TD Bank Q1 2008 Earnings

• TD Bank target price cut from C$81 to C$71 by CIBC, rating is Sector Perform
• TD Bank raised from Neutral to Outperform by Dundee Securities

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RBC Capital Markets, 29 February 2008

EPS close to our expectations

Q1/08 core cash EPS of $1.46 were close to our estimate of $1.47, which was in line with consensus, representing YoY growth of 6%.

• TD raised its quarterly dividend to $0.59 from $0.57; we had looked for $0.60.

• Domestic retail earnings were slightly below our expectations on higher reserves in the P&C insurance business and weaker margins.

• Wealth management net income was ahead on much stronger than expected revenues.

• TD Banknorth net income was slightly higher than expected as lower than expected revenues were offset by lower than expected expenses and loan losses.

• Wholesale earnings were weaker than we expected in spite of high securities gains. Trading revenues of $197 million were well down from year-ago levels ($330 million) on weaker credit and equity trading.

• Management reminded that its mid-term objective of 7-10% in EPS growth will be exceeded in good times, and challenging in tough times. The growth objective implies 2008 EPS of $6.15-6.35. Our estimate is $5.80.

Capitalization strong, but heading down

Basel II had a beneficial impact on the Tier 1 ratio, which was 10.9% versus 10.2% under Basel I.

• The closing of the acquisition of Commerce Bancorp is expected to bring the ratio down next quarter to about 9.5%.

• We expect capital ratios to build in H2/08 but then come down by 160 basis points to 8.9% in Q1/09 due to expected changes in capital calculations for investments in unconsolidated entities in which a bank has a substantial investment. The balance of TD's investment in TD Ameritrade was $4.6 billion in Q1/08; if half of that amount was deducted from Q1/08 Tier 1 capital, the Tier 1 ratio would come down by 160 basis points.

• We do not expect TD to be in a position to aggressively deploy capital in 2008 and 2009.

Credit relatively weaker, although weakness did not come from expected areas

Specific provisions for credit losses were $235 million versus our $190 million estimate, $165 million in Q4/07 and $153 million in Q1/07. Our full year estimate is for specific loan losses of $970 million, up 51% versus 2007, with a loss rate in line with historical averages.

• Surprisingly, loan losses declined sequentially in the U.S. We expect that trend to reverse in upcoming quarters given TD Banknorth's exposure to construction real estate and commercial estate (3% and 12% of assets at TD Banknorth, respectively).

• Wholesale banking losses of $56 million were well up from the $4 million reported in Q4/07 and $24 million in Q1/07. Those losses were the result of two impairments in the merchant banking portfolio; we expect losses to come down in Q2/08.

• Retail loan losses $172 million were up from $138 million in Q1/07, but down slightly versus Q4/07. We expect continued upward pressure on losses, driven by higher loss rates in the commercial and small business segments, and growth in personal lending.

The increase in gross impaired loans was more rapid than for peers but the increase was partly due to changes in reporting methodology.

• Gross impaired loans were $785 million; up from $569 million in Q4/07 and $511 million in Q1/07. Increases came from both Canada and the U.S.

• $124 million of the increase came from Canadian retail, with the majority being due to a change in the definition of gross impaired loans for insured residential mortgages from 360 days to 90 days past the contractual due date.

Wholesale profitability down, even with strong securities gains

We believe that TD Securities' earnings could be challenged in upcoming quarters, unless more unrealized gains are realized.

• We believe that the bank realized two very large gains in the quarter. Securities gains of $152 million were quite high compared to the average of $65 million in Q4/07 and Q1/07, in spite of taking write-downs in the bank's head office portfolio and realizing losses on the transfer of a security that was held in a sponsored mutual fund (we believe this relates to holdings that were held in money market funds managed by TD Asset Management USA).

• Management confirmed our suspicions that it had marked down part of its $3.3 billion loan commitment exposure to the BCE transaction in Q3/07 and it took more markdowns in Q1/08 (which were booked as negative trading revenues). The amount of the markdowns was not disclosed but we have suggested that the total could amount to $165 million to $330 million (pre-tax) if we assume that TD loses 5 – 10%, in line with the reported weakening in leveraged loan pricing. The $500 million equity bridge could also result in losses but the value is difficult to determine. Fees payable at the closing of the transaction mitigate the impact of a write down. Further write-downs are likely to be dictated by the direction of leveraged loan pricing.

• Trading revenues of $197 million were well down from $330 million in Q1/07 but not far from Q4/07. We believe that trading revenues will continue to be challenged, while the underwriting and M&A outlooks are probably muted as well.

• TD Securities appears relatively well positioned to avoid large hits in its wholesale franchise, but the near term earnings growth outlook is not overly exciting.

Retail trends not as strong as in prior quarters; we still expect TD to outperform

Retail revenue growth of 7% and net income growth of 10% is likely to prove strong relative to peers but it represents slowing growth relative to peers.

• On a relative basis, we expect revenue growth to benefit from branch openings, the extension of opening hours, the increase in financial advisors, and an increase in net revenue growth in P&C insurance (Q1/08 was negatively impacted by a $30 million increase in reserves related to a recent Alberta court decision that removed limits on awards related to pain and suffering on minor injuries resulting from automobile accidents). We are forecasting 7% in top line growth for 2008.

• On an absolute basis, we expect revenue growth to slow on a likely slowdown in industry volumes and less aggressive growth in credit cards for TD, while the bottom line is likely to be negatively impacted by a more rapid increase in loan losses than revenues. Management also believes it will be tougher to meet its 3% annual revenue growth/expense growth gap. We are forecasting 10% in bottom line growth.

• TD's market share of personal deposits was down 60 basis points in the last year on 3% growth in balances. The bank has focused on checking accounts and we believe share losses in that area have not been as bad. Management appears to have had enough of the market share losses in other areas (term deposits and high yield savings accounts) and appears willing to increase deposit rates to protect market share. This may be a negative for net interest income margins.

Management sticking to 2008 profitability objectives in the U.S.

Management reiterated its net income objective from U.S. retail banking earnings of $700 million in 2008.

• This assumes a Canadian dollar trading at par against the U.S. dollar and a Commerce Bancorp closing by the end of March.

• We believe that the objective could be challenging; there is upside to our earnings estimates if management delivers.

• We expect continued pressure on deposit spreads, but lending spreads could improve, partly mitigating the impact.

• We believe that loan losses will likely worsen from current levels. We expect 6% of pro-forma assets in the U.S. will be in construction real estate loans, while 25% will be in commercial real estate loans.

• We believe that Commerce Bancorp's $4.7 billion securities portfolio backed by Alt-A loans will be valued down at closing, leading to the price to book multiple TD is paying for Commerce Bancorp to rise.

• Management appears keenly focused on expenses, with both compensation and advertising costs declining versus Q4/07.

Valuation

TD (Outperform, Average Risk): Our 12-month price target of $76 is a combination of our sum of the parts and price to book methodologies. It implies an approximate forward multiple of 11.8x earnings, compared to the 5-year average forward multiple of 12.3x given the less accommodative macro environment. Our P/B target of 2.0x in 12 months is at the low end of the bank sector given a lower ROE. Our sum of the parts target of 13.0x 2008E earnings is higher than our target industry average, reflecting a superior domestic retail franchise and lower exposure to low multiple wholesale businesses.

Price Target Impediment

Risks to our price target include the health of the overall economy, sustained deterioration in the capital markets environment and greater than anticipated impact from off-balance sheet commitments. Additional risks include an unexpected acquisition, integration risk with Commerce Bank, TD Ameritrade and TD Banknorth, pricing pressure in the discount brokerage industry, a rising Canadian dollar, litigation risk and a worse than expected impact from Enron-related litigation (although it appears that risk has declined, given a court ruling in another Enron trial).

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Scotia Capital, 29 February 2008

Q1/08 - Solid Results - Dividend Increased 4%

• TD reported solid Q1/08 results with operating earnings increasing 5% to $1.45 per share. Earnings were driven by strong earnings growth from wealth management and retail banking offsetting weak wholesale banking results.

• TD increased its dividend by 4% to $2.36 per share from $2.28 per share.

• Reported earnings were $1.33 per share which included $0.03 per share gain from change in fair value of credit default swaps, $0.03 per share negative tax adjustment, $0.03 per share provision for insurance claims and $0.09 per share amortization of intangibles.

• Cash ROE was 19.7% versus 19.9% a year earlier. Return on risk-weighted assets was 2.92% versus 2.74% a year earlier.

• Wealth Management earnings increased 16% driven by TD Ameritrade with TDCT earnings growth of 10% offsetting the 17% decline in wholesale bank earnings.

Operating Leverage Solid

• TD’s operating leverage was solid in Q1 at 2.5%, with revenue growth of 0.8% and expenses declining 1.7%.

Canadian P&C Earnings Up 10%

• Canadian P&C earnings increased 10% to $598 million, primarily due to volume growth in real estate secured lending, credit cards, and deposits.

• Canadian retail net interest margin (NIM) declined 5 bp sequentially and year-over-year to 2.98%.

• Personal deposits and personal lending market share declined 60 bp and 30 bp respectively from a year earlier. Small business and other business loan market share increased 50 bp and 40 bp respectively YOY.

• Loan securitization revenue declined to $76 million versus $134 million a year earlier and was flat versus $80 million in the previous quarter. Insurance revenue declined to $186 million from $254 million a year earlier due to increased provisions for insurance claims relating to a recent court decision in Alberta. Card service revenue increased 9% YOY to $119 million.

• Operating leverage was solid at 4% with revenues increasing 7% and expenses increasing 3%.

• The efficiency ratio improved 80 bp to 51.0% sequentially.

• Loan loss provisions increased to $172 million from $138 million a year earlier but declined slightly from $176 million in Q4/07.

Total Wealth Management Earnings Up 16%

• Wealth Management earnings, including the bank’s equity share of TD Ameritrade, increased 16% to $216 million.

Canadian Wealth Management – Earnings Increase 5%

• Domestic Wealth Management earnings increased 5% to $128 million from $122 million a year earlier due to higher mutual fund fees from asset growth.

• Operating leverage was negative at 0.7%, with revenue increasing 3.4% and expenses increasing 4.1% to $570 million and $379 million respectively.

• Mutual fund revenue increased 10% to $220 million from $200 million a year earlier.

• Mutual fund assets under management (IFIC, includes PIC assets) increased 5% to $58.8 billion.

TD Ameritrade – Earnings Increase 38%

• TD Ameritrade contributed $88 million or $0.12 per share to earnings in the quarter versus $75 million or $0.10 per share in the previous quarter and $64 million or $0.09 per share a year earlier. TD Ameritrade’s contribution represented 8% of total bank earnings. TD Banknorth Earnings Flat Sequentially

• TD Banknorth earnings were $127 million or $0.18 per share representing 12% of TD earnings versus $124 million or $0.17 per share in Q4/07. This compares with an earnings contribution of $64 million or $0.09 per share a year earlier prior to the privatization of TD Banknorth.

• Net interest margin at TD Banknorth declined 12 bp from the previous quarter and 7 bp from a year earlier to 3.88% as the flat yield curve and strong competitive pressures continue to pressure the margin.

U.S. Platforms Combine to Represent 20% of Earnings

• TD Banknorth and TD Ameritrade contributed $215 million or $0.30 per share in the quarter, representing 20% of total bank earnings.

• The U.S. platforms contribution was negatively impacted by the 16% appreciation in the Canadian dollar which reduced earnings by $0.04 to $0.05 per share.

Wholesale Banking Earnings Decline 17%

• Wholesale banking earnings declined 17% to $163 million from $197 million a year earlier but increased 4% from $157 million in Q4/07.

