06 December 2011

BMO Q4 2011 Earnings

The Financial Times, 6 December 2011

Canada’s five biggest banks have reaped the benefits of a vast, stable retail network by reporting sizeable advances in – and, in some cases, record – earnings in their latest fiscal year.

Bank of Montreal, the last of the five to publish results, reported net income on Tuesday of C$3.27bn ($3.23bn) for the year to October 31, up 16 per cent from 2010.

In a remark that would apply to few of BMO’s US or European rivals, Bill Downe, chief executive, described 2011 as “a terrific year”, including record earnings from personal and commercial banking.

The Canadian banks have a low direct exposure to the eurozone. Europe makes up 6 per cent of total lending assets at Royal Bank of Canada, the most exposed. RBC officials note that much of its lending is to blue-chip European companies.

Even so, Mr Downe told the Financial Times that the eurozone crisis “has implications for overall economic growth, and in that sense it’s important”. The banks – like the Canadian economy – are also heavily dependent on the health of US financial markets.

Several sounded a cautious note for the future. Ed Clark, Toronto-Dominion’s chief executive, cited low interest rates, sluggish economic growth and an uncertain regulatory environment.

All five banks – RBC, TD, Bank of Nova Scotia, BMO and Canadian Imperial Bank of Commerce – reported double-digit increases in fourth-quarter earnings. Returns on equity ranged from 14.3 per cent at TD and BMO to CIBC’s 20.6 per cent.

TD and Scotiabank reported record annual earnings of C$5.89bn and C$5.27bn respectively. Peter Routledge, analyst at National Bank Financial, expects TD to announce its third dividend increase in a year next quarter. The bank is one of a handful worldwide that still carries a Moody’s triple A credit rating.

“We’ve benefited from a very strong economy and good employment growth at home”, Mr Downe said. “We’re headquartered in a very stable country.”

He added that “the fact that we’re well-capitalised and have a strong balance sheet has drawn deposits to the bank”. BMO’s Chicago-based subsidiary, BMO Harris Bank, boosted its deposit market share to 11.6 per cent from 9.5 per cent, overtaking Bank of America as the region’s second-biggest deposit-taker.

RBC has sought to woo European wealth-management customers with an advert that features a leafy maple tree against a desolate, wintry backdrop. The caption reads: “Standing tall for our clients in an uncertain world.”

George Lewis, head of RBC’s wealth management division, said that “given the current environment, we chose to initially focus our campaign in Europe, where we believe the stability of RBC represents great appeal for clients”.

One analyst expressed concern about rising non-interest expenses as a common thread among the results. Fourth-quarter expenses at Scotiabank, normally among the most parsimonious, jumped by 15.4 per cent.

05 December 2011

RBC Q4 2011 Earnings

Scotia Capital, 5 December 2011

• RY cash operating EPS increased 17% YOY to $1.09 per share, above our expectations of $1.06 per share and IBES consensus at $0.98 per share. Earnings were driven by record Canadian Banking earnings.

• Operating ROE: 17.1%, RRWA: 2.35%, CET1: 7.7%(E).


• Canadian Banking earnings increased 18% YOY and 6% QOQ as the Retail NIM only declined 2 bps YOY and 1 bps sequentially with loan growth solid at 7%. RBC Capital Markets (RBCCM) earnings were resilient in a difficult market, unchanged from the previous quarter with trading revenue increasing slightly. FX and equity trading improved with interest rate and credit trading flat. RBCCM was likely the positive surprise against very bearish IBES estimates.


• We are increasing our 2012E and 2013E EPS by $0.10 each to $4.80 and $5.20 based on the resilient retail NIM and IFRS. We are increasing our one-year share price target to $63 from $57. Reiterate 1-SO based on above industry group profitability and capital, and substantial earnings leverage to some type of normalization in capital markets.

Scotiabank Q4 2011 Earnings

TD Securities, 5 December 2011

Last Friday before the open, the bank reported Core Cash (f.d.) EPS of $1.08 versus TD Securities at $1.09 and consensus of $1.08.


Slightly positive. With some helpers, Scotia delivered a basically in line result. The results were fairly balanced across the segments; importantly, we note continued progress in the International segment consistent with our expectations for above-average medium-term growth. We trimmed our estimates nominally, around lower near-term NIMs, but strong volumes, acquisitions and what we expect to be some increased expense discipline should help deliver reasonably good bottom-line growth in 2012. Overall, we continue to view Scotiabank as one of the best fundamental stories in the group. At current levels, we believe valuations are reasonably attractive and we reiterate our Buy rating.


Sounds like some increased focus on harvesting recent growth/investment in 2012. We have agreed with Scotia’s decision to continue to press strategic investments/capital deployment over the past 24 months with an eye to building out the platform for medium-term growth. Efforts should continue in 2012, but management is suggesting a slight shift to harvesting returns over the coming year with some diminution in project spending and build-out which should manifest itself in better operating leverage and some better bottom-line earnings.

02 December 2011

TD Bank Q4 2011 Earnings

Scotia Capital, 2 December 2011

• TD operating EPS increased 28% YOY to $1.77 from $1.38 a year earlier, beating expectations due to strong results across all segments and high security gains.

• Operating ROE: 14.9%, RRWA: 2.95%, CET1: 6.2%E (incl. IFRS).

• Fiscal 2011 operating EPS increased 18% to $6.82 from $5.77 in 2010.


• Canadian P&C (TDCT) had strong earnings up 17% YOY to $905M, with U.S. P&C up 16% YOY to $328M. Wealth Management earnings were also strong increasing 28% YOY. Wholesale Banking earnings rebounded to $288M ($151 million before security gains) from $108M in Q3/11. Trading revenue was $286M versus a dreadful $109M in Q3/11. Trading revenue in the quarter was driven by very strong FX and equities with interest rate and credit recovering modestly.


• Our 2012E and 2013E EPS are unchanged at $7.10 and $7.80, respectively. Our 1-year price target remains $93. Maintain 1-SO based on an industry high capital generation rate (RRWA), low balance sheet risk, competitive positioning and no P/E premium to the bank group.

CIBC Q4 2011 Earnings

Scotia Capital, 2 December 2011

• CM reported operating EPS of $1.87 (excl. a $0.12 merchant banking gain and other charges of $0.08). Earnings were strong, in line with our expectations of $1.90, however, handily above consensus EPS of $1.81.

• Operating ROE: 20.4%, RRWA: 2.71%, CET1: 8.1%


• Earnings were driven by strong results from Retail & Business Banking and Wealth Management up 15% and 20% y/y, respectively. Wholesale Banking earnings were resilient at $156M versus $160M in the previous quarter and a very weak $67M a year earlier. Trading revenue was solid at $165M versus $146M in Q3/11 and $157M a year earlier.

• CM has positive earnings momentum in 2012 from expected 1.8% reduction in statutory tax rate, $0.15 earnings accretion from American Century and $0.09 per share run rate accretion from preferred share redemptions and $0.20 accounting pickup from IFRS.


• We are increasing our 2012E and 2013E EPS both by $0.20 to $8.10 and $8.80, respectively due to IFRS and expected stronger operating results. We reiterate 1-SO due to CM's high relative profitability, low relative valuation and low risk balance sheet and business mix.

10 November 2011

No Canadian Bank in FSB's List of Global SIFIs

Scotia Capital, 10 November 2011


• The Financial Stability Board released the initial list of 29 global systemically important financial institutions with no Canadian banks on the list, as expected.


• The fact that Canadian banks are not on the list potentially strengthens their competitive positioning in the capital markets business, with RY best positioned given its broader capital market platform.

• We believe that RY/RBC's competitive positioning continues to improve given its superior credit ratings, not a G-SIFI and not subject to the potential negative impact of ring-fencing in the U.K.

• RY's strong operating platform in the U.K. and solid underwriting market share in Sterling, German, and French bonds should allow the bank to generate significant earnings from RBCCM over the next several years, once the markets return to some sense of normalcy.


• Maintain 1-SO on TD, CM, and RY, with 2-SP on CWB and LB, and 3-SU on BMO and NA. We are restricted on the shares of BNS.

24 October 2011

RBC Hosts Investor Day Focusing on RBC Wealth Management

Scotia Capital, 24 October 2011

• RY hosted an analyst and investor conference on Friday focusing on the bank's wealth management segment, RBC Wealth Management.


• The main theme of the conference was RY's strategic focus of becoming a global leader in wealth and asset management and achieving a very aggressive five-year objective of growing earnings to $2 billion in 2015 from $0.7 billion in 2010, representing a CAGR of 23% and adding $0.90/share to annual earnings in 2015.

• RY's plans to achieve this objective through organic growth (40%-50%) by improving operating margins in Wealth Management U.S., leveraging acquisitions (20%-30%) such as PH&N, BlueBay, and other potential future small to medium-sized bolt-on acquisitions, and a return to more normalized market conditions (25%-35%).


• Our earnings estimates are unchanged. We maintain our 1-Sector Outperform rating and one-year share price target of $57/share.

23 September 2011

Review of Bank's Q3 2011 Earnings

Scotia Capital, 23 September 2011

• Third quarter operating earnings were modestly better than expected, increasing 16% YOY and 2% QOQ. Volatile and depressed wholesale banking results were offset by resilient retail banking earnings and strong earnings growth from both wealth management and international.


• Despite the challenging quarter, profitability remained strong (ROE 17.2%, RRWA 2.36%) with CM and TD both increasing dividends a modest 3%.


• Reducing our 2012E EPS by 4.5% due to expected decline in retail NIM and our target prices by 14% based on a contraction in P/E multiples due to the overall decline in valuations, systemic risk, and lower earnings estimates. We are introducing our 2013E EPS with expected growth of 9% YOY.

• We are upgrading LB to 2-SP from 3-SU as its valuation discount has widened to 27% versus CWB and its shares have underperformed in 2011. We are also downgrading BMO to 3-SU from 2-SP due to high relative valuation versus profitability and potential for weaker wholesale earnings.

• Maintain overweight the bank group.

01 September 2011

TD Bank Q3 2011 Earnings

The Wall Street Journal, Caroline Van Hasselt, 1 September 2011

Toronto-Dominion Bank raised its dividend for the second time this fiscal year as strong retail earnings in Canada and the U.S. helped push the lender's third-quarter profit up a better-than-expected 23%.

Strong personal and commercial banking results on both sides of the border were tempered somewhat by a 40% drop in earnings from wholesale banking, which posted lower fixed-income and currency trading revenue because of market uncertainty and volatility.

