Bank stocks slip as BMO feels pinch
Concern is that slow economy starting to impact Canadian lenders
Shares in all of Canada’s big banks slipped on Tuesday after Bank of Montreal kicked off the latest earnings season with less than stellar results across most of its operations.
Even the domestic retail business showed signs of strain with slowing revenue and tighter net interest margins putting the squeeze on profits. It’s a trend in the eyes of some observers that could be a sign of things to come for the entire sector as overleveraged consumers put the brakes on borrowing.
At the same time it’s important to remember that the Canadian banks are about as resilient as they come, thanks to a concentrated domestic market. They enjoy return on equity — a key measure of profitability — in their core retail businesses above 35 per cent in some cases, a level that players in other countries can only dream about. A recent McKinsey report pegged average ROE at their domestic capital markets operations at 17 per cent, nearly double the global average.
BMO shares closed at $70.30, down 4.4 per cent, while Royal Bank of Canada slipped 1.46 per cent to $69.41. Toronto-Dominion Bank declined 0.81 per cent to $96.8, Bank of Nova Scotia fell 1.8 per cent to $64.16, and Canadian Imperial Bank of Commerce declined 1.1 per cent to $90.37.
Net profit came in at $1.1 billion, up just one per cent from the same period last year and roughly in line with expectations. The problem is there were a number of onetime items that clouded the results, such as a security gain of $121 million resulting purely from the reclassification of an an ownership stake in a U.S. wealth management business as “available for sale at fair value.” Once that’s stripped out, a less optimistic picture emerges.
The concern is that the country’s fourth-biggest bank, and possibly its peers, is starting to feel the weakness in the economy. Resource industries are taking a beating. The outlook for oil and gas — long a bright spot — has dimmed in the face of the recent rise in U.S. unconventional gas production. The loonie has slipped from near parity with the U.S. dollar to less than 94 cents.
Hit by slowing revenues, all the banks are working to cut expenses, whether by reducing staffing or trimming bonuses paid to top executives. The head-count reductions were confirmed on a conference call with analysts by Frank Techar, the chief operating officer. BMO cut almost 1,000 positions in the quarter.
Canadian banks powered through previous market crashes and corrections and even the financial crisis largely thanks to diversification across a swath of different businesses, from basic consumer and commercial lending to capital markets and insurance. When one business hit a rough patch, others could be relied on to maintain momentum. But this time the challenges are no longer localized.
Perhaps most worrying for the banks is that their bread-and-butter retail operations, the biggest profit driver, is showing signs of strain as over-leveraged consumers start to crank back on borrowing.
Analysts are watching closely, mindful that the largest single asset on banks’ balance sheets is residential mortgages while credit card lending is among the most profitable businesses in the entire industry.
BMO’s domestic retail bank reported net income of $469-million, up 6 per cent on higher lending, especially mortgages. But here’s the thing. Revenue rose only 4 per cent as lower net interest margins — the difference between the bank’s cost of funding and what it charges borrowers — bit into revenue.
The bank’s U.S. operation had a profit of $102 million, down 28 per cent amid uncertainty about the U.S. housing market and the direction of interest rates.
Capital markets had a profit of $229 million, down 27% as trading revenues were hit by slumping volume and rising uncertainty.
The good news is that the results show merely that the bank is under pressure, which really should come as no surprise. Revenue is slowing but even in the face of so many weak spots but it remains robust and continues to move up.