• Revenues declined 4.3% to $608 million from a year earlier with expenses declining 3.3% to $321 million.

Capital Markets Revenue

• Capital markets revenue declined 6% to $359 million from $380 million a year earlier.

Trading Revenue Declines 10% Sequentially, 40% YOY

• Trading revenue declined to $197 million from $219 million in the previous quarter and from $330 million a year earlier.

• The extremely weak trading revenue was due to a loss in interest rate and credit trading and a decline in equity trading revenue. Interest rate and credit trading revenue was a loss of $37 million versus a gain of $105 million a year earlier and a loss of $69 million in the previous quarter. The credit losses are likely related to write-down's on the banks unfunded loan commitment to BCE. Equity and other trading revenue declined to $71 million from $152 million a year earlier. On the positive side, foreign exchange products trading revenue improved to $163 million from $73 million a year earlier.

Securitization Activity Moderate

• During the quarter, TD securitized $1.2 billion in assets versus $1.6 billion in Q4 and $3.4 billion a year earlier. At quarter-end, TD had $27.9 billion in securitized assets outstanding.

• The economic impact before tax of securitization this quarter was a gain of $5 million versus $4 million in the previous quarter and $13 million a year earlier.

Security Gains High

• Security gains were high at $152 million or $0.14 per share versus $60 million or $0.05 per share in the previous quarter and $70 million or $0.06 per share a year earlier. The earnings impact of the higher security gains was offset by variable compensation (gain on merchant banking position - Equalogic sale to Dell) and higher loan loss provisions in wholesale related to merchant banking portfolio.

Unrealized Surplus - $901 million

• Unrealized surplus declined to $901 million from $1,236 million in the previous quarter and from $990 million a year earlier. The bank currently has six quarters of security gains remaining in its securities portfolio based on the level of gains recognized this quarter.

Loan Loss Provisions

• Specific loan loss provisions (LLPs) increased to $255 million or 0.53% of loans versus $163 million or 0.38% of loans a year earlier.

• We are increasing our 2008 LLP estimate to $900 million or 0.45% of loans from $850 million. Our 2009 LLP estimate remains unchanged at $1 billion or 0.50% of loans.

Loan Formations Increase

• Gross impaired loan formations increased to $626 million from $387 million in the previous quarter and from $369 million a year earlier. The increase in impaired loans is mainly due to the bank now classifying insured mortgages as non-performing after 90 days in arrears versus 360 days. Loss experience on this portfolio is expected to remain at negligible levels.

• Net impaired loan formations increased to $429 million from $199 million in the previous quarter and increased from $243 million a year earlier.

Tier 1 Capital - 10.9%

• Tier 1 ratio was 10.9% under the new Basel II capital framework and 10.2% under Basel I. Tier 1 ratio was 10.3% in the previous quarter and 11.9% a year earlier. Basel II is expected to reduce the Tier 1 by an estimated 150 bp related to TD Ameritrade effective November 1, 2008.

• Risk-weighted assets declined 2% from a year earlier to $145.9 billion, with market at risk increasing 14% to $4.1 billion.

Recommendation

• We are trimming our 2008 earnings estimate to $5.95 per share from $6.00 per share and our 2009 earnings estimate to $6.70 per share from $7.00 per share based on expected slowing growth in the retail operations.

• Our 12-month share price target remains unchanged at $100, representing 16.8x our 2008 earnings estimate and 14.9x our 2009 earnings estimate.

• We reiterate our 1-Sector Outperform rating of shares of TD based on strong high-quality earnings, high relative profitability, growth potential from TD Banknorth and TD Ameritrade (including M&A potential) and attractive valuation.

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Financial Post, Grant Surridge, 29 February 2008

The unexpectedly high credit provisioning put in place by TD Bank yesterday has prompted Blackmont Capital analyst Brad Smith to lower his target price on the stock.

"Credit conditions are likely to deteriorate further, especially in the U.S.," said an excerpt of a note Mr. Smith wrote to clients on Friday morning.

The surprise credit provisioning caused TD's first-quarter results to miss Mr. Smith's expectations, and the announced dividend increase was about half of what he had predicted.

Excluding the provisioning, however, the results more or less jived with what Mr. Smith had called for, and he noted steady performances in the bank's Canadian retail and wealth management businesses.

Mr. Smith lowered noth his 2008 and 2009 earnings estimates and his target price to $63 from $68 previously.

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CIBC Q1 2008 Earnings

RBC Capital Markets, 29 February 2008

CIBC's Q1/08 GAAP EPS were $(4.36), not as bad as our estimated loss of $5.67, primarily because write-offs related to CDOs/RMBS/CLOs/monolines were $600 million less than the $4.0 billion we had expected.

The bank, as expected, was not in a position to assuage concerns over the ultimate value of CDOs, CLOs and monoline hedges.

• We would have hoped to get better disclosure on the underlying assets that are hedged with monolines that are not U.S. RMBS CDOs.

• We expect $1.5 billion in further write-downs in Q2/08 given continued spread deterioration on structured finance assets. A large infusion of capital into the monoline industry would make our forecast overly pessimistic (and could lead to recoveries of past valuation allowances if some of the weaker players are rescued; a scenario we view as unlikely).

We maintain our Sector Perform rating and 12-month price target of $73. Our target valuation implies a P/E multiple among the lowest of the large Canadian banks, reflecting more exposure to sub-prime CDOs and financial guarantors, below average retail banking trends, our concerns over wholesale revenues and lower confidence about unknown exposures. In general, we believe the turn in bank stock prices will likely come when the economic outlook improves, with potential specific upside at CIBC if:

• Financial guarantors are able to secure enough capital to convince rating agencies and capital markets participants that their capital strength is unaffected by the prospects of losses on insured CDOs, and/or

• CIBC can improve its relative performance in domestic retail banking, an area where results have lagged peers.

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Scotia Capital, 29 February 2008

• CM reported a 7% decline in cash operating earnings to $2.02 per share slightly below expectations due to weak merchant banking earnings. Reported earnings were a loss of $4.39 per share, due to net charges of $6.36 per share on ACA/other monoline/CDOs and other adjustments. Charges were $1.61 per share higher than pre-announced.

What It Means

• The remaining potential loss currently on the banks hedged RMBS/CDO portfolio is $2,272 million assuming the counterparties (monolines) fail to meet their obligation. The net unhedged CDO portfolio is down to $287 million.

• Under Basel II the tier 1 ratio is 11.4%.

• We maintain a 2-Sector Perform rating with CM considered the highest beta bank stock and an outlier for a Canadian bank given its relatively large exposure to U.S. sub-prime and U.S. monolines. CM is trading at the lowest P/E multiple of the bank group at 8.5x our 2008 earnings estimate, representing a 22% discount to the group. We expect CM's P/E discount to narrow to the 10%-15% range over the next several years as it stabilizes its risk profile.

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The Globe and Mail, Matt Hartley, 29 February 2008

One of Canada's biggest banks has allegedly been illegally recording telephone conversations with its customers for more than four months.

Yesterday, CIBC chairman Bill Etherington admitted his bank has so far failed to educate its employees on new privacy standards introduced by the Privacy Commission of Canada last October. Under the new legislation, businesses and telemarketers that place cold calls to customers are now required to ask for permission before recording the conversations.

Mr. Etherington made the admission during the bank's annual general meeting, after being confronted by Rick Garrett, a 55-year-old retiree from Charlottetown, PEI, who flew into Toronto specifically to address the assembled CIBC executives and shareholders regarding the bank's telemarketing practices.

"I think it's sort of an invasion into my home when someone calls me to record my voice and my ups and my downs and my good days and my bad," Mr. Garrett said during the meeting. "I'm a little upset about this bank's slow reaction to what I consider to be an invasion of your customers homes, businesses and cellphones."

Although federal privacy commissioner Jennifer Stoddart made the ruling four months ago, CIBC executives are still working with her office "to determine how this will be properly implemented," Mr. Etherington said in response to Mr. Garrett's question.

Other banks and telecom companies contacted by The Globe say they have already instituted policies requiring telemarketers to inform customers that outbound calls may be recorded.

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Financial Post, Duncan Mavin, 29 February 2008

Canadian Imperial Bank of Commerce is putting its stock -- and the fortunes of its shareholders -- at the mercy of hedge funds and other sophisticated players because of the piecemeal way the bank is disclosing its exposure to investments in U.S. subprime mortgages and other complex securities, says a Bay Street analyst.

CIBC's executives fended off calls for more information about their portfolio of collateralized debt obligations (CDOs), residential mortgage backed securities and the like on Thursday after the bank revealed that its write-downs have soared to $4.2-billion since the crisis began last year. (Charges in the first quarter turned a profit of $770-million last year into a loss of $1.5-billion for the first three months of fiscal 2008.)

The missing details make it difficult for analysts and even some highly-sophisticated investors to assess the likelihood of further losses at CIBC, says Genuity Capital Markets analyst Mario Mendonca. But that sort of information is relatively easy to find for hedge funds and other savvy players on Wall Street who have good contacts among the counterparties to CIBC's complex securities, like other big U.S. banks.

"It's a waste of time trying to get information about CIBC from anyone with a 416 (Toronto) telephone number any more," said Mr. Mendonca. "All the best knowledge is with people who have 212 [New York] numbers."

CIBC executives insist, with some justification, that the bank has disclosed more about its exposure to potential losses than its Canadian rivals and even other banks in the U.S. and elsewhere.

But there are still plenty of unanswered questions about the extent and nature of the bank's exposure to monoline insurers, CDOs and other troublesome areas of capital markets activity.

CIBC's subprime losses were first raised in public when a hedge fund manager questioned the bank's management about its investment on an earnings conference call for analysts last year. At the time, most analysts and investors had no idea about the bank's exposure, though the hedge fund manager in question knew the names and other intimate details of the specific investments.

Several bank analysts have also commented on the difficulties in forecasting in the near term for CIBC.

"Given the depressed multiples at which the stock trades, if the balance sheet is secure, the downside arguably appears to be limited," said National Bank analyst Rob Sedran in a note. "That said, with an uncertain environment and the prospect of continuing large charges, we believe a material sustained recovery in the shares will be more difficult to achieve.

One particular area where analysts were left guessing on Thursday was the size of the bank's exposure to 10 financial guarantors where the underlying assets are unrelated to US residential mortgages. CIBC has acknowledged this exposure was in the hole for $885-million at Jan. 31, but chief risk officer Tom Woods refused to give details of the size of the underlying investments when asked by reporters and analysts on Thursday. Some analysts have estimated the size of the book is in the region of $20-billion.

"Unwillingness to disclose details of the distribution or collateral composition of the estimated $22-billion in non-subprime monoline hedges precludes meaningful assessment of the potential magnitude of future loss development," said Blackmont Capital analyst Brad Smith in a note.

The bank also declined to give details about a portion of yesterday's write-downs that it valued at $626-million -- CIBC said this related to a charge on credit protection, but did not answer questions about whether this related to residential mortgages or to some other kind of asset, such as U.S. corporate loans.

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Financial Post, Barry Critchley, 29 February 2008

If nothing else, Canadian Imperial Bank of Commerce's 141st annual meeting shows the advantage of staying on script: Emphasize the positives, don't apologize and constantly remind the shareholders that management and the board are responding in an aggressive manner to what is unfolding. And hope that shareholders -- who put up 14 proposals to be voted on at yesterday's meeting, all of which were rejected -- believe it enough to keep owning the stock.