TD, ranked No. 2 in Canada and No. 10 in the U.S. by assets, earned C$1.45 billion (US$1.48 billion), or C$1.58 a share, in the three months ended July 31, up from C$1.18 billion, or C$1.29, a year earlier. Adjusted earnings jumped to C$1.72 a share, well ahead of the Thomson Reuters mean estimate of C$1.62.

Credit-loss provisions rose 10% to C$374 million, as the bank set aside more money for potentially bad loans in the U.S. that it picked up through acquisitions. TD last year moved into the Carolinas and Florida through the purchase of a handful of troubled retail banks. The increase was partially offset by lower credit-loss provisions at TD Canada Trust, its domestic personal and commercial bank.

"I don't think we're going to see much more of a decline in credit losses," Colleen Johnston, TD's chief financial officer, said. "Loss rates are probably bottoming out, but now we'll have volume-related increases in credit losses, but the rate of losses by category will remain fairly stable with where we are now. So, we're really quite comfortable from a credit standpoint."

TD, which had raised its dividend in the first quarter, will now pay a quarterly dividend of 68 Canadian cents. The bank is the second of Canada's big banks to boost its dividend this quarter. Canadian Imperial Bank of Commerce announced a dividend increase Wednesday.

In Toronto, TD shares rose 77 Canadian cents, or 1%, to C$78.25. The stock jumped up as much as 2% at the opening bell.

TD said its Canadian personal and commercial banking division earned C$954 million in the latest quarter, up 13% from a year earlier, while earnings from its U.S. personal and commercial banking operations rose 21% to US$328 million.

Last month, TD, a Visa-card issuer, agreed to buy MBNA Canada's MasterCard portfolio, a deal that when it closes in the first quarter of 2012 will make the bank a dual credit-card issuer in Canada.

Net income in its global wealth-management division, excluding TD Ameritrade, jumped 26% to C$195 million primarily from higher fee revenue. Expenses rose 9% mainly from higher compensation. TD added 216 employees, up 3% from a year ago, as it beefs up the division.

The bank now has about 750 investment advisers, Ms. Johnston said.

"Historically, we haven't had as much strength on the full-service brokerage side, and that's an area where we've been growing quite significantly. We have more than doubled our group of advisers" over the last number of years, she said.

Wholesale banking earnings dropped to C$105 milion, as revenue fell 20% to C$458 million.

As with other Canadian banks, TD's fixed-income and currency trading revenue dropped sharply, reflecting reduced market volumes as clients lowered their risk and increased cash holdings amid weak U.S. economic data and the possibility of sovereign-debt defaults in Europe.

TD rounds out a mixed third-quarter reporting season for Canada's big banks. Canadian Imperial, Bank of Nova Scotia and Bank of Montreal all posted better-than-expected results, while National Bank of Canada's results were in line. Canada's largest lender, Royal Bank of Canada, posted a loss—its second in 18 years—after taking a big hit from discontinued operations in the U.S.

30 August 2011

Scotiabank Q3 2011 Earnings

BMO Nesbitt Burns, 30 August 2011

Bank sector earnings rose by 16% year over year in the quarter ended July, about 2% more than consensus expectations. We have added to our sector weight with a percentage point in the Bank of Nova Scotia. Despite a challenging environment and higher-than-expected expense growth, BNS continues to meet, or exceed, financial targets. Operating EPS should grow at 13% in 2011, higher than the targeted range of 7–12%. Operating EPS are projected to be $4.50 in 2011, which excludes $0.28 in gains in H1/11. Credit trends are stable and cash ROE in the latest quarter was healthy, at 18%.

29 August 2011

RBC Q3 2011 Earnings

Scotia Capital, 29 August 2011

• RY cash operating EPS increased 13% YOY to $1.06, slightly below expectations of $1.08. Reported cash EPS was a loss of $0.09/share.

• Operating ROE: 17.0%, RRWA: 2.37%, CET1: 7.7%(E).


• Wholesale earnings declined 32% QOQ due to a larger-than-expected decline in trading revenue to $302M from $708M in Q2/11. Fixed income trading revenue collapsed to $71M from $396M in Q2/11.

• The disappointing Wholesale earnings were partially offset by strong earnings from Canadian Banking increasing 12% YOY to $855M (compares to BMO 2%, NA 6%). Wealth Management earnings were up 24% YOY on an adjusted basis.


• Our 2011E EPS is unchanged at $4.50; however, the estimates have been moved to a continuing operations basis. Thus, on a net basis, Q4/11E EPS would have been reduced $0.07 to reflect the difficult market environment in August and weakness generally expected in Q4. We are also reducing our 2012E EPS to $5.00 from $5.15. One-year share price target is unchanged at $70. Maintain 1-Sector Outperform.

28 August 2011

Manulife's Financial Outlook Still Too Uncertain

Citigroup Global Securities, 28 August 2011

Risk of Earnings Shortfalls Rising as Weak Macro-Economic Climate Exacerbating Pricing Mistakes at John Hancock

• Maintain Sell but target lowered — We reiterate our Sell (3H) rating on MFC’s shares but have lowered our target price to C$12/US$12 and downwardly revised our 2011E-13E to C$0.65, C$1.60 and C$1.75. As one of the largest writers in the U.S. of VAs offering living benefits, secondary guarantee universal life (SGUL), individual long-term care (LTC) and VAs in Japan, MFC possesses well above average sensitivity to both equity markets and long-term interest rates. Our target and estimate changes incorporate the decline each has seen and our expectation current levels will persist for the foreseeable future. Quarter-to-quarter results will likely remain volatile and largely outside of management’s control including a $0.50/share loss we now project for 3Q11.

• Balance sheet quality issues persist — The recent drop in U.S. interest rates and equity markets coupled with pricing mistakes made at John Hancock on VAs, LTC and SGUL will depress MFC’s earnings and ROE for years, if not decades to come. Exacerbating this was weaker, relative to peers, risk management practices. While we have been encouraged by the steady increase MFC’s use of hedging activities, the announcement of a $700M or $0.39/share charge in 3Q11 for adverse mortality at John Hancock raises a new area of concern. It relates primarily to deteriorating experience on Hancock’s old permanent life insurance block. MFC is the only insurer we are aware of to have this issue and leads us to question overall reserve adequacy and other deficiencies that have yet to come to light.

• 2Q11 better than forecast but core trends mixed — On a nominal basis, operating earnings of C$490M compared favorably to a loss of C$(2.4)B a year earlier. While the U.S. Insurance and Wealth Management, and Reinsurance segments performed better than our forecast, Canada was weaker than projected and Asia was in-line. ROE of 8.2% compared to 17.4% in 1Q11. Targeted insurance and wealth management sales were up 28% to C$575M and C$275M to C$8.4B, respectively; while non-targeted sales fell 68% and 30%, respectively. Targeted premiums & deposits grew 3.7% to C$16.9B, where targeted products represent 90% of in-force vs. 85% in 2Q10.

• Pace of improvement will be slow — We are encouraged by the steps management has taken to help to stabilize MFC’s financial position, but it will still take many years to fully resolve the problems at John Hancock. The risk of earnings shortfalls vs. market expectations remains tangible. Despite the high growth potential of a very strong Asian franchise and the stable and high ROE of its Canadian business, from a risk vs. reward perspective this is more than offset by the uncertainty posed by John Hancock.

26 August 2011

National Bank Q3 2011 Earnings

Scotia Capital, 26 August 2011

• NA cash operating EPS increased 10% YOY to $1.72 in line with expectations. Earnings were supported by extremely low PCLs of 15 bp (40+ bp for bank group) and security gains of $0.11/share or 6% of earnings. Retail earnings were up 6% YOY, with Wealth up 28% YOY and Wholesale up 13% YOY.

• ROE: 17.5%, RRWA: 2.29%, CET1: 8.0%.


• Reported EPS was $1.84 including $0.07/share reversal of ACLs, $0.13/share tax recovery, $0.03/share charge in severance pay (Wellington West), and $0.05/share charge for litigation provisions.


• Slightly increasing our 2011E EPS to $6.95 due to the slight beat this quarter. 2012E EPS unchanged at $7.60. One-year share price target unchanged at $90. NA, we believe, is fully valued and is currently trading at 9.3x or 93% relative to the bank group (85% historical mean since 1984) on our 2012E EPS. The higher relative P/E is reflective of the bank's improved operating performance versus the bank group. However, based on profitability and business mix, we feel that the relative P/E multiple is capped at 90%-95%, thus fully valued. Maintain 3-Sector Underperform.

24 August 2011

BMO Q3 2011 Earnings

Scotia Capital, 24 August 2011

• BMO cash operating EPS increased 19% to $1.36 per share, beating our expectation of $1.30 per share and IBES consensus of $1.31 per share, aided by tax recovery, partially offset by weaker insurance revenue.


• BMO Capital Markets earnings were stronger than expected due to tax recovery, as well as trading revenue held up better than U.S. Bank results, improving to $269 million from $250 million the previous quarter. Equities trading revenue was particularly strong at $103 million (including a couple of small items of note) versus $66 million in Q2/11.

• P&C Canada earnings growth slowed to 2%, with Private Client earnings (ex Insurance) strong increasing 43% and P&C U.S. earnings increasing 39%, excluding M&I.

• Operating ROE: 15.6%, RRWA: 1.79%, CET1: 6.6%.


• Increasing slightly our 2011E EPS to $5.36 from $5.30 due to the beat this quarter. Our 2012E EPS is unchanged at $5.85 per share.

• Maintain 2-Sector Perform as relative valuation remains high versus low RRWA and low CET1.

15 August 2011

How TD Bank Is Invading the US Market

The Wall Street Journal, Caroline Van Hasselt, 15 August 2011

Toronto-Dominion Bank has quietly launched an assault south of the border, hungry for growth opportunities that have dried up in its home country.

Canada's second-largest bank by assets now has 1,285 retail branches in the U.S., compared with 1,131 in Canada. TD's retail-banking unit is the 10th-largest in the U.S., bulking up with four takeovers last year that deepened its reach in Florida and pushed TD into North Carolina and South Carolina.

Some analysts expect TD Ameritrade Holding Corp., the online brokerage firm that is 43%-owned by TD, to bid for E*Trade Financial Corp. That could deliver yet another boost to the Canadian bank. TD declined to comment on the possibility of a takeover bid.

On Monday, TD announced an agreement to buy Bank of America Corp.'s MBNA Canada, the fourth-largest credit-card issuer in Canada, for C$7.5 billion (US$7.64 billion) in cash, or a 1% premium above the portfolio's book value.

