Tuesday, May 23, 2006

Banks Face Margin Pressure

Lenders compete for deposits; Short-term interest rate rising

Canadian Press, Tara Perkins, 23 May 2006

As the big banks begin releasing their second-quarter earnings this week, one key factor to keep an eye on is high-interest rate savings accounts.

In the first quarter, Scotiabank, the Bank of Montreal and National Bank saw the margins on their Canadian retail loans squeezed.

"The common characteristic between these three banks is that they all offer a `no-strings attached' premium rate savings account," Genuity Capital Markets analyst Mario Mendonca wrote in a note to clients.

Banks make money on the margin between the interest they pay on deposits and the interest they receive on loans.

Looking to the second quarter, Mendonca said access to low-cost deposits will be increasingly important.

"With the majority of banks competing aggressively for retail loans (CIBC and Canadian Western Bank are the exceptions), the ability to effectively manage the deposit side of the net interest margin equation has become a key differentiator, particularly since the Bank of Canada started raising short-term rates in September," Mendonca wrote.

While he rates CIBC a sell, he noted that its push on variable-rate mortgages, combined with its "less aggressive" premium-rate savings account, should help its margins during the quarter.

The banks won't reveal how successful high-rate accounts have been in capturing new customers.

Last week, HSBC Bank Canada, which is not considered one of the big banks, launched a high-rate savings account.

Customer reaction has been "very positive," chief executive Lindsay Gordon said.

"All banks are looking for ways to grow their deposits," he said. "The deposits are the raw material with which we make loans. We want to raise more deposits, and secondly we believe there is a strong and growing demand from Canadians for what we call high-interest savings."

Gordon said HSBC is "certainly prepared to be pretty aggressive in this space," adding that he expects to raise attention from the big banks.

"I think you've got to be competitive, and how high a rate you're willing to pay over the competition will obviously influence how much market share you gain," he said.

Scotiabank managing director of term deposits and day-to-day banking, Gillian Riley, said "we feel that this product enhances relationships with our customers, encourages growth, banking deposits and customer retention."

The market will be watching the banks' second-quarter earnings closely.

Bank stocks have become cheaper lately.

"Over the last three months, the banks were the worst performing sub-group on the S&P/TSX, down 6.5 per cent and even underperforming the technology sector," Mendonca said in his note last week.

Much of the stock losses can be attributed to the amount of investor funds flowing into the resource sector, and to speculation that the Federal Reserve and Bank of Canada will continue to raise rates, Mendonca said.