As Tom Woods, former chief financial officer and now chief risk officer, said, "We and other financial institutions clearly underestimated the potential for extreme mortgage defaults [in the U.S.]." In addition, the bank relied "too heavily" on external bond ratings and "underestimated" the high correlation between the subprime mortgage market and the financial health of the monoline insurers.

Woods added the bank -- which yesterday announced $3.3-billion in charges, all part of a $1.456-billion first-quarter loss -- has launched a "complete review of our risk processes," with the goal of managing our risks much better in the future." What wasn't explained is why the bank's former risk processes broke down so dramatically. And where was the oversight, especially from a bank that over the past 20 years has been the epitome of volatility and despite promising a few years back more stability.

Or is the explanation no more complicated than what a member of the risk-management group at a large U.S. bank said: "When the money is flowing, no one cares what we have to say."

Also not fully explained yesterday was how CIBC, whose mantra for the past couple of years has been to de-risk the bank, got enmeshed in a variety of U.S. businesses that some other financial institutions avoided. In short, what was the culture of an organization that believed it could be an active participant in a U.Smarket with some of the smarter and major U.S. players? A partial explanation was that CIBC was in the structured-credit business, a business it deemed to be "low-risk" -- while some of the others weren't.

But through it all, Bill Etherington, chairman for the past five years and a director for the past 15, and Gerry McCaughey, chief executive for the past two and half years, never contemplated standing down. (Indeed, Etherington gave McCaughey the hockey coaches' hex by saying Mc-Caughey and the management have the full support of the "entire" board.)

At a press conference, the two said their goal was to return CIBC to consistent and sustainable performance, though Etherington, who was chair of CIBC at the time of its US$2-billion-plus settlement on Enron-related matters, added he would be retiring as chairman and as a director later this year. Under new rules, CIBC directors can stay for a maximum of 15 years.

Indeed, Etherington was asked why McCaughey -- whose bonus, if any, for 2007, will be revealed next year -- was granted 70,045 options with a strike price of $79.55. He said the grant was in line with normal policy while Mc-Caughey said he accepted them because they were granted by the board.

As for the positives, CIBC has raised capital -- a $2.9-billion equity financing was completed last month and its Tier 1 capital ratio at 11.4% is the highest of any of the top 25 banks in North America -- while changes have been made in the management ranks and on the board. And it argues that it has the best disclosure of any of the Canadian banks.

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The Globe and Mail, Tara Perkins, 29 February 2008

Canadian Imperial Bank of Commerce reported a first-quarter loss of $1.456-billion on Thursday, compared to a profit of $770-million a year earlier, as the bank took a slew of charges related to its subprime mortgage exposure.

The writedowns and paper losses included a $2.28-billion (pre-tax) charge because of the bank's exposure to troubled bond insurer ACA Financial Guaranty Corp.; a $626-million charge on exposure to other financial guarantors; $473-million of paper losses on securities tied to the U.S. mortgage market; and a $108-million loss on the sale of some of the bank's U.S. business to Oppenheimer Holdings Inc. as well as management changes and the restructuring of some other businesses.

Those items, amounting to $3.49-billion, were partially offset by two much smaller gains; $56-million on tax-related items, and $171-million on the changing value of credit derivatives on corporate loans.

“Our losses related to the U.S. residential mortgage market are a significant disappointment and are not aligned with our strategic imperative of consistent and sustainable performance,” stated CEO Gerry McCaughey.

The bank cautioned that “market and economic conditions relating to the financial guarantors may change in the future, which could result in significant future losses.”

But it said that, despite a more challenging operating environment, including squeezed margins on consumer loans, its consumer banking operations performed well during the quarter, with CIBC Retail Markets posting earnings of $657-million, up 15 per cent from a year ago.

But CIBC increased its provisions for bad loans by $29-million, or 20 per cent, as a result of lower recoveries in its corporate lending book.

The bank had said in mid-January it would be taking a $2.46-billion (U.S.) pre-tax writedown on its subprime mortgage exposure for the two months ended Dec. 31.

At the same time, the beleaguered financial institution announced plans to raise at least $2.75-billion (Canadian) by selling its stock at a discount in order to shore up its finances.

About $1.5-billion of that equity infusion came from a private placement that was scooped up by Manulife Financial Corp., Caisse de depot et placement du Quebec, Hong Kong billionaire Li Ka-Shing and OMERS Administration Corp.

In total, CIBC wound up raising $2.9-billion. “Our enhanced capital position provides a cushion against further deterioration of market conditions, particularly related to the U.S. residential mortgage market where we have exposure, while enabling continued investment in our strong core businesses,” Mr. McCaughey stated Thursday.

The bank said that balance sheet strength will remain its most important priority in 2008.

Its capital raising efforts were among the many steps it took as it sought to assure the investment community in the wake of its subprime-related writedowns.

Roughly a week before the equity infusion announcement, Mr. McCaughey shook up the bank's senior management team, bringing in Richard Nesbitt, who was heading TSX Group Inc., to run CIBC's investment banking operation, CIBC World Markets. Mr. Nesbitt officially takes up his post on Friday.

As Mr. McCaughey was rejigging his senior team, the bank finished the sale of its U.S. domestic investment banking business to Oppenheimer Holdings Inc., causing an $80-million loss.

Looking forward, CIBC said that its consumer banking operations should benefit from continued low unemployment rates, falling interest rates, and healthy housing markets, supporting both loans and deposit growth, although a slower pace of real estate price increases might cause mortgage growth rates to moderate.

On the investment banking side, it said that mergers and acquisition and equity activity will likely be slower because of a softer stock market and credit concerns affecting leveraged deals.

“We expect loan demand to increase due to reduced investor appetite for commercial paper,” it added.

CIBC left its dividend unchanged at 87 cents per share.

Meanwhile, at the bank's annual general meeting on Thursday morning, shareholders voted nearly 45 per cent in favour of a proposal that the bank adopt a policy to give shareholders the opportunity to vote at each annual meeting to ratify executive compensation packages — a so-called “say on pay.”

The bank's chairman said the bank will continue dialogue on the issue, suggesting the bank is open to the possibility of adopting such a policy.

Also on Thursday, CIBC rival Toronto-Dominion Bank reported a first-quarter profit of $970-million, up 5 per cent from $921-million a year earlier, marking the beginning of bank earnings season. TD also raised its quarterly dividend by 2 cents, or 3.5 per cent, to 59 cents.

TD's investment bank saw earnings drop 17 per cent from a year ago while its Canadian consumer banking operations boosted earnings by 10 per cent.

Meanwhile, National Bank reported a 6 per cent increase in profit to $255-million.

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National Bank Q1 2008 Earnings

RBC Capital Markets, 29 February 2008

Q1/08 core cash EPS of $1.46 were in line with our estimate of $1.45 (consensus estimates were $1.38), representing YoY growth of 3%. All three divisions were close to our expectations and a lower share count (3%) helped offset weak net income growth. Our 2008 and 2009 cash EPS estimates are unchanged, as is our 12-month target price of $51 and our Underperform rating.

Our main concern with regards to National Bank's share price surrounds its ABCP holdings. We believe that many players are motivated to support a restructuring but the wider credit spreads get, and the longer they stay wide, the more risk there is to a successful restructuring. Credit spreads on North American investment grade debt have widened significantly since early February (from about 110 basis points to 154 basis points) and have essentially tripled since September.

We believe that most market participants are assuming a positive resolution in the restructuring of third party ABCP, and as such, we do not believe NA's share price has much upside if positive news comes out in upcoming days or weeks on ABCP. However, given that National Bank holds the most third party ABCP of all the Canadian banks, its share price is most at risk if the restructuring runs into difficulty, which we believe is possible. Management has a more optimistic outlook than us on the restructuring process.

If the ABCP restructuring proceeds well, there would be upside to our 12-month target price, but upside to NA's shares is limited by: (1) relatively weaker retail performance, (2) a larger wholesale earnings mix, (3) lower capital than peers, and (4) greater exposure to Central Canada. National Bank has put in place plans to improve retail performance, but we expect those to take time to show results. On the positive side, the bank has limited exposure to structured finance holdings and U.S. operations compared to peers, and its stock trades at a 2.3x P/E discount to its three highest valued Canadian peers.

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Scotia Capital, 29 February 2008

• National Bank Q1/08 cash operating earnings increased 2% to $1.46 per share, better-than-expected due to extremely high trading revenue, second highest in history and continued high level of security gains.

What It Means

• Reported earnings were $1.58 per share, including a $0.12 per share gain from the sale of the bank's subsidiary in Nassau, Bahamas, net of the ABCP funding costs and professional fees.

• Return on equity for the quarter was 21.3% with return on risk weighted assets at 1.82%.

• Retail earnings increased 6%, with Wealth Management and Financial Markets earnings declining 7% and 12% respectively.

• Maintain 2-Sector Perform.

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Financial Post, 28 February 2008

National Bank of Canada has been downgraded to “underperform” at RBC Capital Markets on growing concerns about the restructuring of the third party asset-backed commercial paper (ABCP) market.

Analyst Andre-Philippe Hardy also cut his price target on the bank’s shares to $51 from $55, telling clients in a note that the upside is limited given that most market participants expect a positive resolution to the ABCP restructuring.

National’s holdings of third party ABCP are valued at $1.7-billion, after a 25% writeoff, he noted, adding that it could handle a pre-tax writeoff of up to 70% before having to raise equity.

“However, given that NA holds the most ABCP of all the Canadian banks, its share price is most at risk if the restructuring runs into difficulty,” the analyst said.

Even if the ABCP restructuring proceeds well, the upside for National shares will be limited by a relatively weaker retail performance, a larger wholesale earnings mix, lower capital than its peers, and more exposure to central Canada, Mr. Hardy said, adding that improvement plans for the retail business will take time to produce results.

And while the probability of a liquidation scenario for National’s ABCP may be low, the analyst said the chances are nonetheless rising and nobody knows what these assets would be worth in this scenario.

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Preview of Banks Q1 2008 Earnings

Scotia Capital, 22 February 2008

Banks Begin Reporting February 27

• Banks begin reporting first quarter earnings, with Laurentian Bank (LB) on February 27, followed by Toronto-Dominion Bank (TD), Canadian Imperial Bank of Commerce (CM) and National Bank (NA) February 28; Royal Bank (RY) February 29; Bank of Montreal (BMO) and Bank of Nova Scotia (BNS) March 4; and Canadian Western (CWB) closing out reporting March 6.

Negative Earnings Momentum - Earnings Remain at High Level

• We expect Q1/08 operating earnings to decline 5% year-over-year and 2% sequentially representing the first YOY decline since the third quarter of 2002. We expect earnings growth to be negatively impacted by net interest margin pressure, weak capital markets revenue and major appreciation in the C$. The impact of higher loan loss provision is expected to be modest.

• The retail net interest margin in the fourth quarter declined to 2.88% or 8 basis points sequentially mainly due to the higher wholesale funding costs due to higher BA costs. BA costs spiked up to 4.86% in the fourth quarter, however they have declined to an average of 4.50% in the first quarter but remain above the 4.34% level of a year earlier. The retail net interest margin in the first quarter of 2007 was 2.99% making year-over-year comparisons difficult. The prime - one-month BA spread narrowed considerably in the fourth quarter to 139 basis points before rebounding in the first quarter to 155. However on a year-over-year basis the wholesale spread is down 12 basis points.

• The Canadian banks were also very aggressive raising $12.4 billion of capital including the CIBC $2.9 billion equity issue. The banks' excess liquidity, capital and major disruptions in credit markets in general are expected to weigh on the banks overall margins.