As part of the deal, TD will assume C$1.1 billion in liabilities. The purchase, expected to be completed later this year, will more than double the bank's outstanding credit-card balances to C$16.7 billion, or about US$16.9 billion.

Given the U.S. economy's struggles, TD's expansion is risky. Still, the U.S. is a tempting growth market for Canadian banks, since their home country has a saturated retail-banking market with no opportunities to consolidate because of government restrictions on big bank mergers.

The pressure of slowing economic growth has intensified recently, with low Canadian interest rates triggering a borrowing binge. Canadian household-debt levels are now above those in the U.S. That has many economists and analysts warning Canadians may be tapped out, threatening to slow retail-banking growth opportunities.

TD moved cautiously into the U.S., acquiring in 2004 a 51% stake in Banknorth, based in Portland, Maine. TD bought the entire company three years later. In 2008, TD paid $8.5 billion to acquire Commerce Bancorp, of Cherry Hill, N.J. In April, TD completed a $6.3 billion acquisition of U.S. auto lender Chrysler Financial Corp.

TD's acquisition of Commerce was initially jeered as poorly timed. But the deal now is an example of how the bank hopes to tap the U.S. market and wring more profit out of its recent purchases there.

Commerce was a convenience-oriented lender, bent on getting customers in and out quickly with ample branch hours. That resembles the "8-to-8, six days straight" service model of Canada Trust, which TD acquired in 2000 and renamed TD Canada Trust.

Ed Clark, TD's chief executive, said an 18-month integration effort at Commerce puts TD in position to win more market share along the East Coast. "If we did nothing more than what we've done now and just exploited the organic, in-place opportunities, I'd be a very happy camper," he said.

TD's branches in the U.S. still aren't nearly as profitable as those in Canada, but executives hope to narrow the gap by boosting sales of everything from checking accounts to mortgages. The growth potential eases the pressure for more acquisitions, Mr. Clark said.

Greater New York City, for instance, boasts a deposit base just shy of $1 trillion, about two-thirds the size of the whole of Canada. TD Bank is now fifth by deposits in that retail-banking market, with a 3.6% share. Mr. Clark wants to be No. 3 in four or five years, without new acquisitions.

His strategy is rooted in U.S. community banking, including extending banking hours and opening branches on Saturday and, in some states, on Sunday. But the Toronto-based bank is also pushing its U.S. branches to rev up so-called cross-selling—for instance, marketing mortgages or other financial services to plain-vanilla checking account holders. TD is tying a portion of compensation to those new product sales.

By targeting mortgage lending, Mr. Clark said he can capture new customers neglected by U.S. banks still shell-shocked from the American housing bust. "In the U.S. today, people with great credit scores and sitting on houses that are not going to depreciate dramatically cannot get mortgages," he said.

Branch employees now spend 30% more of their time selling products compared to last year, said TD Bank's Fred Graziano, head of regional commercial banking. In the first six months of the year, insurance referrals have more than doubled from the year-earlier period, and store employees sent more than 17,000 referrals to TD Ameritrade, he said.

But TD Bank has ceded some ground in terms of customer satisfaction. Last year, it lost Commerce's coveted top ranking by J.D. Powers and Associates for customer satisfaction in the Mid-Atlantic market, dropping to No. 5. TD has moved back up in this year's survey, now ranking No. 3.

"They have challenges that typically come with acquisitions," said Lubo Li, J.D. Powers' senior director of financial services.

TD says it doesn't think its efforts at selling more products will detract from the customer experience. "As much as we love the service end of the business and want to own that space, we actually want to own the sales and service space" as well, Mr. Graziano said. "And, that's being driven from Canada."

09 August 2011

Bank Shares Retrace Under High Systemic Risk

Scotia Capital, 9 August 2011

Banks and Systemic Risk/U.S. Downgrade in a Fragile Market – Revisit Capital Markets Impact to Canada/Bank Downgrades in 1992

• S&P downgraded U.S. credit rating from AAA to AA+ on Friday August 5, 2011, placing additional stress on global markets and increasing overall systemic risk. Bank stocks in general do not do well with heightened systemic risk: however. banks with low balance sheet risk can hold up surprisingly well on a relative basis, although share price declines in the short term on an absolute basis are usually inevitable.

• As per our Daily Edge note published on July 29th titled "Bank Shares Retrace Under High Systemic Risk/Soft Earnings; U.S. Treasuries Exposure Very Manageable", we estimate Canadian banks' U.S. Treasuries exposure at $61 billion, or 2.1% of assets, with relatively modest duration estimated at 3.8 years. If we assume that U.S. Treasuries yield increases 50 basis points along the entire yield curve and there is no hedging or matching, earnings would be reduced by 3.0% on our 2012 earnings estimates. We also estimate the capital impact to be negligible (see note for details). Canadian banks' balance sheet risk, we believe, is very low with negligible exposure to PIIGS, very manageable exposure to U.S. Treasuries and OECD debt, and no U.S. legacy mortgage problems. Canadian banks also operate in a relatively stable industry environment with a non-hostile regulator/government in a country with a relatively sound fiscal position (Exhibit 2).

• The market's reaction to the S&P downgrade of the U.S. is certainly magnified as one would expect versus the reaction from the credit rating downgrade of Canada in the early 1990s, especially given the level of systemic risk that currently persists.

• Canadian bank stocks have now declined by 17% since they reached new all-time highs in April of this year due, we believe, mainly to systemic risk although soft earnings and weak economic growth also contributed to the share price retrace. The bank share price decline from their highs equates to a decline in market capitalization of $54 billion, which almost equals their entire $61 billion in estimated U.S. Treasuries exposure. However, bank share prices are expected to remain under pressure until systemic risk moderates, as high systemic risk typically outweighs fundamentals in the short term. In the medium to long term, heightened systemic risk should create buying opportunities for fundamentally sound banks. However, the difficulty is always gauging the market's reaction time and the magnitude of the response to systemic risk.

• Canadian bank stocks' performance has been weak in 2011 with the Bank Index down 7% year-to-date, partially offset by a dividend yield of approximately 4%. However, on a relative basis, bank stocks are outperforming the TSX, which is down 13% YTD and substantially outperforming global banks with the MSCI World Commercial Bank Index down 25%. Global banks are having a rough year, with the five large US banks down 32%, Swiss banks down 32%, UK banks down 24% and even the Australian banks down 15%.

• It is an interesting dilemma for global investors that have played the bank beta trade on the deep discount banks (market to tangible book not P/E) hoping for a return to a "normal" environment post Financial Crisis I versus the steadier low-risk banks (Canadian). Canadian bank stocks thus far are holding up relatively well in Financial Crisis II, not dissimilar to their performance in Financial Crisis I.

• To accurately predict how long Financial Crisis II will last and how low valuations will dip is not feasible. However, with Canadian banks' dividend yield now 4.3% with earnings yield 2.3x corporate AA bond yields, we are seeing glimpses of Financial Crisis I type discounting. The banks' P/E multiple is 11.5x trailing and 9.4x 2012 earnings estimate.

• On a long-term macro basis, if the next couple of decades have lower economic growth from government deleveraging and the equity markets have modest returns, dividends will likely represent a much larger portion of total market returns. According to Research Affiliates LLC, dividends have represented 25% of total market returns from 1989 to 2009 versus dividends representing 53% of total market returns on a longer-term basis from 1871 to 2009 (Exhibit 19). Thus, if we expect a shift towards the higher contribution from dividends, Canadian bank stocks that have increased their dividends at nearly 10% CAGR over the past 40 plus years fit this profile very well. Remain Overweight the bank group.

Revisit Capital Markets Impact of S&P Downgrade of Canada from AAA in 1992

• If we look at the S&P downgrade of Canada's credit rating in 1992 from AAA to AA+, we see a relatively modest response post the announcement (Exhibit 5). It appears the market discounted the downgrade one month prior as the TSX declined 8%, slightly less than the 9% decline for the Bank Index. The S&P 500 declined approximately 4% one month prior with TSX underperforming by 4%. The bond market also was very active one month prior with 10-year Canada bond yields spiking 66 bps and 47 bps relative to US 10-year Treasuries. Canada bond yields regained 42 bps of the spread one month post the downgrade.

• Canadian bank stocks did underperform the market by 7% one year post the downgrade but we believe this was impacted by the banks' large concentrated commercial real estate exposure to companies such as O&Y and projects such as Canary Wharf and low level of earnings (Exhibit 9).

• So it seems the market impact under a split rating was moderate and it was almost fully discounted by the time of the announcement. However, when Moody's downgraded Canada in June of 1994, the bond market reacted quite sharply in the three months prior to the downgrade, with 10-year bond yields spiking 163 bps and the spread with U.S. bonds widening 83 bps. Interesting that the peak Canada-U.S. bond spread was actually 269 bps in October 1990, two years before the first rating downgrade by S&P (Exhibits 12, 13)

• The banks declined 10% in a three-month period prior to Moody's downgrade versus the TSX declining 2% with the banks underperforming by 8%. Again, we believe that the bank underperformance was heavily influenced by earnings declines driven by the large loan losses it was booking on its commercial real estate portfolios.

Canadian Bank Credit Ratings – Downgrades/Upgrades

• S&P downgraded (Exhibit 7) two major Canadian banks in 1992: TD and RY. S&P downgraded TD from AA+ to AA on March 9, 1992, seven months before it downgraded Canada on October 14, 1992. RY's credit rating was downgraded from AA to AA- on October 26, 1992, less than two weeks after Canada was downgraded. The RY downgrade brought RY to AA-, in line with BMO's, BNS's, and CM's credit ratings, which were unchanged. NA's rating was unchanged at A.

• Further Canadian bank credit rating downgrades began in 1999 with both TD and BNS being downgraded, followed in 2002 by a downgrade (telco & cable exposure) for CM and a further TD downgrade. The TD and CM downgrades were despite Canada's upgrade back to AAA from AA+ on July 29, 2002.

• S&P did however upgrade BNS in 2004 to AA- and TD in 2007 to AA-. The last Canadian bank to be downgraded was BMO in 2007 to A+ from AA-.

• RY's share price relative to the bank group underperformed 13% in the year prior to its downgrade but outperformed for the most part after. TD's share price underperformed 16% in the year prior to the downgrade but outperformed after the announcement.

