Betting on Canadian banks

Growth may be slowing, but steady results have Morningstar's Eric Compton seeing some undervalued stocks

Ruth Saldanha 11 October, 2019 | 1:58AM

 

 

Ruth Saldanha: Last month all the major Canadian banks announced their results for the third quarter of the year. There were no major surprises, but earnings growth did see some moderation in Q3. To discuss his views on Canadian banks and to offer us his stock pick equity analyst Eric Compton joins us from Chicago.

Eric, thank you for being here today.

Eric Compton: Thanks for having me.

Saldanha: Well, what did you think overall of the Canadian banks' Q3 performance?

Compton: Yeah. So, I thought Q3 was a pretty steady quarter for the banks on the whole. On average for the group, revenues were growing at about a mid-single-digit range; expenses were growing roughly equal or just below that. And as a result, earnings per share were up about 6% on average for the group. And so, you look at that – loan and deposit growth are still decent, even a bit higher than we might have expected. We'd expected slowing growth for Canada for the most part. And credit costs, actually, for the group on the whole were largely stable. Bank of Montreal was a notable exception there, but a lot of the issues there seemed fairly idiosyncratic to us. So, on the whole, I think, fairly steady results. Capital markets pressures are starting to ease potentially a bit compared to where they were in the first half of the year. So, overall, I thought Q3 was a fairly, not an amazing quarter, certainly not a bad quarter, somewhere around average for the banks.

Saldanha: Do you expect growth to continue? And at this late stage of the economic cycle what are some of the major risks that you see for Canadian banks?

Compton: Sure. So, our base case right now is just for slowing growth in Canada. That's what we view as most likely. And so, I think the regulators and the government have largely gotten to that the soft landing that they were trying to guide to for housing. Some of the housing markets are still high price, but some of them have come down a bit. And it seems like it's more likely to have the soft landing going from here. And so, overall, we look at that, we look at – the Canadian consumer is still fairly indebted, also slowing global growth in general. And so, we do see slowing growth with an outside chance of higher losses in the housing market. But overall, I think soft landing, slowing growth seems like the most likely for us.

Saldanha: After the Q3 results, what is your top Canadian banking pick?

Compton: So, the most undervalued Canadian bank under our coverage continues to be the Canadian Imperial Bank of Commerce. National Bank of Canada used to be a close second, but they have actually outperformed the group for the year. And so, they've closed quite a bit of that gap at this point. It's still a bit undervalued. But like I said, the gap is largely closed. So, now, it's really just CIBC is the most undervalued remaining on our list. And so, I think if you're going to consider CIBC, you have to keep in mind, they are the most exposed to the housing market. They did very poorly during the last downturn. And this is a bank that paid a fairly high premium for their PrivateBancorp acquisition to expand in the U.S. and this is a management team that's openly admitted they'd like to grow the U.S. business even more. So, if you can get comfortable with those risks, I don't think the valuation is very demanding on the name. They don't have to do much right to deserve, I think, a higher valuation in my opinion. But you could argue it is the name that comes with some of the most risks among the group.

Saldanha: Thank you so much for being here today, Eric.

Compton: Thank you.

Saldanha: For Morningstar, I'm Ruth Saldanha.

Securities Mentioned in Article

Security NamePriceChange (%)Morningstar Rating
Bank of Montreal97.22 CAD0.40
Canadian Imperial Bank of Commerce110.93 CAD0.65
National Bank of Canada67.23 CAD0.54
The Toronto-Dominion Bank74.35 CAD0.04

About Author

Ruth Saldanha

Ruth Saldanha  Ruth Saldanha is Senior Editor at Morningstar.ca