• Capital markets revenue is also expected to be weak due to a decline in M&A activity and lower retail brokerage commission. First quarter earnings are also expected to be weakened by the 17% YOY appreciation in the C$, reducing the bank groups non C$ net income.

• Despite these challenges the bank group's underlying earnings levels are expected to remain solid with operating ROE of 21%. The weak spots are expected to continue to be mainly CIBC and to a lesser extent BMO who have both pre-announced write-downs. CIBC is expected to record a loss of $2.70 per share for the first quarter with BMO's earnings expected to decline by half for an ROE in the 10% range.

Dividend Increases - Leadership/Confidence?

• There are four banks due to increase dividends this quarter. This is a board decision. However our view is that with solid balance sheets and strong underlying earnings it is important to show market leadership and confidence by continuing the well established dividend pattern. Dividend payout ratios remain low in our view and the modest capital build (for over capitalized institutions) from delaying dividend increases makes no sense unless there is some permanent impairment in the business model which we strongly believe there is not. Hence we expect TD and RY to increase their dividends in the 8% range and we are hopeful that BMO will show confidence in their operating platform by announcing a 4% increase. CIBC possible dividend increase is the most uncertain especially given the recent equity issue. However they too can make a statement.

Grinding Through the Credit Crisis

• The Canadian banks reported solid fourth quarter earnings, with extremely modest writedowns of 1.3% of common equity paling in comparison to global competitors. Return on equity excluding writedowns was an impressive 21.9% in the fourth quarter. Even on a fully loaded basis, including writedowns and excluding VISA gains, ROE was a very respectable 16%.

• However, credit market volatility and the continuous write off announcements by global banks continues to create fear and uneasiness in the market. Market fears have been recently centered on the future of U.S. monoline insurers and the risk of potential counterparty downgrades. The downgrade of ACA, one of the most financially troubled monolines caused CIBC to pre-announce a large $2.5 billion write down for ACA as well as unhedged CDO exposure. The market has also fretted over the impact of further monoline downgrades to AA and the potential for write down requirements by banks rated A. The resolution of the monoline insurance issue seems very much necessary to gaining stability in the credit markets.

• We expect the release of first quarter earnings will increase investors' confidence in the Canadian Banks' balance sheets and earnings power. We expect a strong rebound in earnings momentum in the second half of 2008 and 2009. We expect banks will prove their critics wrong and earn their way through a downturn in a resilient fashion. As fear subsides share prices should move up sharply.

Recommend Aggressively Buying Banks At These Levels

• Banks are currently trading at P/E multiples of 10.9x trailing and 10.6x our 2008 estimates. Banks’ P/E relative to the TSX is 66%, below our target 80%-90% range. The P/E bottom in the Telco & Cable debacle was 10.9x, with the Asia Crisis being 9.0x. It seems that P/E multiples have bottomed in early 2008 at a similar level to Telco & Cable. Following this bottoming in 2002, the P/E multiples ran up to 15.1x. We are looking for a repeat.

• Bank dividend yields relative to 10-year bond yields are at unheard of levels 5.2 standard deviations above the mean. Bank dividend yields relative to the S&P/TSX Index, Pipes & Utilities, Income Trusts and Canadian lifecos are all in the strong buy range.

• We remain overweight the bank group based on high profitability and capital levels, with low relative exposure to high risk assets, diversified revenue mix, reasonable earnings growth outlook, low earnings volatility, ability to increase dividends, and attractive valuation, including extremely high dividend yields, low P/E multiples, and low relative risk. Maintain 1-Sector Outperform on TD and RY based on quality and size of their large retail and wealth management platforms and superior profitability. Maintain 2-Sector Perform on CIBC, CWB, LB and NA with 3-Sector Underperform on BMO.

Exposure to U.S. Monoline Insurers Low - Except CM

• At the end of the fourth quarter the focus on high risk asset exposure shifted from non-bank ABCP and unhedged CDOs with U.S. sub-prime exposure to hedged CDOs and the credit quality of financial insurer counterparties. At fiscal year end, the Canadian banks disclosed their exposure to U.S. monoline insurers and in particular any exposure to counterparties rated less than AAA. Bank exposure to single A counterparties as at October 31, 2007 was $3.5 billion for CM, RY with $240 million, BMO and BNS with $90 million each with TD and NA not having any exposure to U.S. monolines.

• On December 19, 2007, S&P downgraded ACA Capital, thought to be the single A counterparty to CM, RY, and BMO, to CCC, one notch above default. S&P also changed the financial insurer's outlook to CreditWatch Developing reflecting the possibility of an upgrade or further downgrade in the not-too-distant future. Subsequently, CM announced that there is a reasonably high probability that it will incur a large write-down of US$2.0 billion (US$1.3 billion after-tax or $3.85 per share) in Q1/08 as a result of ACA's downgrade and an additional writedown of US$462 million (US$310 million after-tax or $0.90 per share) on its unhedged CDO exposure. We estimate the following potential charges in the first quarter from the downgrade of ACA for the remaining banks to be $100 million or $0.05 per share for RY. BMO pre-announced first quarter write-downs of $490 million on February 18, 2007 which included an ACA write-down of $160 million or $0.21 per share.

• Subsequent to ACA Capital's downgrade, S&P and Moody's have initiated a review of all U.S. monolines. The fear plaguing the market is that the remaining counterparties, including large financial insurers MBIA and Ambac, will be downgraded by Moody's or S&P triggering billions of dollars of losses in the financial system. Although we do acknowledge this as a possibility we believe that capital issues for the monolines will be resolved. In the event of further downgrades we estimate CM's charges could be $2.6 billion or $4.50 per share on notional exposure of $4.5 billion. RY and BMO have $2.2 billion and $135 million in exposure to other monolines which we estimate could result in writedowns of $0.50 per share and $0.10 per share in the remainder of 2008.

Capital Positions Strengthen With Bank New Financings

• During the quarter, banks have been raising capital and building further balance sheet strength. The Canadian banks issued preferred shares, common shares, Euro-bonds and Innovative Tier 1 raising a total of $9.4 billion representing 1.0% of risk-weighted assets. CM, RY and TD have been the most aggressive in raising capital with CM issuing $2.9 billion in common shares, RY issuing $2.1 billion in Euro covered bonds and other debt and TD issuing $1.9 billion in Euro bonds and preferred shares.

• Bank tier 1 ratios should also get a modest boost from new OSFI regulations allowing the amount of preferred shares for inclusion in Tier 1 capital to increase from 25% to 30%.

Retail NIM Expected to Remain Under Pressure

• Retail earnings may come under pressure this quarter as the result of continued net interest margin compression due to higher funding costs. The average BA rate for the quarter was 4.50% down slightly from 4.86% in the previous quarter but up significantly from the average rate of 4.34% a year earlier.

Wealth Management Earnings Expected to Be Weak

• Wealth management earnings are expected to be weak this quarter. Large net redemptions as well as weak equity markets have caused bank assets under management (AUM) to decline 2% from the previous quarter. The TSX declined 10% in Q1/08, declining 5% in January alone, with the S&P 500 declining 11% and the Nasdaq declining 16%. In Q1/08 the mutual fund industry recorded large net LTA redemptions of $4.2 billion versus strong net LTA sales of $8.7 billion a year earlier. In the month of January, which is typically a very strong month for sales due to RRSP deadlines, net LTA redemptions were a record $4.3 billion. Bank net LTA sales were no exception with large net LTA redemptions of $947 million in the first quarter and net LTA redemptions of $1.3 billion in January.

• Money market funds could provide a silver lining for Canadian banks' wealth management earnings. After large net redemption in money market funds following the non-bank ABCP debacle in August 2007, investors have been pouring money into money market funds, particularly bank funds. In the first quarter, the Canadian banks had net sales of money market funds totaling $7.3 billion, more than 80% of industry net sales of money market funds. RY and TD were the main beneficiaries with $4.2 billion and $1.4 billion in money market net sales.

Wholesale Earnings Weak

• Wholesale earnings are expected to be weak this quarter as the result of lower M&A activity, increased wholesale funding costs and volatile capital markets. The value of M&A deals closing in Q1/08 declined 7% from a record quarter a year earlier. Pending deals have declined substantially as well. However, increased IPO activity along with record trading volume could offset the lack of M&A deals. IPO activity increased 50% from a year earlier while trading volume was up 15%.

• The prime-BA spread has declined 11 bp to an average of 155 bp for the first quarter of 2008 from 166 bp a year earlier. The spread has improved slightly from the low of 139 bp in the previous quarter; however, we expect some of the pricing to carryover from the previous quarter.

Loan Losses to Increase in Economic Downturn

• We would expect bank loan loss provisions to continue to remain manageable with historically low earnings sensitivity. LLP increases are expected over the next several years, especially in unsecured personal credit and commercial/small business related to the manufacturing bases in Ontario and Quebec. We believe the banks’ pricing has been relatively thin on unsecured personal credit, and an economic downturn/recession is likely to cause higher losses in this portfolio and a repricing of risk, although very modest compared with what has happened to corporate spreads and sub-prime mortgages. Overall, however, higher loan losses are very manageable given the relatively low sensitivity to credit and record profitability levels. Loan loss provisions are expected to increase 39% in the first quarter to $850 million but this represents a very modest $240 million increase from a year earlier.

Appreciating Canadian Dollar - Difficult YOY Comparison

• The average $C/$US exchange rate in Q1/08 was $1.007 versus $0.863 in the first quarter a year earlier, an increase of 17%. This Q1/08 represents a very difficult year-over-year comparison. In fact we expect difficult year-over-year comparisons until Q3/08 assuming the dollar stabilizes at or near parity. TD, RY and BMO may also have weak year-over-year earnings growth in their U.S. banking divisions. NA is expected to be the least impacted by the appreciation of the Canadian dollar.

Dividend Increases Expected Despite Financial Turmoil

• The banks that are due to increase their dividends this quarter are BMO, CM, RY and TD with expected increases of 4%, 3%, 8% and 9%, respectively. However, CM may decide to defer the dividend increase due to the announced $2.5 billion writedown on its hedged/unhedged CDO exposure and large $2.9 billion equity issue. The bank group’s estimated dividend payout ratio is 44% on our 2008 earnings estimate with TD’s payout ratio a bank group low of 38% and BMO at a high of 49%.

First Quarter Highlights

• Bank of Montreal is expected to report earnings of $1.38 per share versus $1.31 per share a year earlier, an increase of 5% YOY and a decline of 4% sequentially. On February 18, 2008, BMO pre-announced $490 million in charges for Q1/08 including a $160 million write-down on ACA Capital and $175 million on trading and credit-related positions. BMO's pre-announced write-down on SIVs was modest at $25 million. Canadian P&C and Wealth Management earnings growth should be modest with Wholesale extremely weak due to the challenging capital markets environment, with U.S. P&C earnings continuing to underperform. A dividend increase of 4% to $2.92 per share from $2.80 per share is expected.

• Canadian Imperial Bank of Commerce is expected to report operating earnings of $2.05 per share, a decline of 6% YOY and 11% sequential. We expect reported earnings to be a loss of $2.70 per share including a $4.75 per share previously announced writedown on CDOs. Revenue growth is expected to remain a challenge. A modest dividend increase of 3% to $3.60 per share is possible; however CM may opt to defer its dividend increase due to the large writedown and significant equity issue.

• National Bank is expected to report earnings of $1.30 per share in the first quarter, a decline of 9% YOY and a 3% decline from the previous quarter. We do not anticipate a further writedown on NA's non-bank ABCP in Q1/08. We expect year-over-year declines in retail, wealth management and wholesale banking earnings.