U.S. Banks Vulnerable – BAC, C

• The Canadian banks' credit rating are currently high relative to global peers as highlighted in Exhibit 4, and we would expect Canadian banks to fare relatively well on the rating front through Financial Crisis II. The five major U.S. banks are listed, with Bank of America and Citibank particularly vulnerable to the U.S. downgrade, both rated A with negative outlook. The market certainly appears to be discounting a downgrade and or at least some major concerns about balance sheet risk. BAC share price is down 51% year-to-date with Citibank down 41%.

11 May 2011

RBC Seeking Buyers for US Retail Banking Operations?

The Wall Street Journal, Robin Sidel & Caroline Van Hasselt, 11 May 2011

For sale: lots of bad loans, 430 bank branches in many second-tier cities and a tendency to lose money.

That is the hard truth behind Royal Bank of Canada's effort to sell its U.S. operations known as RBC Bank. The largest Canadian lender by assets has attracted prospective bidders for the business despite RBC Bank's raft of problems. The unit is expected to fetch roughly $3 billion, according to people familiar with the situation.

"There are just not a lot of banks out there to buy," said one person familiar with the process.

Tanis Robinson, a spokeswoman for RBC, declined to comment on the auction process or the bank's performance.

A sale of RBC Bank would represent a retreat from its decade-long goal to lash together a significant U.S. banking presence. On Wednesday, U.K. lender HSBC Holdings PLC is expected to unveil a strategy that also could include retrenching from certain markets such as the U.S., where it has 470 branches, some analysts said.

At the same time, RBC's rivals are charging into the U.S. market, taking advantage of low valuations in the wake of the financial crisis. The big Canadian lenders all have posted solid earnings growth since the financial crisis, and none required a taxpayer-funded bailout, as did some U.S. banks.

Bank of Montreal recently agreed to buy Marshall & Ilsley Corp., a lender in the U.S. Midwest, for roughly $4 billion. Toronto-Dominion Bank, which now has more branches in the U.S. than in Canada, recently bought auto lender Chrysler Financial Corp.

The advances and retreats have resulted in a string of deals in recent months that foreshadow more consolidation among regional and community banks. Such banks often don't have the resources to keep up with stronger banks and a raft of new regulatory requirements.

Like other regional banks, RBC Bank was hard hit by borrowers who defaulted on commercial and real-estate loans during the financial crisis. But the struggles of RBC Bank, which as a stand-alone business would rank as the 23rd largest bank by assets in the U.S. out of more than 7,600, stand out.

"Everything that could wrong did go wrong for a very weak franchise to start with," said Peter Routledge, an analyst at National Bank Financial in Toronto.

In the first quarter, RBC Bank reported that nonperforming loans, or those in which the borrower has fallen behind, represented 6.8% of total assets. BB&T Corp., which operates in overlapping markets, had a nonperforming asset ratio of 2.56%. Though the Canadian bank's international unit accounted for 8.3% of the parent company's total first-quarter revenue, the U.S. operations have lost money for four years.

Raleigh, N.C.-based RBC, which has $27 billion in assets spread across six Southeast states, first moved into the U.S. retail banking market in 2001 when it paid $2.3 billion for Centura Banks Inc., a regional lender based in Rocky Mount, N.C., that had $11.5 billion in assets and 241 branches.

That was followed by a string of smaller acquisitions in the Southeast, capped by a $1.6 billion purchase of Alabama National Bancorp in 2008, just as the housing market was starting to slump.

RBC Bank's acquisitions left the bank with a piecemeal branch network that doesn't have a dominant presence in big cities.

The bank is ranked fourth in the metropolitan statistical area, or MSA, that includes its Raleigh headquarters, with a 9.79% share of deposits, according to the Federal Deposit Insurance Corp. RBC Bank ranks fifth in North Carolina, where it has its largest presence, with a deposit market share of 4.31%, according to FDIC data.

RBC didn't fully integrate the U.S. operations after making the acquisitions, said analysts and bankers familiar with the matter. The Canadian parent, which has a reputation of strong risk management, kept a hands-off approach, letting local management handle the business, they said. RBC declined to comment.

RBC is well aware of the problems. In 2009, the corporate parent took a 1 billion Canadian dollar ($1.04 billion) write-down on the business and since then has tried to revamp the operations by cutting costs, consolidating branches and offering new financial products to customers.

"Returning this business to profitability is the key priority and once there, we'll be in a better position to determine the strategy of this business going forward," said Janice R. Fukakusa, RBC's chief administrative officer and chief financial officer, in a presentation to analysts in February.

Now, it appears the bank won't wait to fix it before selling the U.S. operations. On Tuesday, Standard & Poor's Ratings Services downgraded RBC's U.S. bank a notch to triple-B from single-A-minus. S&P said it believes RBC has "altered its long-term strategic plans for the company" and it doesn't believe the bank will be a key holding in the long term.

Analysts said the most logical buyer is BB&T, which is based in Winston-Salem, N.C. A BB&T spokeswoman declined to comment.

Scotia Capital, 11 April 2011

• Market speculation on the fate of RY's U.S. retail business has increased following a Bloomberg News report yesterday that RY is seeking buyers for its U.S. retail banking operations with JPMorgan Chase advising them on the potential sale of the business unit.

• The sale of RY's U.S. retail banking operations at this time would certainly extricate the bank on a strategic and operational basis from the U.S. dilemma. However, would it maximize shareholder value vs. participating in a U.S. retail banking recovery? This is a very difficult question to answer as it is fraught with uncertainty including sale price and future performance.

• We believe RY has been very conflicted with respect to its U.S. retail banking strategy for some time with financial performance dismal aided by the untimely purchase of Alabama National. Regardless of the decision, the U.S. has upside via an immediate sale or a grinding improvement in operations aided by a recovery in U.S. retail. The U.S. retail business with estimated equity capital of $4 billion represents 11% of BV and 5% of market cap.

• We estimate the equity capital in the U.S. at $4 billion with goodwill at $1.4 billion for tangible equity of $2.6 billion. If the bank was to receive a $1.1 billion or 5% deposit premium, the purchase price would be $3.7 billion. The purchase price may also be subject to the performance of the loan portfolio. We believe a deposit premium of 5% is reasonable, as BMO paid a 5.3% deposit premium for M&I or 10% on footprint (Wisconsin) deposits.

• A sale price of $3.7 billion would result in an estimated $300 million or $0.20 per share writedown but will recapture $1.1 billion in goodwill from a capital perspective. We estimate that an immediate sale would boost capital ratios by over 100 bps. In terms of an earnings impact, we estimate a $0.20 per share per annum pick up.

• Many other scenarios are possible including conducting a grinding turnaround and improving management operating capabilities in the U.S. as well as the possibility of taking equity in another U.S. bank as opposed to cash.

• We expect the RY situation in the U.S. to improve whether by exiting with early sale or grinding through the recovery.

• In our view, U.S. retail is not transformational for RY and it receives probably more attention than it deserves. We believe the key to RY remains Canadian Banking, Wealth Management, and RBC Capital Markets. However, it's hard to see much downside overall with respect to the U.S. operations; it’s all about harvesting the upside.

• Maintain 1-Sector Outperform.
BMO Capital Markets, 1 April 2011

Within the financials, our sector strategy modestly favours insurers over the banks. Both Scotiabank and Canadian Western Bank have been downgraded to Market Perform based on the good relative performance of the shares over the last year.

Scotiabank’s capital ratios under Basel III remain below industry average, although the bank does have different alternatives to boost capital ratios. Nonetheless, we believe that there are a large number of potential acquisitions (Latin America & Asia) and that given the bank’s relatively modest Basel III ratios, new acquisition activity will need to be funded with equity.

Canadian Western Bank shares are up 40% over the last 12 months, handily beating the bank group, which rose 13% over the same time period. Given its growth opportunities and proven management, we believe a premium valuation is warranted; however, even with this premium valuation, our forecasted return on the shares is diminished. Part of our weight in Scotiabank and Canadian Western Bank has been shifted into Royal Bank and National Bank, with the remainder funding an increase in oil and gas exposure.

09 March 2011

Review of Banks' Q1 2011 Earnings

Scotia Capital, 9 March 2011

Bank First Quarter Earnings – Recovery Jump Starts – Blow-Out

• Canadian banks produced a blow-out quarter, jump starting the earnings recovery cycle after 18 months of grinding through a credit overhang and a low growth economic recovery. First quarter earnings increased 18% YOY and 23% sequentially, much higher than expected. RY produced the largest beat (see Exhibit 2) followed by TD, CM, NA, BNS, BMO, and CWB.

• RY’s beat was impressive at 26%, followed by TD, CM, and NA at 13%, 12%, and 10%, respectively. BMO and BNS’ beats were very modest at 2% and 3%, respectively.

• The bank group’s profitability was impressive with return on equity of 19.0% and RRWA of 2.53%. ROE was the highest level since Q3/08 on high capital levels with RRWA a record. TD led the group with RRWA of 3.06% followed by CM and RY at 2.89% and 2.79%, respectively.

• Retail banking earnings remained very strong as a stable net interest margin and solid volume growth and controlled expenses continued to drive earnings. Wealth management earnings growth accelerated materially as higher asset levels and market activity provided very positive operating leverage. Wholesale earnings also rebounded due to high level of underwriting and advisory fees with trading revenue a significant rebound from the weak last half of 2010.

• Trading revenue rebounded to $2.5 billion in the first quarter, significantly off lows of $1.2 billion and $2.0 billion in the third and fourth quarter of 2010, respectively, but below the first quarter 2010 level of $2.8 billion, and well below the record of $3.5 billion in Q1/09.

• Credit trends remained positive with lower impaired loan formations and lower loan loss provisions, although banks do not have the same leverage to declining loan loss provisions as in past cycles.

• Loan loss provisions declined to $1.5 billion or 0.46% of loans from $1.6 billion or 0.50% of loans in the previous quarter and $2.1 billion or 0.68% of loans a year earlier.

• TD and BNS both increased their common dividends this quarter 8% and 6%, respectively, thus dividend growth mode has returned. This follows increases by CWB, NA, and LB of 18%, 6.5%, and 8%, respectively, in the previous quarter. We expect RY and perhaps CM to increase their dividend in 2011 with further increases likely from CWB, NA, and LB. The bank group's dividend payout ratio on our 2011 earnings estimate is currently 43% with the bank groups target payout ratio generally in the 40% to 50% range with BMO's high-end 55% and TD's high-end 45%. We now have had two quarters of back-to-back dividend increases after two years of treading water.

