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Key Takeaways for BMO Stock:
- Like TD Bank, BMO’s most recent quarter which included high costs and loan provisioning may have disappointed investors, but it’s not necessarily a signal to sell.
- Canadian bank investors should remember that higher loan provisioning on domestic real estate is expected as credit pressures increase on consumers and not all banks are equally exposed to the sector.
- TD’s addition of Bank of the West in the United States will add to pre-tax, pre-provision earnings – by 2026 – and investors will need to wait until 2025 to see the true expense base for the firm after one-time charges from the acquisition.
Andrew Willis: Last week, we covered TD Bank’s most recent quarter, with unadjusted earnings that equity analyst Michael Miller described as “messy”. But these developments didn’t have us lowering our fair value estimate for the bank.
After all, how much of a surprise is higher operating and credit costs in today’s inflationary environment? And how shocked are we that we’re seeing higher provisioning on loans that may underperform?
We feel a similar way about the Bank of Montreal (BMO). After a weak first quarter, we’re not changing our fair value estimate for BMO stock because we were already projecting higher credit costs in 2024. The credit business at BMO was particularly disappointing last quarter, according to Miller. However, investors who may be about to react to a 40% sequential increase in loan provisions should consider that most of those allowances are on loans that haven’t gone bad yet.
There are other important similarities with TD for investors to consider, such as BMO’s exposure to Canadian real estate, which is one of the smallest of the Big 6 Canadian banks and which we view as a manageable risk. There is also BMO’s promising U.S. exposure, with its acquisition of Bank of the West. Acquisitions have been a key source of growth for the bank, although we note that management has emphasized pursuing organic growth first.
BMO’s Has Lower Canadian Real Estate Risk – and U.S. Upside Potential
Perhaps BMO’s focus on organic growth is because acquisitions like the recent addition of Bank of the West distort our growth projections, not to mention the expense side of the equation which is muddy enough.
There will be one-time charges during 2024, notes Miller, even as BMO commits to expense savings efforts, so we don't expect to see the true expense base for the firm until 2025. On the upside, if investors are willing to wait a little longer, by 2026 we have this latest acquisition adding roughly 15 billion dollars pre-tax – and of course, before any provisions.
For Morningstar, I’m Andrew Willis.
BMO Bulls Say
- Growth and opportunities in the bank's U.S. markets will outweigh any slowdown in its native Canada as U.S. subsidiaries gain market share.
- Compared with its peers, BMO has a lower exposure to the Canadian housing market.
- BMO's presence in the Canadian ETF market should pay off as passive investment options gain share in Canada over the next decade.
BMO Bears Say
- The housing market in Canada is starting to heat up again, increasing potential risks for the economy and the banking sector.
- BMO's acquisition of Bank of the West increases execution risks and has created messy quarterly results which require a lot of adjustments that can be difficult to interpret.
- Higher interest rates and rising amortization periods for mortgages show the Canadian consumer is set to come under increased strain for the foreseeable future.
The author or authors do not own shares in any securities mentioned in this article.
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