• Royal Bank is expected to report earnings of $1.00 per share, a decline of 14% from record high earnings in Q1/07 and a decline of 1% quarter over quarter (QOQ). Solid earnings growth is expected from RY’s Retail and Wealth Management businesses with potential weakness from U.S. and International Banking and RBC Capital Markets due to the appreciation of the Canadian dollar, reduced capital markets activity, and lower trading revenue. A dividend increase of 8% to $2.16 per share from $2.00 per share is expected.

• Toronto-Dominion Bank is expected to report earnings of $1.40 per share, an increase of 1% YOY but flat from the previous quarter. Retail and Wealth Management earnings are expected to continue to drive earnings. We expect wholesale earnings to decline from very high levels in 2007, especially given a more difficult capital market environment. We expect solid operating results going forward from TD Banknorth. TD Ameritrade earnings contributions for Q4/07 are estimated at $0.12 per share versus $0.10 per share in the previous quarter and $0.09 per share a year earlier. We expect TD to increase its dividend 9% to $2.48 per share.

BMO - Pre-Announces First Quarter Write-Downs

• BMO pre-announced writedowns of $550 million ($365 million after-tax or $0.73 per share). The charges relating to BMO Capital Markets totaled $490 million ($325 million after-tax or $0.65 per share) and are as follows: $160 million pre-tax charge for hedges with ACA Capital (BMO has no further exposure to ACA Capital) higher than expected, $175 million pre-tax charge for trading and structured credit-related positions, $130 million pre-tax charge on Apex/Sitka Trust, $25 million pre-tax charge on SIVs. In addition to these charges BMO will increase its general allowance by $60 million ($40 million pre-tax or $0.08 per share) to reflect portfolio growth and risk mitigation.

BMO - Senior Management Changes

• BMO also announced senior management changes effective March 5, 2008. Thomas E. Flynn, acting CFO, will be replacing Chief Risk Officer Bob McGlashan who has retired. Russel C. Robertson, previously Vice-Chairman of Deloitte, will become Interim CFO.Thomas V. Milroy, previously Co-President of BMO Capital Markets has been appointed CEO of BMO Capital Markets replacing Yvan Bourdeau. Yvan Bourdeau will become Vice-Chair of BMO Capital Markets with accountability for account coverage and focus on International objectives. Eric Tripp, Co-President of BMO Capital Markets, will become President of BMO Capital Markets reporting to Thomas Milroy.

BNS to Expand Operations in Guatemala and the Dominican Republic

• On February 4, 2008, BNS announced that it will be expanding its operations in Guatemala and the Dominican Republic. The details of the transactions were not disclosed. Regulatory approval has been received. BNS will acquire Grupo Atlas Cumbres's (GAC) Banco de Antigua in Guatemala with 47 branches and US$82 million in total assets and Banco de Ahorro y Credito Atlas Cumbres with six branches, 35 points of sale and US$29 million total assets.

CM – Senior Management Changes

• On January 7, 2008, CM announced the following changes to senior management: (1) Tom Woods, Chief Financial Officer of CIBC, to become Chief Risk Officer effective immediately (2) David Williamson, former president and CEO of Atlas Cold Storage will to become Chief Financial Officer, effective January 10, 2008 and (3) Richard Nesbitt, former CEO of the TSX Group, will be joining CIBC as CEO of CIBC World Markets, effective February 29, 2008. In addition, Brian Shaw, CEO of CIBC World Markets and Ken Kilgour, Chief Risk Officer will be leaving CIBC.

CM - Pre-Announced First Quarter Write-Downs

• On January 14, 2008, CM pre-announced a $2.5 billion write-down on CDO exposure with a $2.0 billion write-down on its exposure to ACA Capital and an additional $462 million on unhedged CDO exposure.

CM – Raised $2.9B from Equity Issue and Private Placement

• On January 14, 2008, CM announced a new equity issue and private placement of common shares. The share offering was completed on January 24, 2008. Over 21 million shares were issued through the public offering with an additional 2.8 million from an over-allotment option. CM also issued 24 million shares to institutional investors in a private placement. The equity issue raised $2.9 billion.

NA – Investor Day

• On January 30, 2008, National Bank held an Investor Day in Toronto. National Bank unveiled its new bank-wide strategy of becoming a more client centric bank. Management plans to shift the focus from selling products to servicing its clients and taking advantage of cross-selling activities across segments for a bigger share of wallet. NA also provided more granularity on the non-bank ABCP restructuring process.

RY to Acquire Phillips, Hager & North

• On February 21, 2008, RY announced the acquisition of Phillips, Hager & North Investment Management (PH&N) for $1.36 billion to be paid using 27 million share of RY common shares. Purchase price represents 2.0% of $69.2 billion in AUM.

RY to Acquire Ferris, Baker Watts Inc. - U.S. Wealth Management Firm

• Royal Bank announced its intention to acquire Ferris, Baker Watts, a U.S. based wealth management firm. The details of the transaction were not disclosed. The transaction is expected to close by mid 2008. Ferris, Baker Watts is based in Washington D.C. The firm is a full-service broker-dealer and investment banking firm with approximately US$18.5 billion in assets under management.

TD – TD Ameritrade Earnings - Very Strong

• TD Ameritrade (AMTD) reported Q1/08 earnings of US$0.40 per share versus US$0.24 per share in the previous year, above IBES estimates of US$0.39 per share. TD Bank estimated TD Ameritrade’s contribution from this quarter to be C$88 million or C$0.12 per TD share, versus C$0.10 per share in the previous quarter and C$0.09 per share a year earlier.

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Bloomberg, Doug Alexander, 21 February 2008

Royal Bank of Canada, Toronto-Dominion Bank and two other Canadian lenders may forego dividend increases this quarter as profits decline, National Bank Financial analyst Robert Sedran said.

Canadian banks typically raise dividends twice a year, meaning Bank of Montreal, Canadian Imperial Bank of Commerce, Royal Bank and Toronto-Dominion are due to boost their payouts, Sedran said. They may postpone increases because average profits before one-time items will probably drop 1.4 percent, he said.

``They are loathe to break that trend, but at the same time the environment has clearly softened,'' Sedran said in an interview today. ``We are assuming they'll take a pause this quarter and would view any increases as a bullish sign.''

Canadian banks, which report fiscal first-quarter earnings starting next week, face slumping profits because a sluggish economy is boosting loan defaults. Writedowns on debt securities linked to the U.S. subprime mortgage market will also erode earnings, he said.

Toronto-Dominion may not raise its dividend because of an ``uncertain environment and a stretched balance sheet'' after taking its TD Banknorth unit in the U.S. private and agreeing to buy Commerce Bancorp Inc., the largest bank based in New Jersey.

A dividend increase isn't likely for Canadian Imperial, which may add more costs to the ``massive writedowns'' already announced for the quarter ended Jan. 31, he said. Canadian Imperial said in January it'll take $2.46 billion in pretax writedowns on investments tied to U.S. subprime mortgages.

``These are not normal times for the bank,'' Sedran said.

Bank of Nova Scotia, the third-biggest bank by assets, and National Bank of Canada, the No. 6 bank, raised dividends in the fourth quarter and aren't expected to raise them this period.

Even if Canada's banks take a pause on dividend increases, they can still meet their targets for payouts this year, Sedran said in a Feb. 13 research note.

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RBC Capital Markets, 13 February 2008

• We estimate core EPS growth of 2% on average versus Q1/07. GAAP EPS growth will likely be lower for some banks, particularly CIBC, on expected mark-downs related to US subprime CDOs and hedges with financial guarantors.

• We expect TD Bank and Bank of Montreal to grow EPS at the highest rates. TD's growth will likely be driven by retail growth and lower exposure to wholesale markets. Bank of Montreal should benefit from easy comparisons since it ramped up expenses in Q1/07 to expand its retail sales force and invest in systems in order to improve its retail growth.

• We expect quarterly dividend increases from TD Bank, Royal Bank and Bank of Montreal.

• The health of the US economy may soon impact the Canadian economic outlook, but for now, we should see solid loan growth and domestic credit quality. We expect total credit quality to worsen but it should not be as challenged as it was for the US banks that reported results this past month.

• The prime/BA spread was narrow during parts of the quarter so we expect margin pressure to continue in retail divisions.

• The 10% decline in the TSX from October 31 to January 31 has negative implications for retail wealth management revenues, in our view, although robust trading activity may buffer the impact.

• Basel II regulatory capital standards will be implemented by Canadian banks in Q1/08. We expect that banks will hold less regulatory capital for credit risk, similar capital for market risk and more capital for operational risk. We do not expect overall regulatory capital to change materially for the industry in general.

• Banks will likely disclose more details about their risk exposures than today. We hope there will be more information on financial guarantors and collateral that might offset some of the counterparty risk that has grown substantially for most banks.

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RBC to Acquire Phillips, Hager & North

Scotia Capital, 22 February 2008

RY to Acquire Phillips, Hager & North

• Royal Bank (RY) announced its intention to acquire Phillips, Hager & North Investment Management (PH&N). PH&N shareholders will receive 27 million RY shares with a value of approximately $1.4 billion with a portion deferred for three years. The purchase price will be adjusted if PH&N's client outflows exceed a certain threshold prior to closing. The price seems to be reasonable at 2.0% of mutual fund AUM. The impact to RBC's earnings in the near term is not material. The transaction is expected to close April 30, 2008.

PH&N Description

• PH&N was founded in Vancouver in 1964. The firm employs approximately 300 people and has offices in Vancouver, Victoria, Calgary, Toronto and Montreal. PH&N has approximately $69.2 billion in assets under management (AUM) including mutual fund assets of $19.5 billion.

Transaction Valuation - Very Reasonable Price

• PH&N has approximately $69.2 billion in assets under management, 81% of AUM is institutional and 19% is private discretionary and non-discretionary clients. If we applied a 1.5% value to the $56.1 billion in institutional AUM, the $13.1 billion in private client assets would be valued at 4%.

• If we sliced PH&N AUM into mutual fund (Exhibit 3) at $19.5 billion and non-mutual fund or institutional at $49.7 billion and applied a 1.5% value to institutional assets, the mutual fund assets would be valued at 3.2% of AUM. Mutual fund companies such as Mackenzie and Trimark were acquired for approximately 10% of AUM, significantly higher than the implied value for PH&N mutual fund assets at 3.2%. However one could argue that PH&N has considerably less channel penetration and not as strong a brand as Mackenzie and Trimark, reflecting the lower valuation.

• We view this transaction as positive in terms of deployment of capital in a high growth, high P/E multiple business. Strategically, this places RY in a dominant position in wealth management in Canada and on a niche basis globally. In terms of risk, execution and operational risks are there but no different than any other acquisition.

First Quarter Earnings

• RY is scheduled to report Q1/08 earnings on February 29, 2008. We are expecting earnings of $1.00 per share and an 8% dividend increase. There is a conference call scheduled for 1:30 pm (EST), the same day.

Recommendation

• Our 2008 and 2009 earnings estimates are $4.50 per share and $5.20 per share. Our 12-month target price remains unchanged at $75 representing 16.6x our 2008 earnings estimate and 14.4x our 2009 earnings estimate.

• RY - 1-Sector Outperform

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The Globe and Mail, Tara Perkins & Shirley Won, 21 Feb 2008

Royal Bank of Canada [RY-T] has won one of the country's last remaining independent money managers with a $1.36-billion takeover bid for Phillips Hager & North Investment Management Ltd. The deal would deliver an asset manager that's been prized for its independence and cheap fees into the hands of the country's biggest bank.