• The banks’ capital levels remained strong with a Tier 1 ratio of 13.3% versus 13.1% in the previous quarter and TCE/RWA of 10.2% versus 10.1% in the previous quarter.

Share Price Targets – Valuation – Recommendations

• Our one-year share price targets for BMO, BNS, NA, and CWB were unchanged at $68,$72, $90, and $38, respectively. We did, however, increase our one-year share price target for TD to $105 from $100, CM to $105 from $100, and RY to $75 from $65.

• Bank valuations, we believe, remain attractive with a dividend yield of 3.6%, which is 1.8x standard deviations above its historical mean versus 10-year bond yields and 1.8x standard deviations above the mean versus AA Corporate bond yields.

• Bank P/E multiples are also attractive at 14.1x, 12.1x, and 10.9x trailing, 2011E and 2012E, respectively.

• We expect dividend increases to continue to be a catalyst for bank share price preciation. We believe that bank risk premiums will decline materially below historical levels as the industry returns to some normalcy post Basel III. We expect P/E multiples to expand to the 15x to 16x level. Our 12-month target prices are based on a 14.8x P/E multiple on our 2011 earnings estimates for Total ROR of 26%.

• We reiterate our Overweight Recommendation for the bank group. We reiterate our 1-SO rating on TD, RY, and CM. We maintain our 2-SP rating on BNS, NA, CWB, LB, and BMO.

• We in general prefer banks that are able to generate capital the fastest (i.e., the highest) RRWA, which are TD, CM, and RY.

08 March 2011

Scotiabank Q1 2011 Earnings

The Wall Street Journal, Caroline Van Hasselt, 8 March 2011

Bank of Nova Scotia capped off a solid first-quarter earnings season for Canada's biggest banks by posting a record first-quarter profit after sharply reducing credit-loss provisions in its domestic and international banking units.

Scotiabank, as it is known, also raised its quarterly dividend by 6%, becoming the second of the five big banks to increase its payout since the 2008 global financial crisis.

Net income for the quarter ended Jan. 31 rose to a record C$1.17 billion, or C$1.07 a share, from C$988 million, or 91 Canadian cents, a year earlier, the bank said. Operating earnings of C$1.09 a share surpassed the Thomson Reuters mean estimate of C$1.06 and were up from 93 Canadian cents a year earlier.

Revenue rose 5% to C$4.2 billion, with acquisitions accounting for almost half of the increase.

Canada's big lenders have benefited from the country's robust housing market and consumers' willingness to borrow and spend against a backdrop of continued economic growth, job creation and low interest rates. They have boosted deposits and are benefiting from strong retail franchises.

"All in all, it was a great quarter for the Canadian banks," said John Kinsey, a portfolio manager at Caldwell Securities Ltd. in Toronto, which manages about C$1 billion in assets.

Like its peers, Scotiabank, the country's third-largest bank in assets, benefited from its strong Canadian franchise. Improved credit quality in emerging economies, particularly in the Asia-Pacific and Latin American regions where it is active, enabled the bank to reduce loan-loss provisions. But the bank also benefited from a lower-than-expected tax rate and racked up higher expenses from acquisitions, higher stock-based compensation and pension costs.

"Scotia marches to the beat of a different drummer than the others," Mr. Kinsey said. "They have a lot of international business. So, some of their business is higher risk, but perhaps higher reward. But both the Canadian and international personal banking did very well for them."

Scotiabank's provision for credit losses declined sharply to C$269 million from C$371 million a year earlier, reflecting an improved global economy and higher recoveries from U.S. loans, the bank said. In Canada, provisions fell 10%, while in international, provisions declined 65%, mostly from commercial portfolios in the Caribbean and Peru and lower retail provisions in Mexico from a one-time recovery under the Mexican government's mortgage support program.

Scotiabank has operations in 50 countries, including the Cayman Islands, Jamaica, Chile, Mexico, Peru, Puerto Rico and Thailand. In the quarter, it acquired Royal Bank of Scotland Group's's corporate and commercial banking business in Chile and agreed to buy Nuevo Banco Comercial, Uruguay's fourth-largest private bank in loans and deposits, and Pronto!, the country's third-largest consumer finance company.

In Canada, Scotiabank's earnings rose 14% to C$496 million, primarily from 9% growth in residential mortgages and 2% increase in other consumer loans. Average deposits grew 3%.

In international, earnings rose 35% to C$342 million, reflecting retail and commercial loan growth and the contributions from recent acquisitions in Puerto Rico and Thailand.

The bank's newly created global wealth-management division earned C$216 million, up 18%, on increased sales of mutual funds and financial products.

Net income at Scotia Capital fell 19% to C$308 million, reflecting more normalized market conditions, the bank said. The investment bank garnered higher capital-markets trading revenue but non-trading fee and spread revenues were off marginally, said National Bank Financial analyst Peter Routledge.

Return on equity was 18.7% versus 17.4%.

Scotiabank increased its dividend to 52 Canadian cents a share from 49 Canadian cents, payable on April 27 to holders of shares of record on April 5. The country's second-largest lender, Toronto-Dominion Bank, raised its dividend last week.

04 March 2011

RBC Q1 2011 Earnings

TD Securities, 4 March 2011

Investment Thesis. After a series of muddled quarters, Royal came through with a solid well rounded result. To us, this quarter is a truer reflection of what we believe to be the underlying earnings power of the platform. With better evidence in hand, we increased our operating outlook coming out of the quarter.

We continue to view Royal as a solid banking franchise and we expect the broader sentiment around the stock to improve. We look for earnings power to continue to develop favourably through the year and into 2012. On our revised outlook and Target Price we see reasonable upside from yesterday’s close. However, with the name now up over 12% over the past couple of weeks, the likely returns are not quite as generous. We see roughly 15% Total Return over the coming 12-months. We reiterate our Buy rating.

Reaction to Q1/11 Results. The market responded very positively to a solid report that appears to have comfortably exceeded even raised expectations heading into yesterday. In a strong day for Canadian bank stocks, Royal was up roughly 5.25%.

Investors seemed to be impressed with the surprisingly good strength across much of the bank’s businesses, particularly the Domestic P&C franchise which delivered good volumes, improved margins, lower PCLs and better credit expense control after an up-tick in Q4.

Capital Markets had a very strong quarter, ahead of our estimates and one of the better quarters over the past few years (although off peak levels). This was used to somewhat discount the strength of the quarter, and management did suggest the result was at the high-end of the likely range for the year. We continue to view the Wholesale business as a C$400-C$500 million per quarter (with some growth) contribution.

The biggest surprise came in U.S./International. To us, the C$157 million loss in Q4 represented a material understatement of the earnings power. In our last note, we considered the significant potential for the segment to recover and contribute meaningfully. That happened much more quickly than anticipated as the segment moved to a small profit (adjusting for non-core items) on the quarter. However, we would not sound the all clear at this point, but we have greater comfort that the segment will shift from a material drag to steady contributor by late 2011 and early 2012.

There was some resistance to extrapolating the measure of one quarter. However, we believe the past few quarters were the anomaly and taking what we feel is a reasonably conservative outlook, we remain comfortable with the earnings power of the platform.

In terms of dividends, we continue to expect the bank to raise its dividend in Q3/11. We expect the bank to raise the dividend by C$0.03 per share to C$0.53 (up from our previous estimate of C$0.52) or by 6%, reflecting an expected payout ratio of 43.8% versus the bank’s stated target range of 40-50%.

Valuation. The stock has recovered gradually over the past few months, capped with yesterday’s strong upward move. With what we expect will be a healthy round of upward revisions to estimates, earnings have caught back up with the share price. At these levels, we view valuations as only modestly attractive, with the name trading at 12.1x our revised forward earnings or 2.4x Q1/11 reported book value.

Outlook We had previously assumed that the bank would generate better earnings through the back half of 2011 as the U.S. drag subsided and the businesses enjoyed core growth. The drag reversed more quickly than we anticipated and the core businesses are performing better than we had modeled. As a result, our estimates are up for both 2011 and 2012 to C$4.80 from C$4.25 and to C$5.25 from C$4.75 respectively. Our model still assumes the U.S. sees losses over the balance of the year, and we believe the contribution from Wholesale will be lower. However, the outlook still suggests to us a reasonable run-rate on the order of C$1.25+/- per quarter in H2/11.

03 March 2011

TD Bank Q1 2011 Earnings

Financial Times, Bernard Simon, 3 March 2011

Canada’s two biggest financial institutions, Royal Bank of Canada and Toronto-Dominion, reported stronger-than-expected quarterly profits on Thursday, with TD lifting its dividend for the first time since the onset of the financial crisis.

RBC’s earnings hit a record C$1.84bn (US$1.89bn) in the three months to January 31, up 23 per cent from a year earlier. TD lifted earnings by 19 per cent to C$1.54bn, including record profits at its US and Canadian retail operations.

“It was a great quarter for both banks,” said Peter Routledge, analyst at National Bank Financial. Both benefited from lower loan loss provisions as a result of improved economic conditions.

However, Mr Routledge said that RBC may have felt less confident about lifting its dividend because of its heavier dependence on volatile capital markets business.

RBC lost its Moody’s triple-A credit rating last December because of its growing capital markets exposure.

TD is one of only five banks worldwide that still boasts a triple-A rating. Ed Clark, chief executive, forecast “a very good year” ahead, citing “TD’s strong capital position, ongoing investments in our franchises and the proven strength of our retail-focused strategy.”

The Canadian banks came through the financial crisis in far healthier condition than many of their US and European counterparts thanks to a more conservative lending culture, a resilient housing market and robust regulation.

All maintained their dividends. By contrast, almost every big US bank – Goldman Sachs is one notable exception – slashed its pay-out.

Mr Routledge expects that Bank of Nova Scotia, the number-three bank, will also raise its dividend when it reports next week.

With capital ratios well above regulatory minimums, the Canadian institutions have recently embarked on an acquisition spree.

TD agreed to pay US$6.3bn in cash last December for Chrysler Financial, the US-based vehicle finance group. The deal was part of a drive to expand the services offered through its extensive retail network, now the seventh biggest in the US.

Bank of Montreal signed a deal to buy the Wisconsin-based lender Marshall & Ilsley for $4.1bn, more than doubling its US presence. RBC’s expansion strategy is centred on global capital markets and wealth management.

Gordon Nixon, RBC’s chief executive, told the annual meeting on Thursday that the bank was committed to maintaining a balance between its retail and capital markets business of about 75-25 per cent.

