McCreath: I'd rather own Canadian banks over Manulife or Sunlife
For the past two quarters, Canada’s big banks have crushed earnings expectations and their shares have enjoyed sharp post-earnings rallies. They also began releasing large sums of money previously set aside for loans that could potentially go bad – all of which flowed directly to the bottom line.
The rapid spread of the COVID-19 Delta variant, however, may slow down that trend when the banks report fiscal third-quarter results next week.
“When we exited Canadian bank earnings season in early June,” wrote Bank of Nova Scotia banking analyst Meny Grauman in a recent report, “we thought that by the time Q3 reporting rolled around, COVID would be a fading memory.”
Instead, he now says “the key topic of interest this quarter will be the pace of the economic recovery and the ability of the Delta variant to derail it.”
That could mean a couple of things.
First, banks could become more cautious when it comes to releasing funds from earlier-booked loan loss reserves, and that could mean an end to the huge earnings-per-share beats. Grauman says he expects “a more modest pace of reserve releases” as management teams emphasize more pessimistic credit scenarios.
“After peaking in Q1, beats were smaller in Q2 and we expect even smaller beats in Q3,” he wrote in the report.
Second, loan demand may have been affected.
For some time, demand for loans from Canadian consumers has been sluggish, and spread of the Delta variant will not have helped.
Gabriel Dechaine, an analyst at National Bank of Canada, says loan-growth trends may now be more important drivers of sentiment toward the bank stocks than the well-known credit recovery story.
“We believe investors will be paying closer attention to core banking revenue growth, along with (non-real estate) loan growth,” he wrote in a recent report.
Grauman says Bay Street expectations are for only modest loan growth in the quarter.
And what about the big dividend hikes investors continue to wait for?
They are likely coming later this calendar year, analysts say.
Early in the pandemic, the Office of the Superintendent of Financial Institutions (OSFI) restricted the banks from hiking dividends and buying back shares until further notice. Since then, the banks have amassed huge amounts of excess capital.
In June, OSFI increased the capital “buffer” it requires the banks to build during periods of economic strength – a move that was seen by some as a pre-cursor to lifting the ban on dividend hikes and share buybacks.
Grauman believes there are “high odds” that this will come early in the new fiscal year, which begins in November.
Bank of Montreal and National Bank of Canada are expected to announce the biggest dividend hikes when OSFI allows, because their current dividend payments amount to a smaller percentage of profit than their peers.
Here is when each bank will report its fiscal third-quarter results. Each bank reports before the open of trading.
- Bank of Montreal – August 24
- Bank of Nova Scotia – August 24
- National Bank of Canada – August 25
- Royal Bank of Canada – August 25
- Canadian Imperial Bank of Commerce – August 26
- Toronto-Dominion Bank – August 26