PH&N will give the bank a top-five position in the Canadian institutional market for pension plans, where it currently has no presence, said George Lewis, the head of RBC's wealth management business and CEO of RBC Asset Management. The deal gives it the opportunity to grab the number one share of the Canadian mutual fund business, Mr. Lewis added. “Combined, we'll only be $3-billion short of the number one [mutual fund] player.”

Vancouver-based PH&N, which has roughly $69-billion under management and is owned by its employees, is one of the most desired wealth management businesses in Canada.

“We've had a number of approaches each year, and frankly, over 44 years [in business] we've been a coveted organization, and we have always rebuffed any approach,” PH&N president John Montalbano said in an interview Thursday.

What changed the firm's mind was a strategic review that identified a number of needs its clients would have over the next three to five years.

“The business is becoming a lot more complex in the sense of customization of investment strategies, broader diversification options with global fixed income and equities, alternative investments that have low correlations to traditional equity and bond portfolios, and also emerging market exposure as well as foreign exchange management,” Mr. Montalbano said.

While the company had identified areas in which it needed to gain traction, it hadn't gone looking for a partner.

“When we went into this, our firm was not for sale nor was it shopped around,” Mr. Montalbano said.

But when Mr. Lewis approached PH&N with a very detailed offer a few months ago, “it was incredible timing” because PH&N had recently completed its strategic overview, Mr. Montalbano said.

That said, out of its long line of suitors, PH&N only had eyes for RBC for some time.

“You can actually say that this took place a number of years ago,” Mr. Montalbano said. “The two organizations know each other exceptionally well.”

In an interview from Vancouver, Mr. Lewis added: “From our perspective, while we respect all of our competitors, there was only one asset management firm that we wanted to join forces with in Canada, and that is Phillips Hager & North.” David O'Leary, manager of fund analysis at Morningstar Canada, was surprised by RBC's move, but said it was “getting a great lineup of funds and managers.”

The two firms almost seemed to be getting ready for a merger by doing business in each other's domains last year, Mr. O'Leary added.

PH&N, which has over $19-billion in mutual fund assets, launched a new series of no-load funds last summer that were aimed at financial advisers by offering them a 0.5-per-cent annual trailer fee for the first time in its history. And RBC launched its D series of low-fee funds that do-it-yourself investors could buy through its discount brokerage arm.

A little over a year ago, RBC carved out a new wealth management segment and one of its major focuses was boosting the bank's standing in the Canadian wealth and asset management markets.

With strong recurring revenue and free cash flow, no credit risk and no trading risk, “these businesses are very solid and ones that we want to own more of at RBC,” Mr. Lewis said Thursday.

RBC plans to keep all of PH&N's 300 employees as well as its Vancouver office. The bank is offering 27 million RBC shares, with a portion of that deferred until three years after closing.

Mr. Montalbano suggested the deal has significant employee support, saying the majority of PH&N's senior talent have signed five-year non-compete agreements, and there is no break fee attached to the deal.

Dan Richards, president of financial services consulting firm Strategic Imperatives, said PH&N is a “terrific franchise particularly in Western Canada where they are a household name, particularly among the more affluent sector of the market.

“They really stand out as the market leaders in terms of a focus on low fees and reputation as having a customer-first orientation in the retail space,” Mr. Richards said.

They could lose disaffected mutual fund clients, he conceded. “There is always a risk when there is a change, particularly when you have a powerful franchise like PH&N … but it's a very manageable risk.”

Mr. Montalbano, who will become CEO of RBC's asset management business in Canada after the deal closes, said “change is always unsettling,” but added that he believes clients will greet the news positively when they see why the deal is right for them.

The transaction requires approval from regulators and is expected to close around the end of April. While it's strategically important to RBC's future, it is not expected to have a significant impact on its earnings in the near term.

The acquisition is the latest move by a bank to expand its mutual fund assets. The last time that RBC made an acquisition with significant fund assets was the purchase of Royal Trust in 1993.

Bank of Nova Scotia expanded its reach into the mutual fund arena last year by acquiring an 18-per-cent stake in Dundee Wealth Management Inc., which owns Dynamic Mutual Funds.

National Bank bought no-load fund company Altamira Investment Services Inc. in 2002. Bank of Montreal bought Guardian Group of Funds in 2001.

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Risky Paper Bound to Stick to Banks' Books

The Globe and Mail, Derek DeCloet, 21 Feb 2008

Three years ago, the men in pinstripes at Bank of Montreal thought they'd hooked a swell new customer. A U.S. mortgage company, FMF Capital, needed to raise money, and wouldn't you know it, turning it into a Canadian income trust seemed like just the ticket.

BMO won the right to lead the $198-million offering. Within nine months, FMF was on the brink of collapse, its name a Bay Street synonym for shoddy deals. Investors sued. About a year later, BMO and several other banks settled for about $3.8-million, less than their commissions on the deal.

FMF may have stained their reputations, but it did not create a massive liability. Perhaps that's the way it should be. The principle is supposed to be that the investor, not the seller, gets the rewards and takes the risk. Even in outright frauds, including large-scale ones such as Bre-X Minerals or Livent, bankers may get sued, but rarely do they agree to repay anyone's losses. Read the prospectus. It's buyer beware. At least, it was. In the credit crisis, you can throw out the old rules.

It's all too easy to bash BMO. In the gilded world of Canadian banking, it's a laggard, and on the heels of the FMF debacle, it suffered the embarrassment of a huge trading snafu, in which it managed to blow some $850-million on natural gas contracts. After Tuesday's disclosure of another $490-million in writeoffs, it's tempting to conclude BMO is run by klutzes who would be on the B-team anywhere else, except CIBC, and that their errors have no implications for the other banks and their shareholders. That would be wrong. What's happening there might represent the beginning of a major change in how banks operate.

To understand why, let's drill down into how BMO lost that $490-million. It was a grab bag. The bank wrote down $25-million on two SIVs, or structured investment vehicles. It took a $160-million hit because of now-worthless derivatives it bought from ACA Financial, a troubled bond insurer. More significantly, it lost $130-million on something called Apex/Sitka Trust, a conduit for commercial paper.

What do all of these have in common? Each represents something the bank did to cut its own risk. SIVs are nothing more than specialized companies set up to hold loans and other interest-paying securities. Ditto for asset-backed commercial paper (ABCP). The ACA hedges were meant to shift the risk of losses away from the bank.

That's not new. Banks long ago began moving away from the old deposits-in, loans-out model. They've been packaging and selling mortgages, credit card loans and corporate debt for ages. Even funkier securities, such as collateralized debt obligations, have been around for a while. In 2004, long before CDOs were front-page news, financial institutions created and sold $158-billion (U.S.) of them.

One reason for this trend – separating the banker from the borrower – is capital. If you're a banker and you can capture $50-million in deposits for 3 per cent, then lend the money out for 7, well, that's a nice piece of business. But you'll need about $5-million of equity to back up that loan; the regulators will insist on it, to protect depositors.

Suppose, instead, you sell that loan to a SIV and take a fee for the privilege. You have just changed the math. Yes, the bank has given up the chance to earn the interest income – but it has also obviated the need to have that huge slice of equity capital. Result: Its return on equity rises (usually, the stock price follows). When it can make a profit with no equity at risk, the ROE is infinity.

But what if you haven't really sold the risk at all? What if, when things get rough, the investors come running back and expect you to compensate them for their losses? That's happening with BMO and other banks now.

Take the Apex/Sitka trust. The bank has not said who owns the paper. But it has suggested that it's a small number of investors – likely, companies with a bit of extra cash to invest, or wealthy individuals. Those are the kind of customers banks don't want to anger. That would explain why BMO's exposure to this trust is rising – in addition to the $210-million it has written off, it owns nearly $500-million of the paper. “It looks to me like they're buying their clients out,” says Ohad Lederer, an analyst at Veritas Investment Research.

Here's the rub: BMO is not the only bank with this stuff – they all have it. In the future, they may find it tougher to sell loans into SIVs and similar entities. They'll do the business, but more of it will stick to their books. That means three things: more capital, lower returns, and tough slogging for bank shareholders.

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Global 500 Financial Brands Index

The Globe and Mail, Tara Perkins, 20February 2008

Canada's big banks could all fall into foreign hands if Ottawa doesn't allow domestic mergers before opening the sector up to foreign acquisitions, Bank of Nova Scotia chief executive Rick Waugh warned Wednesday.

“If we can go buy a bank in Mexico or Peru and TD or Royal can go down and buy banks in the United States … eventually [banks in those countries] are going to wake up and say ‘guys, when are we going to be allowed into your market?'” Mr. Waugh said Wednesday in a discussion with The Globe and Mail's editorial board.

“When that happens, if we're in the situation we are in today, we're all gone, all five of us,” he said of Canada's big banks. “We have to prepare for it and hopefully have a number of survivors.”

Mr. Waugh pointed to Italy as an example of a country that has successfully dealt with bank mergers. “While we've been sitting and talking about what to do, the Italians have gone way ahead of us on this one.”

A 2007 report by The Boston Consulting Group said Italy's banking industry managed to boost its five-year total shareholder return from 2.6 per cent in 2005 to 15.7 per cent in 2006 – climbing to third place from No. 9 in a list of countries – as a massive round of consolidation revamped the sector.

Collectively, the merger deals in Italy in 2006 involved nearly half of the banking sector's work force and included both foreign takeovers and domestic pairings. One of the biggest deals was the $38-billion (U.S.) mega-merger between Banca Intesa and Sanpaolo IMI, which created the country's biggest retail bank when the deal closed in early 2007.

That merged brand, Intesa Sanpaolo, climbed up the ranking of financial institution brands that was released Wednesday by Brand Finance PLC. Before the deal, Banca Intesa ranked 49th on the Global 500 Financial Brands Index, which measures a host of factors ranging from the brand's presence to its market share, while Sanpaolo didn't make the top 100. But the combined entity hit No. 19 on the 2007 ranking, Brand Finance noted in yesterday's report, illustrating the extra oomph a brand can gain from increased scale.

“We expect this trend to continue with a focus on emerging markets brands in the future,” it said.

Canadian banks have a relatively low percentage of brand value to market valuation, at roughly 7 to 10 per cent, while the leading global banks are typically 15 per cent or more, said Andrew Zimakas, managing director of Brand Finance Canada. That might be because Canadian banks' brand values are being constrained by their lack of global scale, which is directly related to domestic merger and ownership restrictions, he said.

Royal Bank of Canada was the highest-ranking Canadian bank on Wednesday's list, at No. 31. Toronto-Dominion Bank climbed from No. 47 to No. 43, Canadian Imperial Bank of Commerce climbed from No. 48 to No. 46, Scotiabank rose from No. 57 to No. 50, and Bank of Montreal held steady at No. 65. National Bank of Canada, the country's sixth-largest bank, dropped from No. 92 to No. 133.

David Haigh, CEO of Brand Finance, said he expects to see rapid consolidation in the global banking sector over the next 12 months.

In a recent note to clients, UBS Investment Research analysts in Italy said they believe the consolidation sweeping their domestic sector is giving it an edge over international peers. They estimate that mergers will result in savings of 5 per cent of the sector's costs in the next two years.

As globalization changes the banking landscape, Mr. Waugh is calling on Ottawa to allow Canadian banks the option to merge before the banking sector is opened up to foreign acquisitions. When it comes to mergers, “it's not if, it's when, and when is because of politics,” he said. “I would hope that good policy would make good politics.”

The current federal government has repeatedly emphasized that bank mergers are not among its priorities.

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Review of Life Insurance Cos Q4 2007 Earnings

RBC Capital Markets, 20 February 2008

The high Canadian dollar, combined with weak equity markets and declining interest rates made for a difficult backdrop for the lifecos in Q4/07.