While expressing confidence in the bank’s prospects, Mr Nixon said that “one of the biggest risks we face in Canada is that we push regulation so far ahead of other countries, we end up not only with an uneven playing field but with a real cost to Canadians in the form of compromised ability to grow and compete.”
Financial Times, Bernard Simon, 3 March 2011

Half-a-dozen intruders recently burst into the TD Bank branch in King of Prussia, Pennsylvania. They were not robbers but a group of bank employees, wearing green hats, waving green balloons and carrying gifts to welcome its new brokerage specialist.

The celebration marked another small step in an ambitious plan by Canada’s Toronto-Dominion Bank to make its mark in US retail banking.

TD Bank in the US is mainly the product of two big acquisitions – Maine-based Banknorth in 2005 and Commerce Bank, based in New Jersey, three years later – that have given the Canadians a presence in every east coast state except Georgia.

TD now operates the seventh-biggest retail bank in the US. With 1,300 branches, it has more outlets south of the border than in Canada.

The Canadians are trying to nudge their US subsidiary in a new direction, which is where the newly arrived brokerage specialist in King of Prussia comes in.

Like many other second-tier US banks, Banknorth and Commerce Bank traditionally focused on gathering cheap deposits through exceptional customer service, then recycling the funds into business loans.

They left other forms of lending mostly to specialised institutions, such as mortgage lenders and carmakers’ captive vehicle-finance companies.

TD wants to shift the emphasis by pushing a wider variety of loans, such as mortgages and car loans, as well as other services such as insurance and portfolio management.

“We are retailers that happen to be in banking,” says Bharat Masrani, head of TD’s US operations.

TD’s US rivals have also tried to move into cross-selling but in many cases with less-than-stellar success. Citigroup, Washington Mutual and Wachovia are among those that strayed from their core retail banking business with disastrous results, particularly amid the subprime mortgage crisis.

Turning branch managers and tellers into hard-nosed salespeople requires a sharp shift in culture, with potentially unpredictable results. As Mr Masrani acknowledges: “Selling is not always an easy conversation. You have to make sure that you win the hearts and minds of your people.”

The Canadians have several advantages. Commerce Bank was known as a maverick even before the acquisition. Using the slogan “America’s Most Convenient Bank”, its “stores” were open longer than most other banks, including Sundays. A Walmart-style greeter stood at the doors.

Toronto-Dominion already has a strong presence in the businesses that it wants its US branches to promote. The new brokerage specialist at the King of Prussia branch works for TD Ameritrade, one of the US’s biggest online brokers, which is 39 per cent owned by Toronto-Dominion.

TD also took a big step into vehicle financing last December, buying Chrysler Financial for $6.3bn.

“They’re sitting on two very powerful franchises on both sides of the border,” says Peter Routledge, analyst at National Bank Financial in Toronto.

The Canadians are confident that they can succeed where others have failed by imbuing TD Bank’s culture with some Canadian politeness, reinforced by rigorous training and a panoply of incentives and rewards.

TD has sought to instil a more sales-oriented culture by building on Commerce Bank’s “WOW!” system, which encourages employees “to surprise and delight” customers and each other. The celebration in King of Prussia was mounted by what the bank calls a WOW Patrol – a group of volunteers who commandeer a WOW van to surprise a colleague.

Mike Carbone, who heads TD’s operations in the Philadelphia area, says: “The more products and services you have with any one client, the less likely they are to leave you.”.

02 March 2011

BMO Q1 2011 Earnings

Scotia Capital, 2 March 2011

• BMO cash operating EPS increased 17% to $1.32, in line. Earnings were driven by very solid results with P&C Canada earnings increasing 10%, Private Client increasing 38% (21% excluding insurance), and BMO Capital Markets increasing 21% with P&C the U.S. earnings weak, declining 15%. Trading revenue was the fourth best quarter ever.

• Underlying earnings were stronger than headlines by an estimated $0.05 per share due mainly to a prior period tax charge in U.S. business segment of BMO Capital Markets.

• Operating ROE: 15.9%, RRWA: 1.81%, Tier 1 Capital: 13.0%.


• The bank indicated that it anticipates a common equity issue of less than $400 million (20 bp capital) prior to close for M&I, and estimated its Tier 1 Common under Basel III at 6.4%.

• BMO's dividend payout ratio is 53% on 2011E EPS versus the target range of 45%-55%; thus, a dividend increase in 2011 is unlikely.


• Increasing our 2011E and 2012E EPS to $5.30 and $5.90 from $5.20 and $5.75, respectively, due to solid operating results. One-year target is unchanged at $68.

• We maintain our 2-Sector Perform rating.

25 February 2011

CIBC Q1 2011 Earnings

Scotia Capital, 25 February 2011

• CIBC (CM) cash operating EPS increased 19% YOY to $1.97, significantly above expectations due to very strong wholesale earnings, higher retail, and lower LLPs. Wholescale earnings were slightly higher than the strong Q1/10 and almost triple Q4/10. Underwriting and advisory fees were up significantly with trading revenue solid.

• Operating ROE: 24.0%, RRWA: 2.89%, Tier 1 Capital: 14.3%.


• The bank indicated that its Basel III Common Equity Tier 1 ratio would be just in excess of the 7% 2019 minimum capital requirements. CM's dividend payout ratio on our 2011E EPS is 45%, versus the target range of 40%-50%.


• We are increasing our 2011E and 2012E EPS to $7.70 and $8.50 from $7.00 and $7.80, respectively, due to recovery in wholesale earnings and improving retail. Our one-year share price target is unchanged at $100.

• We reiterate our 1-Sector Outperform rating due to CM's high profitability (RRWA) and strong operating leverage from the stability in the bank's wholesale and retail operating platform.

National Bank Q1 2011 Earnings

Scotia Capital, 25 February 2011

• NA cash operating earnings increased 16% YOY to $1.80 per share above expectations.

• Operating ROE: 19.0%, RRWA: 2.37% Tier 1 Capital: 14.6%.


• Earnings were driven by strong Retail and Wealth Management earnings and higher security gains. Volume growth was strong at 7% with revenue growth of 7% and expenses increasing 4% for positive operating leverage of 3%.

• Wealth Management earnings increased 91% with Retail earnings increasing 15%, offsetting a 5% decline in Financial Markets earnings.

• The bank disclosed its Basel III Tier 1 Common ratio at 8.1%, exceeding minimum 2019 requirement of 7%, extremely positive.

• NA dividend payout ratio of 38% on our 2011 earnings estimate is below its target range of 40%-50%.


• We are increasing our 2011 and 2012 earnings estimates to $7.00 and $7.70 from $6.80 and $7.50 due to strong earnings from wealth and improving retail. One-year target is unchanged at $90. We maintain our 1-SO rating.

18 February 2011

Preview of Banks' Q1 2011 Earnings

Scotia Capital, 18 February 2011

Banks Begin Reporting February 24

• Banks begin reporting first quarter earnings with Canadian Imperial Bank of Commerce (CM) and National Bank (NA) on February 24, followed by Bank of Montreal (BMO) on March 1, Canadian Western (CWB) (after market close) on March 2, Royal Bank (RY) and Toronto-Dominion (TD) on March 3, Bank of Nova Scotia (BNS) on March 8, and Laurentian Bank (LB) closing out reporting on March 9.

• Scotia Capital’s earnings estimates are highlighted in Exhibit 1, consensus earnings estimates in Exhibit 2, and conference call information in Exhibit 5.

First Quarter Earnings – Recovery Cycle Begins – Growth 3% YOY

• We expect first quarter operating earnings to increase 3% year over year (YOY) and 8% sequentially (more normalized expense levels). We expect wholesale banking earnings to be solid on a sequential basis but well below the exceptionally strong earnings from a year earlier. This quarter, wholesale earnings are expected to be driven by strong underwriting and advisory revenue partially offsetting weak fixed income trading revenue. Retail banking earnings growth is expected to begin to slow but to remain resilient with double-digit growth. Wealth management earnings are expected to continue to show strong momentum, the strongest of any of the business lines. International for BNS and TD is expected to be strong, with continued weakness at RY and BMO.

• Earnings growth YOY is expected to be led by BMO, BNS, and NA at 15%, 13%, and 8%, respectively. TD and RY have very challenging comps with earnings declines of 3% and 5% expected, respectively. CM, LB, and CWB earnings growth is expected to be modest at 3%, 3%, and 0%, respectively.

• Bank earnings recovery/growth has been a grind this cycle thus far as earnings growth in 2010 was anaemic due to the countercyclical high wholesale earnings in 2009. In fiscal 2010, TD, and NA have had the strongest earnings recovery at plus 1% and 0% versus peak earnings, with BNS 3% below peak. CM, RY, and BMO are significantly below peak earnings at 27%, 17%, and 16%, respectively, due mainly to lower wholesale earnings and perhaps capital allocation issues.

• We believe dividend increases are again possible this quarter, following up on dividend increases by NA, LB, and CWB last quarter. TD is the most obvious candidate for a dividend increase, followed by BNS. We expect TD to increase its annual dividend 6.6% to $2.60 per share this quarter. BNS, although less likely in our view, could increase its annual dividend 6.1% to $2.08 per share. Further dividend increases by NA, LB, and CWB are also possible mid-year, if not very large ones in the fourth quarter. The banks' payout ratios and quarterly dividend trends are highlighted in Exhibit 6.

• The most significant earnings variable this quarter remains the net interest margin, particularly the retail net interest margin. Stability in the margin is critical to drive revenue growth, especially in light of the countercyclical slowdown expected in consumer and mortgage loan growth. We expect a stable to expanding margin based mainly on the expectation of higher interest rates, which we believe will fully offset competitive pressures driven by slowing volume growth. We expect the oligopoly pricing structure to hold.

• The banks’ overall net interest margin has many cross-currents with average BA rates up 11 bp sequentially; however, the yield curve actually steepened modestly sequentially, although still substantially flatter than a year earlier. The positive impact of higher short-term interest rates, we believe, is still filtering through, helping offset competitive pricing pressures. The residential mortgage GIC spread (posted) continued to decline in the quarter in both the one and five-year term. The caveat is that drawer rates have become more of a factor in the past 10 years; nevertheless, this remains a concern.

• Canadian banks' Investment Banking Division/Wholesale earnings in Q1/11 are expected to increase 10% quarter over quarter (QOQ) but decline 25% YOY based mainly on lower trading revenue. Trading revenue in Q1/11 is expected to decline 8% QOQ and decline 31% YOY to $1.9 billion due mainly to weaker fixed income trading results. Underwriting and advisory revenue is expected to increase slightly YOY and 4% sequentially.

