Friday, September 21, 2007

Outlook for Capital Markets Business

RBC Capital Markets, 21 September 2007

The outlook for Canadian wholesale businesses may not be as bad as feared back in August, but risks related to economic growth have grown

• Three of the four U.S. brokers' Q3/07 results were close to or above street expectations despite major losses and write-downs taken by each in fixed income businesses, alleviating concerns of potentially disastrous results. Goldman Sachs posted the strongest results, and Bear Stearns the weakest.

• These results, combined with the Q3/07 results and disclosures by the Canadian banks on "hot topics", lead us to believe that the outlook for capital markets businesses, although not as good as in the last 12 months, may not be as bad as feared back in August.

• The bigger risk to Canadian bank earnings relates to economic growth; a decline would negatively impact loan growth and credit losses. If there was a recession, which our economists do not envision at this time, the implication for both bank profitability and valuation multiples would be negative and investors would be better off holding lifeco stocks, in our view.

Key themes from the U.S. brokers' results:

1) Diversity of businesses helped weather the credit and liquidity crisis in Q3/07.

2) Managements appeared confident in valuation write-downs and losses taken, and in their capital and liquidity positions.

3) The brokers' outlook is "cautiously optimistic".