• Core EPS growth was highest at Manulife (14%) and lowest at Sun Life (3%).

• Manulife's EPS exceeded consensus expectations, Industrial Alliance's were in line, while Sun Life's and Great-West came up short.

• Currency was a drag on the earnings growth of all lifecos, except for Industrial Alliance which generates essentially 100% of its income from Canada. The drag on earnings growth related to currency was approximately 14% at Manulife, 8% at Great-West, and 7% at Sun Life. The average Canadian dollar rate against the U.S. dollar was up about 5% against Q3/06.

• The direct impacts of equity market and interest rate declines are more difficult to isolate, but we believe that reserves related to those assumptions were strengthened; while earnings on surplus and experience gains were weaker than they otherwise would have been.

• Near term pressure on earnings continues given movements in equities, interest rates and the Canadian dollar since the end of Q4/07. We are lowering our investment rating on Great-West to Sector Perform from Outperform. The downgrade reflects (1) a more neutral view on the lifeco sector versus banks (we are now relatively neutral on the 2 sectors); (2) our view that Great-West's stock may not be perceived to be as defensive as it was in the past given exposure to asset backed securities and greater exposure to equity markets than before as a result of the Putnam acquisition; (3) an increasingly difficult environment for Putnam to improve on mutual fund net sales, which we believe will have negative implications for the multiple investors will be willing to pay for Great-West.

• Great-West's stock trades at 12.1x NTM EPS, versus 11-12x for its peers and a 5-year average of 13.5x. We are using a 12.0x multiple in our target, below the five year average to reflect potentially a more difficult interest rate, currency, equity markets and credit environment.

• The total return implied by our 12-month target price of $34 per share is 10%, which no longer justifies an Outperform rating given the returns we expect for Canadian financial services stocks in the next 12 months.

• On the positive side, Great-West's earnings and shares should benefit from the integration of announced acquisitions in the U.S. and European divisions, lower credit risk in traditional bond portfolios and lower relative exposure to equity markets versus lifeco peers, even with Putnam now part of the company.

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Financial Post, Duncan Mavin, 15 February 2008

Manulife Financial Corp. emerged from fourth quarter earnings season as the top pick among Canada’s giant life insurers for a number of analysts.

“We rate Manulife’s shares as Outperform, based on the company’s sales and earnings growth track record, excess capital holdings, and growth prospects in Asia,” said RBC Capital markets analyst Andre-Philippe Hardy in a note to clients.

Credit Suisse analyst Jim Bantis has a “neutral” rating on Manulife’s stock, but said the shares deserve to trade at a premium because of the “strong track record of management and diverse operating platform.”

Manulife was one of three big Canadian insurers to report profits on Thursday, announcing earnings per share of $0.75, a few cents more than most analysts had expected. Sun Life Financial Inc.’s earnings of $0.98 per share were slightly below expectations, while Great-West Lifeco Inc. said it earned $0.60 a share, which was also slightly below what analysts had forecast.

The strength of the Canadian dollar was cited by all the insurers as a negative factor in the fourth quarter results. In coming periods, earnings are expected to be hampered by economic factors that will depress equity markets.

Desjardins Securities analyst Michael Goldberg said Manulife remains his top pick for the sector, although he reduced his target price for Manulife stock from $48.50 to $47.50, “to reflect our concerns about equity market weakness.”

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BMO to Take $490 Million Charge

RBC Capital Markets, 20 February 2008

Bank of Montreal pre-announced a number of items that are expected to lower Q1/08 EPS by about 70 cents:

• $60 million ($40 million after tax) general allowance increase to reflect portfolio growth and risk mitigation;

• $175 million pre-tax of mark-to-market losses in trading and structured credit positions, preferred shares, third party Canadian conduits and other losses;

• $160 million pre-tax valuation adjustment related to hedges with ACA Financial Guaranty. BMO liquidated these positions and has no further exposure to ACA. We do not know, but will try to find out if there are exposures to other monolines.

• $130 million pre-tax charge for BMO's investment in Apex and Sitka Trust, two structured finance vehicles to which BMO has not provided backup liquidity;

• $25 million pre-tax mark down in Links and Parkland capital notes. The bank also announced that it would provide liquidity facilities to its Structured Investment Vehicles, and that it expects to restructure Apex/Sitka Trust. In addition, a number of senior management changes were made. Details on page 2.

Lowering 12-month target; Maintain Underperform rating

We are lowering our 12-month target price to $54 from $58 to reflect a lower projected book value and a lower valuation multiple. The implied forward multiple to our new 12-month target price is 9.1x (versus the current 9.4x multiple) and the implied price to book multiple is 1.8x (versus 1.9x).

This announcement does not give us comfort that the headline risks that plague BMO are behind it, as we believe the bank is still exposed to more writedowns and many questions remain unanswered. Outside of these headline risks, the bank is weaker than its peers in retail banking, has more exposure to low multiple wholesale earnings, and more exposure to potential calls on liquidity if the financial services system sees more liquidity contraction.

BMO's stock closed at 9.4x 2008E EPS on Friday. The Canadian bank median was 10.2x, cheaper banks (CIBC and NA) were at 8.7x and 9.1x.

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Financial Post, Jonathan Ratner, 20 February 2008

A day after UBS surprised global markets by revealing that is has US$26-billion of additional exposure to U.S. mortgages, the Swiss bank said the situation continues to look grim for others.

In addition to the already US$150-billion in credit market-related write-downs, analyst Philip Finch is forecasting US$40-billion to US$120-billion more in collateralized debt obligation (CDO) and subprime-related write-downs, depending on the outcome of the monoline crisis. Conduits and structured investment vehicles (SIVs) could face US$50-billion in write-downs, while commercial mortgage-backed securities could see US$18-billion more, and leveraged buyouts US$15-billion, he added.

Mr. Finch said delinquency risk is spreading from subprime and Alt-A mortgages to home equity and prime mortgages, credit cards, auto loans and potentially commercial real estate as well.

“Risks are rising and spreading, and liquidity conditions are still far from normal,” he said in a note. “Valuations appear to be more interesting, but sector earnings remain at risk. Until there is clearer earnings visibility, global banks are unlikely to see a sustainable sector re-rating.”

The analyst estimates that a 10 basis point increase in credit costs would reduce estimated earnings growth for 2008 from 10.3% to 5.9%, while a 20-point hike would cut it to 2%.

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The Globe and Mail, John Partridge, 19 February 2008

Bank of Montreal warned Tuesday that it will take a pre-tax charge of about $490-million in the first quarter relating to various trading activities and structured finance holdings.

This will lower profit by about $325-million or 70 cents a share after tax, the bank said, adding that it could also face another hit of about $495-million before taxes, if talks aimed at restructuring a trust that holds non-bank asset-backed commercial paper do not produce an agreement.

The betting on Bay Street is that given the deterioration in the capital markets in the past few months and the continuing fallout from the U.S. subprime mortgage debacle, BMO's warning is just the first, and that other banks will likely follow suit.

BMO also said it is proposing to provide up to $12.2-billion (U.S.) in “senior ranked support” — including amounts it already has provided ($1.6-billion in the fourth quarter) — to two structured investment vehicles (SIVs), Links Finance Corp. and Parkland Finance Corp.

The purpose is to enable the SIVs to obtain additional senior funding and also continue to sell assets in an orderly manner, the bank said. Links will get up to $11-billion under this scheme, and Parkland up to $1.2-billion.

However, BMO also said it expects the amount that will be drawn against these facilities to be about half their maximum amount because of the “terms and conditions of the proposed liquidity facilities and the maturity profile of the senior notes.”

The bank, whose announcement brought downgrades and price-target reductions for its shares from several analysts, said the figures for the charges are estimates and subject to change.

As well as the financial hit, BMO announced five high-level executive changes, including the appointment of a new chief risk officer, although an official at the bank said it would be wrong to draw a link between this appointment and the writedowns.

The biggest of the pretax charges BMO will take in its fiscal first quarter, which ended Jan. 31, is $175-million (Canadian) against various trading and structured credit related positions, preferred shares, exposure to Canadian third-party conduits and other mark-to-market losses.

The second largest pre-tax charge is for $160-million related to charges previously hedged with ACA Financial Guaranty, a so-called monoline bond insurer. BMO said it has liquidated all its positions with ACA and has no further exposure to the company.

In the past seven years or so, ACA and other U.S. monoline insurers, have branched out from their traditional business of guaranteeing municipal bonds and added insurance for more sophisticated securities, including collateralized debt obligations (CDOs), which pool various forms of debt, including subprime mortgages, which, with the collapse of the subprime market, has left them in dire financial straits.

BMO also is taking an $130-million charge against its investment in Apex/Sitka Trust, a Canadian conduit for asset-backed commercial paper. This is in addition to an $80-million writedown it took on this investment in the fourth quarter.

The bank, which is scheduled to report its results on March 4, warned that it could face an additional pre-tax charge of about $495-million — its entire net investment in the trust — if talks under way with the aim of restructuring Apex/Sitka do not succeed. It added that it may provide “additional support” to the trust.

The final $25-million charge is against capital notes issued by Links and Parkland. BMO said it still holds notes valued at about $30-million.

In addition to the charges, the bank said it is boosting its general allowance for credit losses by about $60-million pre-tax, “to reflect portfolio growth and risk migration.”

A survey of 11 analysts by Bloomberg News recently pegged the average forecast for BMO's first quarter profit at $1.39 a share. Barring surprises, the 70-cent charge would reduce this to just 69 cents.

Investors reacted to the bank's announcement by bidding down its shares, despite a broad market rally. In mid-morning they were down by 48 cents to $53.35 on the Toronto Stock Exchange about half an hour after the opening bell.

One analyst, who spoke on condition he not be named, said BMO's move comes as no surprise and that, under the circumstances, the hit it is taking is not alarming.

“Remember that the banks' year-end was Oct. 31 and conditions in the capital markets have deteriorated since then,” he said. “So a $325-million after-tax hit is not bad considering other announcements out there.”

The “real takeaway” is that there will likely be similar announcements from the rest of Canada's Big Six domestic banks.

He noted that BMO had already disclosed its ACA exposure when it reported its year-end results. “All the other banks have ACA exposure, but in the small hundreds of millions,” he said. “There's nothing to be worried about here.”

To put BMO's news in context, Canadian Imperial Bank of Commerce last month announced a $2-billion (U.S.) writedown on its exposure to ACA. At the other end of the scale, Royal Bank of Canada has already disclosed that it would write off its $104-million (Canadian) exposure to a monoline analysts have identified as ACA.

Another analyst, John Aiken at Dundee Securities, told clients in a note that although the individual charges BMO is taking are “not overly material,” he is “disappointed” at how wide ranging they are, given previous hits the bank has taken, including a $680-million pre-tax hit last May on natural gas trading , the biggest trading loss ever reported by a Canadian bank.

“ Investors may begin to question when the litany of charges from BMO, typically thought of as a steady bank, will come to an end,” said Mr. Aiken. He also cut his rating on the stock to “sell” from “hold” and chopped his target price by $6 to $56.

“Since the energy trading losses have come to light, BMO has incurred almost $850-million, pre tax. In addition, BMO also announced over $300-million in pre tax losses related to items similar to today's announcement.”

Mr. Aiken also argued in his note that the $12.2-billion (U.S.) liquidity backstop the bank plans to provide to Links and Parkland will weigh even more heavily than the charges on its stock price.