• Credit trends remain positive, with gross impaired loan formations declining. Loan loss

provisions are expected to continue to decline with improvements moderating. We expect a modest 4% sequential decline in provisions.

• International earnings are expected to improve, aided by the lower drag from the high C$, especially for BNS and TD with their solid operating earnings base. The C$ has appreciated 5% YOY in Q1/11 vs. 4% YOY in Q4/10 and a peak of 21% YOY in Q2/10. The C$ appreciation QOQ is only 3% and we expect the C$ drag to be de minimis going forward.

• Quarterly earnings variables (see Exhibits 7, 8, and 9) are relatively stable for the bank group. Positives are steeper yield curve, higher prime savings rate spread, higher fixed income underwriting, higher equity underwriting, equity trading volume, and higher mutual fund assets. Negatives are higher bond yields, slightly lower wholesale spreads, substantially lower posted mortgage GIC spreads, higher short-term funding costs (BAs), and lower M&A closed.

• Bank profitability this quarter is expected to remain solid, although with a lower return on equity at 16.4% (see Exhibit 12) due to continued wholesale banking weakness, net interest margin pressure, and deleveraging. However, on a RRWA basis, profitability is expected to be near record highs at 2.24% (see Exhibit 13).

• Bank earnings beat Street expectations for most of fiscal 2009 and the first quarter of 2010. However, banks missed earnings expectations the past three quarters (Q2/10, Q3/10, Q4/10). Earnings expectations have now been toned down, especially with respect to capital market or wholesale earnings, thus we would expect banks to meet expectations with some beat possibilities as we progress through 2011.

• The one trend that remains solidly intact is balance sheets continuing to strengthen. We expect capital levels to continue to build based on internally generated capital and management of risk-weighted assets. Balance sheet strength and solid earnings are expected to position the bank group for further dividend increases.

• Bank disclosure on the impact of Basel III is critical as we move through 2011. We are hopeful that banks begin to release pro forma Tier 1 common calculations or a part thereof as early as this quarter, which will provide the necessary clarity that the market is looking for. “Clarity on Capital” is one of the themes we have cited for 2011. This is in addition to the other 2011 themes: “Return to Operating Normalcy,” “Dividend Increases,” “Moderation of Fears about Consumer Debt and House Prices” (see report titled Bank Index Poised to Hit New All-Time High).

Valuations Attractive – High Dividend Yield

• Bank valuations remain very attractive with a dividend yield of 3.6%, which is 102% of the 10-year bond yield and 158% of the TSX dividend yield versus historical means of 59% and 145%, respectively. The bank earnings yield relative to corporate bond yields is 150% versus the historical mean of 131%.

• Bank dividend yield relative to Pipes and Utilities and REITs are also very attractive at 0.4 and 1.4 standard deviations above the historical mean, respectively.

• Bank P/E multiples, we believe, are attractive at 12.7x and 11.3x our 2011 and 2012 earnings estimates and are poised for expansion. Basel III goal is to lower systemic risk, which we believe will ultimately result in a lower risk premium or higher P/E multiples. The resumption of dividend growth is expected to be a further catalyst for higher P/E multiples.

Reiterate Overweight – Bank Index Poised to Hit New All-Time High

• Bank share price performance continues to be resilient despite the hot resource market, with the bank group outperforming early in 2011, which is a very positive sign. January mutual fund data also is bullish for banks stocks as Fixed Income inflows plummeted and banks, we believe, are the premier dividend/income play in the equity markets in Canada.

• We recently boosted our bank share price targets 8% for a total expected return of 22% over the next 12 months. Stock splits may soon be on the horizon. Our new target prices are based on a target P/E multiple of 15.2x our 2011 earnings estimates versus our previous target of 13.9x. Our new target multiple is similar to the highs reached in 2006, which we considered late cycle. We believe we are early cycle in 2011 and earnings growth visibility will improve in 2011.

• Thus, in our view, the beginning of a great decade for bank share price performance. The theme for the decade is expected to be “Generation of Surplus Capital, Capital Deployment, and Share Repurchases.” Share repurchases have never occurred of any consequence in Canadian banking.

• Canadian banks did not repurchase shares between 1967 and 1994. Share repurchases from 1995 to 2010 were insignificant, averaging only 1.0% of shares outstanding, with the highest year being 2.3% of shares outstanding. Bank share repurchases hype over the past 10 years was not matched by actual activity. Thus, the market did not differentiate much between individual bank capital levels or capital generation ability (RRWA). Capital deployment with a focus on share repurchases and RRWA (new profitability paradigm) are expected to be the themes of the next decade, supporting the expected continuation of the bank group’s long term outperformance.

• Bank stocks have substantially outperformed the market since 1967, we believe, because the market underestimates the sustainable earnings power and growth of the sector (barriers to entry and strategic industry) and is slow to attribute an appropriate multiple to reflect the fundamentals, profitability, and structural changes that have occurred in the industry. We expect long-term outperformance to continue and this could be one of the banks’ best decades for absolute and relative share price performance.

• We believe bank fundamentals are strong and valuations are attractive. We reiterate our overweight recommendation and we would have no sells in the group on an absolute return basis. TD Bank is our top pick in the sector. We have 1-Sector Outperforms on TD, CM, NA, and CWB, with 2-Sector Performs on LB, BNS, RY, and BMO.

16 February 2011

Bank Index Poised to Hit New All Time High

Scotia Capital, 16 February 2011

• The Canadian Bank index is poised to hit a new all time high surpassing the previous high reached in May 2007. The bank index hit another 52-week high yesterday and is only 3% below the all time high.

• TD, BNS, NA, and LB recently reached new all-time highs. Individual bank share price performance versus their highs seems to be correlated with earnings performance except forLB, CWB, and NA whose share price performance has lagged their earnings performance.

• Bank earnings level in 2010 was 9% below the bank group earnings peak of 2007. Bank earnings in 2011 are expected to surpass the 2007 peak by a modest 2%. Return on equity in 2011 is expected to be 16.7%, down from the record level of 23% in 2007. ROE in 2007 was driven by trough loan loss provisions, strong capital markets, high consumer and mortgage loan growth, and lower equity levels. Common equity in 2010 was $45 billion or 50% higher than 2007 levels. Consequently, Return on Risk Weighted Assets (RRWA) in 2010 was 2.12%, only slightly below 2007 level of 2.28%.

• Earnings growth for the bank group peaked in 2007 (see Exhibits 7, 8), with 2008 and 2009 representing the bottom of the cycle. Earnings recovery in 2010 was anaemic due to the countercyclical high wholesale earnings in 2009. We expect the earnings cycle recovery to gain momentum throughout 2011 (see Exhibit 8). Although earnings growth in this recovery cycle is expected to be solid but lower than most past cycles due to lower GDP growth, lower earnings leverage to the credit cycle, and countercyclical slowing of consumer and mortgage credit growth. Earnings growth is expected to remain at or above long-term rates over the next five years. RRWA for the bank group is expected to reach new highs in 2011 and 2012 of 2.32% and 2.31%, respectively (see Exhibit 20).

• The themes for 2011 are a "Return to Operating Normalcy for the Banking Industry," "Dividend Increases," "Improved Clarity on Capital Levels," and "Moderation of Fears about Consumer Debt and House Prices." Thus, the beginning of a great decade for bank share price performance, in our opinion. The theme for the decade is expected to be "Generation of Surplus Capital, Capital Deployment, and Share Repurchases." Share repurchases have never occurred of any consequence in Canadian banking.

• Canadian banks did not repurchase shares between 1967 and 1994. Share repurchases from 1995 to 2010 were insignificant averaging only 1.0% of shares outstanding with the highest year being 2.3% of shares outstanding. Bank share repurchases hype over the past 10 years was not matched by actual activity. Thus, the market did not differentiate much between individual bank capital levels or capital generation ability (RRWA). Capital deployment with a focus on share repurchases and RRWA (new profitability paradigm) are expected to be the themes of the next decade, supporting the expected continuation of the bank group's long-term outperformance.

• Bank stocks have substantially outperformed the market since 1967 (see Exhibits 4 and 12), we believe, because the market underestimates the sustainable earnings power and growth of the sector (barriers to entry and strategic industry) and is slow to attribute an appropriate multiple to reflect the fundamentals, profitability, and structural changes that have occurred in the industry. We expect long-term outperformance to continue and this could be one of the banks' best decades for absolute and relative share price performance.

• Basel III goal is to lower systemic risk, which we believe will ultimately result in a lower risk premium (see Exhibit 27) or higher P/E multiples as the quality of the ROE has improved considerably as reflected in the RRWA trend (see Exhibit 20). We also believe the market will focus more on bank dividend yields, especially given renewed expectations of dividend growth returning to the long-term rate of 10%.

• Bank dividend yields are extremely attractive relative to Government Bonds, Equities (TSX), Pipes & Utilities, and REITs (see Exhibits 23, 24, 25, and 26).

• We expect that TD and BNS will be the first major banks to increase their dividends in 2011, which should be a positive catalyst for bank stocks. NA, LB, and CWB are also likely to increase in 2011 following up on their modest increases in 2010.

• Banks are currently trading at a P/E multiple of 14.1x trailing earnings, below the 15.1x level reached in February and November of 2006 or 14.5x in February 2007.

• We are increasing our share price targets for the bank group (see Exhibit 1) with our target P/E multiple on 2011 earnings estimates increasing to 15.2x from 13.9x, which brings our target up to the 2006 peak levels. The P/E multiple in 2006 was late cycle where we believe 2011 is early cycle (see Exhibit 8).

• We are increasing our 12-month share price targets on TD and CM to $100, NA to $90, BNS to $72, BMO to $68, RY and LB to $65, and CWB to $38. Stock splits may soon be on the horizon.

• We reiterate our Overweight recommendation and we would have no sells in the group on an absolute return basis. TD Bank is our top pick in the sector. We have 1-Sector Outperforms on TD, CM, NA, and CWB with 2-Sector Performs on LB, BNS, RY, and BMO.

11 February 2011

Manulife Q4 2010 Earnings

Scotia Capital, 11 February 2011


• The incremental cost of hedging more equity market and interest rate risk of C$0.08 per share garnered a disproportionate amount of attention compared to decent underlying trends in the business and the substantial reduction in risk exposure.


