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How Canada’s top banks perform in the United States will play a key role in how investors view them in the coming year, say Fitch Ratings Inc. analysts, who expect the recent differences in valuations between the Big Six lenders to continue instead of the sector trading as a group.
Each of the six lenders has pursued a “completely different” approach to succeed in the U.S. market and now is the time to assess whether those strategies are going to achieve the returns the banks expect, Maria-Gabriella Khoury, Fitch’s senior director of North American banks, said at a webinar on Thursday.
“The U.S. is a costly market, both in terms of dollars and in terms of management time,” she said. “We have to wait to see whether these strategies will pan out the way management wants them to pan out.”
Canada’s big banks have traditionally been viewed as “safe and conservative” to invest in, without a “ton of differentiation” among the top five names, Fitch analyst Peter Simon said at the webinar.
But their differences in performance and valuations in the last quarter were much wider than what analysts have become accustomed to seeing, TD Securities analyst Mario Mendonca said in a note in August.
Bank of Montreal missed analysts’ estimates, while Canadian Imperial Bank of Commerce, Royal Bank of Canada and National Bank of Canada comfortably beat them. Bank of Nova Scotia’s results were in line with expectations, but Toronto-Dominion Bank posted a rare loss as it tries to resolve its anti-money laundering issues.
Analysts attribute this divergence to the banks’ performance outside Canada, especially in the United States.
Khoury said RBC has tried to “double down on what it does best,” which is high-net-worth private banking, while TD “went the other way” by expanding its retail presence through its branch network.
BMO “received accolades for the way it closed its acquisition” of the Bank of the West in terms of operational integration, but it’s now reporting higher impairments, Khoury said, and CIBC is “effectively taking its Canadian strategy and applying it to the U.S. market on a smaller scale.” Meanwhile, Scotiabank is streamlining its Latin American operations.
“Right now, all the banks are in that phase of, ‘Let’s work on it and see if it will pan out,’” she said. “But if not, they are quite disciplined at leaving markets that won’t be profitable to them.”
Overall, she expects “another year of divergence of performance, but nothing too wild.”
Simon expects loan growth and capital market activity in the U.S. to be “fairly slow” until “we get to the other side” of the U.S. elections in November.
Further out, he expects the cycle of rising provisions — the money banks keep aside to cover potential bad loans — to reach its peak in 2025.
Fitch said five of the Big Six Canadian banks have stable outlooks, with the exception being TD, which is under investigation in the U.S. over allegations of money laundering and other financial crimes at several branches in the U.S. TD recently set aside US$2.6 billion to cover any expected fines from the probe, which is on top of the US$450 million it set aside in April.
But Fitch’s negative outlook incorporates its view that TD could face non-monetary penalties, such as a cap on branch expansion and a loss of franchises.
“It’s hard to assess what these non-monetary penalties are, given the investigation is still going on,” Khoury said.
Simon expects TD to be on the sidelines for any mergers and acquisitions in the coming years, though he doesn’t expect the bank to make a “hasty retreat from the U.S. or anything like that.”
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