“It took investors some time to get comfortable with the roughly $1.6-billion of senior support announced in conjunction with BMO's fourth-quarter results,” he said. “Now, over $12-billion in support has been committed on assets of over $13-billion. In fairness, BMO has suggested that its maximum exposure is likely to be one half of this amount, however, $6-billion remains an extremely large exposure for BMO, even if the assets are of relatively high quality.”

Analyst Brad Smith at Blackmont Capital also cited the liquidity backstop as his reason for chopping BMO to “hold” from “buy” and reducing his price target for the shares to $57 from $63.

“Rather than putting the SIV issue behind it, today's announcement sets the stage for it to migrate to BMO's balance sheet over time,” he said in a note to clients. “While funding is not expected to have a material impact on BMO's capital initially, this action increases the potential for additional losses should asset sales prove more challenging than currently anticipated.”

BMO also used its news release to announce a number of senior executive changes that will take effect March 5.

Interim chief financial officer Thomas Flynn, 44, is taking over as the bank's chief risk officer from Robert McGlashan, whose decision to retire was announced internally at the bank Dec. 8. Mr. McGlashan is just 55, but has worked at the bank for 35 years.

The bank has imported Russell Robertson, 60, formerly vice-chairman of accounting firm Deloitte and Touche LLP, as its new interim CFO to fill in for Karen Maidment, who has been on sick leave since last fall.

Thomas Milroy, 52, currently co-president of BMO Capital Markets will take over as its chief executive officer Yvan Bourdeau, 59, who will become its vice-chairman, while the other co-president, Eric Tripp, 52, will take over as its sole president.

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Financial Post, Duncan Mavin, 19 February 2008

Vernon Hill must seem like the unshakable ex-boyfriend of your new girlfriend for executives at Toronto-Dominion Bank.

The Commerce Bancorp founder has poked a stick at the Canadian bank that muscled in on his baby twice in two weeks now, his latest rant against banks-- like TD-- that carry billions of dollars of goodwill on their balance sheets.

TD wooed Commerce last year after Mr. Hill was ousted in June when regulators began investigating dealings between the bank and members of his family. He is suing Commerce for US$57-million for wrongful dismissal.

Commerce shareholders gave their consent to TD's US$8.5-billion offer this month, but if TD's executives thought they had seen the last of Mr. Hill, they were wrong.

He may have lost the bank he launched in 1973, but he is still emotionally attached, insisting on a blog two weeks ago that the TD deal ended "a small part of the American Dream" because TD would cut costs and dismantle Commerce's high-service level model.

Then last Friday, Mr. Hill launched another Web-based missive -- titled "Bank's Don't Need Goodwill" -- that will look to TD's executives like more sour grapes.

"Goodwill is an accounting fiction," Mr. Hill said. "It distorts our understanding of bank financials."

TD has $7.4-billion of the stuff, almost as much as the other four big Canadian banks combined. TD's goodwill balance will probably exceed the rest of the combined Canadian banking sector once the Commerce deal is accounted for.

Goodwill, in this usage, does not refer to relations between the flamboyant Mr. Hill and TD's down-to-earth chief executive Ed Clark, but to an accounting quirk that arises when banks buy other banks.

It "represents the excess pur-chase price paid on acquisitions over the fair value assigned to identifiable net assets, including identifiable intangible assets," according to TD's 2007 financial statements.

In other words, it is the amount the bank paid for acquisitions over and above the value of tangible assets like loans and mortgages. The balance is not amortized in the way a company reduces the value of its buildings by recording depreciation, but is "assessed for impairment annually," according to TD's disclosure. Why is that a problem?

"Here's why," writes Mr. Hill. "If you pay too much for an acquisition, you should have to live with the consequences, which are diminished returns. In such a case, almost no acquirer can report an acceptable return on capital and almost no acquisition justified."

Mr. Hill notes some U.S. banks, including Bank of America and Wachovia, have ended up with 50% or more of their capital made up of goodwill.

"Goodwill obviously can't be deployed or invested -- it's intangible -- and so generates a return of zero," wrote Mr. Hill. The number is so meaningless, he argues, that regulators strip it out for the calculation of a bank's minimum capital requirements.

Historically, the goodwill balance is rarely written down as it is assumed that acquisitions are always on the up-and-up. But that has been changing recently as the downturn in the U.S. economy casts a different mood on the financial sector there.

A report in American Banker this month said at least 16 publicly traded banks, including big regional players like Washington Mutual Inc. and Sovereign Bancorp Inc., "took significant impairment charges to reflect the declining value of goodwill, accumulated largely through acquisitions."

The total amount of goodwill written down by U.S. banks in the fourth quarter of 2007 was US$4.2-billion, according to the report. It is a relatively small amount compared with massive subprime problems, for instance. But the charges in the final three months of last year were more than the industry took in the previous 27 quarters combined, and were 350 times as large as the US$12-million of goodwill charges in the same quarter of 2006.

At TD, most of the goodwill has arisen from acquisitions in the U.S. including struggling TD Banknorth based in Portland, Me., and the collection of multi-billion-dollar fixer-uppers that have been added to that franchise like Hudson Bancorp. Even before the Commerce deal goes through, TD is carrying $6.3-billion of goodwill from U.S. acquisitions.

Meanwhile, the Canadian bank's U.S. retail banking operation is facing the same U.S. economic downturn as some of the banks that have taken goodwill charges, and its recently acquired banks still need some time and hard work before they are producing the sort of returns the Canadian bank expects.

Still, whatever Mr. Hill's rants about bloated balance sheets and distorted returns, analysts in Canada say it is unlikely TD will write down its goodwill balance any time soon. The bank is due to report its first-quarter numbers next week. If a writedown had been coming it would have happened in the fourth quarter of 2007, when TD undertook its annual goodwill impairment review and "when all the other banks were taking a miscellany of charges," one analyst said,

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Financial Post, Sean Silcoff, 19 February 2008

As the credit crisis continues to grip the global financial sector, most Canadian banks are in embarrassingly good shape. Want to buy a U.K. bank for six times profit and a 6% dividend yield? Or would you rather pay 12 times for a Canadian bank with a 4.5% dividend?

Still, Canadian investors should remember two things: Bad news from our banks tends to come out gradually. Second, the good fortunes of Canadian banks are due to a prolonged economic boom that won't last forever. From the lofty heights at which Canadian banks are perched, the fall could feel steeper than it actually is.

Consider yesterday's news out of Bank of Montreal. The headline: "$490-million in charges before tax." That includes a $160-million hit for BMO transactions hedged with troubled monoline insurer ACA Financial Guaranty and $330-million of assorted other credit crunch-related booby traps. More fallout is likely to come.

Within the fantasy realm in which Canadian banks operate, however, a small write-down tucked in at the bottom of the charges should cause just as much concern: a $60-million pre-tax hit to reflect "an increase to the general allowance for credit losses to reflect portfolio growth and risk migration."

This marks the second quarter in a row in which BMO has increased its kitty for expected loan losses. If BMO's financial wizards are right, the canary in the coal mine of the Canadian economy has just keeled over.

For five years, loan-loss provisions have declined among Canadian banks; at BMO, they fell to $888-million in the third quarter of 2007 from $1.18-billion at the end of 2002, reflecting improving credit quality. Suddenly, BMO is one-third of the way back up to where it was five years ago. Add to that recent comments by Ed Clark, chief executive of Toronto-Dominion Bank, that a U.S. slowdown would hit Canada, and it's time to ask what other bad news is coming from the core operations of the big banks.

"This is the start of the momentum for material increases in provisions for credit losses as the Canadian banks face a difficult credit environment in 2008 and 2009," said John Aiken, Dundee Capital Markets analyst.

Loan-loss provisions among Canadian banks, which have averaged a modest 0.4% over the past dozen years, are now just under 0.3% and, by Mr. Aiken's estimate, heading back to the average. That's hardly earth-shattering, but we're talking Canada, where fat profits, 20% returns on equity (ROE) and high valuations are the norm. If the loan-loss ratio rises by 10 basis points, it will reduce Big Bank earnings this year by 4%, Mr. Aiken estimates. Analysts, on average, estimate profits will grow by 5%. "This change could wipe out all growth, with obviously negative impact on valuations." Mr. Aiken said. ROE would likely fall by 300 to 400 basis points.

That won't exactly prompt Ottawa to nationalize the banks, as the U.K. is doing with Northern Rock PLC. But it could lead to a 20% drop in price-to-book multiples, and corresponding stock prices, for Canadian banks.

If you're a long-term investor, fear not. If you're bottom fishing, be patient. "Two to three years out [Canadian bank stocks] will be good value," said Nick Majendie, chief portfolio strategist with Canaccord Capital. "But there's not a desperate rush to take positions if you don't have them already."

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Financial Post, Duncan Mavin, 15 February 2008

More weakness for monoline bond insurers generally means more bad news for Canadian Imperial Bank of Commerce.

Thursday’s announcement from Moody’s that it has downgraded monoline FGIC was no exception, prompting Blackmont analyst Brad Smith to issue a note on CIBC headed “Loss risk escalation continues.”

CIBC has potential hedge exposures with FGIC of several hundred million dollars, says Mr. Smith.

The troubled bank is not the only Canadian company exposed to the monolines — U.S. companies that were set up to insure municipal bonds before they got into guaranteeing riskier and more complex investments like collateralized debt obligations backed by subprime mortgages.

But CIBC’s performance has been tied to the ups and downs of the struggling monoline industry after first revealed the multi-billion dollar extent of its subprime related investment last year. The bank has since written down its subprime investments by $3.3-billion, including $2-billion tied to a single failing monoline.

Proposed bailout plans for the monolines’ municipal bond business might not offer much comfort to CIBC either.

“While a resolution would be good news for municipal bond investors generally, the newly emerging urgency could reduce regulator willingness to seek a broad-based solution,” Mr. Smith said. “This would result in a rising risk that weaker monolines could be sacrificed in the interest of stabilizing the muni bond market.”

In other words, municipal bonds would be saved, leaving the monolines’ riskier guarantees of subprime and the like still in limbo.

CIBC has as much as $30-billion of subprime and non-subprime investments hedged with monolines, says Mr. Smith.

The Blackmont analyst rates CIBC a sell, with a $66 target price.

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Financial Post, 14 February 2008, Jonathan Ratner

As the Canadian economy continues to show signs of health despite weakness in the U.S. and fears of a recession there, many investors are wondering if Canada’s bank stocks have bottomed. The seemingly endless string of writedowns from global banks has produced what many consider the most challenging environment for the sector in a long time.

But one of the key factors that could boost valuations for banks later this year – particularly in Canada – is lower interest rates. However, the credit concerns that have caused much of the recent pain for Canadian financials isn’t going anywhere, according to UBS analyst Peter Rozenberg.

With this in mind, he suggested that while the price-to-earnings ratios for Canada’s banks are good at 11 times, they're not great. His target is 12 times.

Nonetheless, he expects Canadian bank stocks will produce an average one-year return of 18%. Earnings per share growth is expected to be 3% in 2008, compared to the consensus estimate of 4% and management guidance of 5% to 10%, he noted.

“Liquidity is good, CDO/monoline exposure is measured (except at CIBC), and asset quality remains strong,” Mr. Rozenberg said in a report. “However, capital markets, which are 29% of EPS, and loan growth are expected to decline.” At the same time, the weak U.S. outlook, and low and rising provisions mean the recent volatility will likely continue.

Mr. Rozenberg, who recently took over the banking beat from Jason Bilodeau, who moved to TD Newcrest, considers Toronto-Dominion Bank and Bank of Nova Scotia to be in the best position in terms of sustained growth and low risk. He rates a “buy,” while Royal Bank, Bank of Montreal, CIBC and National Bank are all rated “neutral.”

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