• We estimate base line run-rate earnings on a normalized basis of C$1.50 per share, including incremental costs of hedging and assuming no growth in 2011; when adding growth in the business, we lower our 2011 and 2012 EPS estimates to C$1.70 and C$1.93 from C$1.82 and C$2.15, respectively. Admittedly, we had factored hedging costs of C$300-$350M and higher earnings on surplus, now reconsidered given the cost of financial leverage and increased costs of hedging.


• The MFC stock got ahead of itself, in our view, in recent months, rising 35% since early December. We are lowering our 12-month PT to C$19, based on our new blended valuation model of 10x 2011E EPS (30%) and 1.25x BVPS (70%), which considers greater earnings stability, partially offset by lower ROE expectations. We would be more constructive closer to $16

Our main takeaways from the conference call include:

• We found it interesting that there was such an intense focus on the actual costs of hedging over the next few years, and little attention to the company being substantially ahead of plan in reducing earnings sensitivity to equity markets and interest rates. Through actions taken during the quarter, MFC decreased equity market and interest rate sensitivities by 43% and 18%, respectively.

• We expect the rating agencies to respond favorably to these developments, particularly when combined with early signs of fundamental improvement in the U.S. business, although we do not expect ratings upgrades until there is more evidence of the sustainability of these improvements and a demonstration of more stable earnings trends. Ratings upgrades could occur in late 2011, in our view.

• Our base line run-rate normalized earnings estimate of C$1.50 per share is based on calculations in Exhibit 1. We have revised our 2011E and 2012E EPS based on these estimates, which we believe to be conservative given they take into account more than the direct impact of equity markets and interest rates (C$933M). As such, we begin with adjusted earnings from operations of C$692 million.

• Sales results in Q4/10 were strong among the products that MFC has targeted for growth. Sales of individual life, travel insurance, and mutual funds posted records.

• In the U.S., the company made progress in sales of individual life products excluding universal life with secondary guarantees, which rose 14% in the quarter; John Hancock Mutual Funds recorded record sales for the year, at US$9.7 billion, and total AUM ended the year at US$98 billion.

• Sales in Asia rose 56% and reflected diversification of products and distribution channels throughout Asia, particularly in Japan and Hong Kong. The bank channel is becoming an increasingly important network, and MFC is making considerable progress in expanding relationships in this system.

• In terms of earnings, the most significant progress was seen in the U.S., where earnings before the impact of investment and market related experience gains more than tripled in the insurance segment and rose 14% in the wealth management business.

• Book value per share ended the year at C$14.23, an increase of 3% from Q3/10. The MCCSR rose 15 bp to 249%. Management suggested that, despite the improvements in the risk profile of the business, the substantial capital cushion, and improved macro environment, no action to redeploy capital will be taken until future capital regulations are clear, as requirements in many jurisdictions are under review.

• We expect ROE's of 11.3% to 11.5% in 2011 and 12.4% to 12.6% in 2012.

Great-West Lifeco Q4 2010 Earnings

Scotia Capital, 11 February 2011


• GWO's Q4/10 reported EPS of C0.54 per share included non-operating items which, in total, added C$0.09 per share, resulting in adjusted EPS of C$0.45, below our estimate of C$0.48, and consensus of C$0.51. Results varied from strong (U.S.) to mixed (Canada) to weak (Europe).


• While we were not surprised by the asset impairment provision in Europe, the size (C$121 million, or C$0.13 per share) was considerable compared to overall EPS, and Canada's mixed results are worth watching as IIIP earnings appear to have leveled off. Europe is another source of risk as the investment portfolio's exposure to "PIIGS" is high relative to equity (6%).


• GWO trades at a considerable premium to its peers at 13x our 2011E EPS and 2.3x BVPS, and while earnings have proven to be quite resilient and stable, the company's investment portfolio and high financial leverage continue to warrant caution.

Q4/10 Highlights

• Reported earnings included items that we believe do not represent core run-rate income - the benefit from a tax related item of C$0.04 per share, the benefit from an adjustment to the acquisition cost of Canada Life of C$0.07 per share, and the negative impact of currency translation of C$0.02 per share. All in, we calculate adjusted EPS as C$0.45 per share.

• Sales were strong pretty much across the board, with Canada individual sales up 20%, U.S. single premium whole life insurance policy sales rising 104% (on a constant currency basis), Putnam mutual fund sales jumping 16% (on a constant currency basis), and sales in the U.K. up 57%.

• Earnings were more of a mixed bag. In Canada, adverse mortality impacted the IIIP segment, which held down total segment earnings, after adjusting for unusual items.

• In the U.S., earnings improved significantly, even after adjustments for unusual items, primarily on higher interest margins, strong equity market performance, and sales. Partially offsetting these were lower mortality charges and higher expenses.

• In Europe, earnings were negatively impacted by C$121 million related to asset impairment provisions of C$50 million and a related increase in actuarial liabilities of C$71 million. These were partially offset by excess interest margins of C$43 million and a C$24 million positive adjustment to the acquisition price of Canada Life in 2003.

• We calculate ROE (excluding AOCI) on an annualized basis of 11.0% for Q4/10.

03 February 2011

TD Bank CEO Says Capital Push Won't Impact M&A & Dividends

Bloomberg, Sean B. Pasternak, 3 February 2011

Toronto-Dominion Bank Chief Executive Officer Edmund Clark came to Wall Street this week with a simple recipe for bankers trying to avert another financial crisis: more transparency and less arrogance.

“Hubris is the biggest risk in the banking system,” Clark said in an interview at Bloomberg’s headquarters in New York. “It is the most dangerous emotion to run a financial institution.”

Clark is in a position to dispense advice. As head of Canada’s second-largest bank, he averted most of the writedowns and credit losses that led to the financial crisis in 2008. The bank is one of five lenders rated Aaa at Moody’s Investors Service and its stock gained 24 percent in the past three years, compared with a 40 percent drop in the KBW Bank Index.

Toronto-Dominion exited a structured products business in 2005, which included collateralized debt obligations, after Clark said he didn’t understand the risks associated with it. As a result, the lender recorded less than C$1 billion ($1 billion) in debt-related writedowns during the financial crisis, compared with the $1.49 trillion recorded by banks and brokers worldwide.

Canada’s banks received no government bailouts during the crisis and has been ranked the world’s soundest for three straight years by the Geneva-based World Economic Forum.

Clark warned against Canadian lenders resting on their laurels after weathering the crisis better than many U.S. or European competitors.

“The risk in Canada is we get too comfortable with how well we did,” Clark said.

Clark, 63, says he’s tried to foster transparency and openness at his Toronto-based company so that employees and executives aren’t afraid to speak up when they think the bank is heading in the wrong direction.

“You’ve got to build cultures of transparency; comfort where people say ‘Ed, I don’t agree with this. It’s a really stupid idea,’” Clark said.

He cites an example of a bank teller who posted a comment on the company’s internal message board complaining about Clark’s compensation package, which totaled C$10.4 million last year.

“This teller in one of the branches writes ‘Ed, I love you to death, but this is ridiculous how much you get paid.’ Someone sees that, then they say ‘maybe it’s alright for me to push back here.’”

He warned against banks believing “their own propaganda” and creating a culture where people don’t push back.

“I always tell my people, take the business totally seriously but don’t take yourself too seriously,” Clark said.

Clark, who holds a Doctorate in economics from Harvard University, has no plans to extend his term beyond 2013, when he will retire. He was appointed CEO in 2002.

“I look at myself as being lucky to get a chance, for 10 years or whatever, to run a 155-year-old institution in Canada, have a shot at making it better for my successor to do the same,” he said. “To go and blow up those institutions, is a terrible, terrible thing to have done, just by letting your ego get out of control.”

Clark said the lack of hubris applies to his investment- banking unit TD Securities, which last year trailed RBC Capital Markets and BMO Capital Markets in Bloomberg rankings for stock issuance and merger advice.

About 21 percent of Toronto-Dominion’s C$4.6 billion in profit last year came from wholesale banking, compared with 32 percent at domestic rival Royal Bank of Canada. Clark said he doesn’t want TD Securities to make risky bets on capital markets.

“It’s a totally different strategy,” to what other investment banks have done in Canada, said Clark, who spoke yesterday at an investor conference in New York sponsored by Morgan Stanley. “I’ve always said ‘I don’t care what percentage you are; I care what you do’.”

The investment bank will continue to earn about C$800 million to C$1 billion a year working on large Canadian transactions and assisting clients in the U.S. and abroad.

“The trick is not to let them drift and say, ‘why don’t I take on Goldman, or why don’t I take on Morgan Stanley?’” Clark said. “Because I don’t think it’s a space we can occupy.”

Toronto-Dominion will focus expansion mostly in North America instead of markets such as China, Clark said.

“Trying to figure out an Asian strategy would be one of our harder tasks,” said Clark. “If I would go head to head with a competitor, why am I going to get more, on average? What’s my competitive edge?”

Toronto-Dominion rose C$1.45, or 1.9 percent, to C$77.63 at 4:28 p.m. on the Toronto Stock Exchange. The shares have climbed 4.6 percent this year.
Reuters, 2 February 2011

The head of Toronto-Dominion Bank says a push to rapidly phase in tighter capital rules won't affect the bank's plans for dividend hikes or acquisitions.

The Basel III rules, unveiled last year, set higher capital ratio levels for global banks, and Canada's financial regulator said this week that Canadian banks should meet the new levels "as soon as possible".

The Office of the Superintendent of Financial Institutions, also said banks should be cautious on "actions that weaken their capital position", such as dividends and acquisitions.

"It doesn't change the way I feel about acquisitions," TD Chief Executive Ed Clark said at the Morgan Stanley Financials Conference in New York. He said TD would issue equity in conjunction with an acquisition if it felt it was necessary.

"I believe you shouldn't do acquisition unless you were prepared to issue shares," Clark said.

The bank's capital ratio under Basel III rules is believed to be well below the 7 percent standard that must be in place by 2019.

Clark said the bank sets dividend on earnings levels, targeting a payout ratio of 35-45 percent.

He has said the bank will issue guidance on dividends when it reports first-quarter results next month. Analysts have taken that to mean the bank will raise its payout at that point.

Canada's other big banks are also expected to raise dividends over the next year. Most of the banks have not raised their payouts since 2008, when the financial crisis took hold.

Brad Smith, an analyst at Stonecap Securities, said the banks with lower capital levels, like TD, may feel compelled to implement a smaller dividend hike than a better-capitalized bank.

The Basel rules are designed to stave off a repeat of the global financial crisis. Canada's banks emerged from the crisis relatively unscathed, without needing any government bailouts, unlike many U.S. and European rivals.