‘No smoking gun’
SO WHY ARE INVESTORS PUSHING DOWN THE PRICE OF BANK STOCKS?
Banking investors are waiting for some kind of catalyst before pulling Canadian financials out of their current doldrums — but analysts aren’t entirely sure what that might be or how long that might take.
A year-to-date survey of the Big Bank stocks demonstrates the extent of the current malaise. From strongest to weakest: TD (down 1.6 per cent); National Bank (down 2.7); Scotiabank and BMO (both down 3.4); RBC (down 5.5); and by far the worst of the bunch, CIBC (down painfully at 9.1 per cent).
Overall, the TSX capped financials index is down five per cent for the year, compared to around four per cent for the composite index.
Gabriel Dechaine at National Bank Financial says the banks have actually done all right this year, with earnings upwardly revised four per cent, even as price-toearnings multiples have fallen 10 per cent. That underlying performance hasn’t won over investors, though, who are fixated on more pessimistic trend lines.
“The banks are making more money than we give them credit for,” Dechaine said. “That’s a pretty consistent trend. It’s really the market sentiment factors that are impacting stock prices.”
There’s no smoking gun, says Scott Chan at Cannacord Genuity, but he thinks general decline of the housing market, and even the possibility of a crash, are chief among investor worries.
That may explain the steep drop at CIBC, which has the most exposure of the banks to Canadian mortgages, and has been growing its mortgage book at a double-digit clip in recent years.
Chan thinks rising interest rates along with the new B-20 “stress test” rules, which require homebuyers to prove they can afford their mortgage at higher rates, have depressed CIBC’s shares. Higher rates will also inevitably push delinquency rates up, and ultimately force banks to set more money aside under credit provisions.
Analysts, however, are decidedly more confident than investors when it comes to CIBC’s prospects. Chan and Dechaine both have CIBC as their top pick among Canadian banks, given the deep value offered by its current price point. The bank is trading at forward price-earnings ratio of nine.
Chan thinks investors aren’t properly taking into account the recent acquisition of U.S.-based Privatebankcorp, which has delivered tremendous growth for CIBC. That U.S. exposure — while minimal compared to banking peers — should allow the bank to beat the street for a 14th-straight quarter later this month, he says.
John Aiken at Barclays Capital suggests another reason for the banks’ underperformance might involve rotation into more promising sectors and regions. Last year, he says, valuations for the Big Six banks were running a bit high because, at the time, Canadian index investors were staying away from materials and energy.
But now, with oil prices having risen 10 per cent year-to-date, “people are placing bets, and you’re seeing that capital being pulled out of the banks and deployed elsewhere.”
Aiken also suggests that the move away from banks may represent a general sell away from Canada and into the United States. Central banks in both countries are raising interest rates, but because the U.S. was already hit with a severe housing correction in 2008, banks there aren’t feeling the same overhang.
Moreover, Aiken points out that, because the U.S. Federal Reserve is raising rates faster than the Bank of Canada, U.S.-dollar investments will get a lift relative to the Canadian currency. So, with GDP and interest rates rising faster in the U.S., Canadian banking investors may simply be pursuing better options.
The interminable NAFTA negotiations are also creating an overhang. “NAFTA is a big source of uncertainty,” says Dechaine, “and if, in the extreme scenario, the agreement gets torn up, then there’s the possibility that the Canadian economy falls into recession, and that’s not good for banks.”
Still, Dechaine agrees that banks are slightly undervalued, and CIBC in particular. He’s looking for a catalyst later in the year.
“It’s a matter of time, but it’s also a matter of an event,” he said, and that might be strong quarterly earnings, or a positive resolution to the NAFTA negotiations, or even some news about housing.
But Dechaine says investors don’t have to worry about missing out on any rebound, given that the banks don’t tend to bounce on positive news. “Let’s say NAFTA was signed tomorrow. They probably would go up, but that’s not one-and-done,” he said. Any change to sentiment should result in a slow but steady recovery, probably starting later in the year and moving into 2019.
IT’S REALLY THE MARKET SENTIMENT FACTORS THAT ARE IMPACTING STOCK PRICES.