise this quarter. Does this mark a deviation from pre-pandemic patterns in which the majority announced bi-annual raises? (The exceptions being TD which had always been on an annual pattern, and BNS which announced in the fall of 2019 that it was moving to annual raises). Not necessarily.
While Royal Bank and Canadian Imperial had a pre-pandemic pattern of raising in Q1 and Q3, the timing of the dividend freeze made it so that all the banks announced a raise in Q4 of last year and this appears to have altered their pattern.
Since all those that raise bi-yearly also raised in the second quarter, it is likely that a new pattern has emerged for both Royal Bank and Canadian Imperial. National Bank and the Bank of Montreal had always raised in Q2 and Q4 of each year, so their pattern remains intact.
Bottom line, while no dividend raises were announced so far this quarter, it does not mean that there is a deviation from the twice a year pattern, nor is there reason for concern. That said, we should see all four (maybe 5 with BNS) announce a raise next quarter.
Closing thoughts
All things considered; it wasn’t a terrible quarter for banks. It wasn’t a great one either. One could say it was just as expected given the tough operating environment. We were happy to see TD stand out, but then disappointed with Royal Bank’s performance.
Both, however, remain attractively valued and are trading at double-digit discounts to historical averages. In fact, most banks are. Historically, this has proven to be a buying opportunity as the banks have always returned to trade in line with the average. This is true both when they become overvalued and undervalued.
That said, we don’t expect that valuation gap to close too quickly as it remains a very difficult environment. Feds are still expected to raise rates and inflation is not yet under control. Until we see some meaningful progress here, we may yet see banks struggle over the short term.
