Jun 18, 2021
Bay Street primed for big bank dividend hikes when OSFI eases up
By Paul Bagnell
“It’s anyone’s guess” as to when banks can raise dividends, resume buybacks: DBRS-Morningstar SVP
Investors in Canadian bank stocks can be forgiven if they are getting impatient.
With loans losses shrinking, and profit and capital levels booming, when will the Big Six banks finally be allowed to raise dividends or buy back shares?
On Thursday, the country’s banking regulator dialed back a change it made very early in pandemic, and that has only heightened the sense of anticipation regarding dividend hikes and buybacks. In short, most analysts believe the banks will be freed to deliver those shareholder-friendly moves this fall. And many expect the hikes and buybacks to be larger than typical.
As background, the Office of the Superintendent of Financial Institutions (OSFI) took three steps in March of 2020 that were intended to ensure the banks could withstand a big wave of bad loans and still be capable lending to Canadian businesses and consumers who needed credit.
Among those steps: OSFI reduced something called the Domestic Stability Buffer – a layer of regulatory capital intended to be built up in good times so that it can be deployed for loans in bad times. That move is now being reversed, however, with the increase that OSFI announced on Thursday set to take effect at the end of October.
OSFI said it made the move because “economic and market disruptions stemming from the pandemic have abated and banks' capital levels have been resilient.”
That same confidence, analysts increasingly believe, will lead OSFI later this year to unwind the other two changes it made in March of 2020 – telling banks not to raise dividends or buy back shares until the regulator thinks it’s appropriate to do so.
On Friday, Scott Chan, an analyst at Canaccord Genuity, said he believes the green light will come in September. And he believes dividend hikes will be larger than usual.
Banks usually aim to pay a dividend that equals between 40 per cent and 50 per cent of their profit. As a group, the banks are now paying out about 40 per cent of their expected fiscal 2022 profits. That means big dividend increases will be needed to push payout ratios closer to the middle of the target range.
Robert Wessel, a former Bay Street analyst and now managing partner at Hamilton ETFs, also sees large dividend hikes coming. Bank capital levels have risen to levels much higher than required by OSFI, he notes, and he believes the regulator could have already lifted its no-hike edict.
“It’s kind of silly that [OSFI] is not allowing dividend [hikes] right now,” Wessel told me in an interview on Thursday. “If you think about it, the Canadian banks have never made more money. They made $14.5 billion last quarter; that’s the all-time high by a pretty meaningful margin.
“Nevertheless, at some point when they are allowed to increase dividends, the increase will be that much higher.”
National Bank of Canada and Bank of Montreal are seen as the banks most likely to deliver the biggest dividend increases.
Mike Rizvanovic, an analyst at Credit Suisse, said recently that National “has by far the most capacity for a large dividend increase among the Big Six, followed by BMO.”
Meny Grauman at Scotia Capital agrees.
“Assuming National Bank wants to get its payout ratio back to 42 per cent, which is at the lower end of its 40-50 per cent target range,” Grauman wrote recently, “then it will have to raise its current payout by 16 per cent.”