February 25, 2016 / 9:34 PM / 3 years ago

Canada's banks feel pain of oil price rout, economic slowdown

TORONTO (Reuters) - Faced with a double whammy of the oil price collapse and a sluggish economy putting pressure on their corporate and consumer loan books, Canada’s major banks started to show cracks this week as they posted another round of quarterly profits.

A Royal Bank of Canada (RBC) logo is seen on Bay Street in the heart of the financial district in Toronto, January 22, 2015. REUTERS/Mark Blinch

After reporting quarter after quarter of market-topping results in recent years, the lenders were feeling the pull of gravity.

Royal Bank of Canada (RY.TO), Canada’s biggest lender, did not meet profit estimates on Wednesday for the first time since early 2013, and No. 2 player Toronto Dominion Bank (TD.TO) reported a slim profit miss on Thursday.

Bank of Montreal (BMO.TO) and Canadian Imperial Bank of Commerce (CM.TO) both topped analyst expectations, but also revealed that bad energy loans were on the rise.

The tone of bank executives on conference calls reflected the gloomier outlook as well.

“We’re starting to see the spillover impact from the energy patch onto the consumer loan books,” Barclays analyst John Aiken said. “You’re going to see increasing provisions against their energy portfolio through 2016, and that should likely coincide with rising consumer charge-offs by the middle of the year.”


Indeed, some banks have become more aggressive in responding to the energy crisis. RBC set aside a significantly higher amount to cover for bad loans in the first quarter.

RBC Chief Risk Officer Mark Hughes, in a conference call, said debt covenant reviews this spring will likely result in reduced credit for some energy clients.

CIBC Chief Risk Officer Laura Dottori-Attanasio warned investors the lender’s loan losses could double if Canada went into recession.

The banks were also paying more attention to energy sector clients.

“We are doing one-on-one analysis on almost all of our exploration and production clients,” RBC Chief Financial Officer Janice Fukakusa said in an interview.

Though the direct impact on the banks through their energy clients was immediate, investors were more concerned about the knock-on effects of an oil-induced economic slowdown, especially in Western Canada.

The results confirmed that the energy sector fallout is finally being felt in the banks’ consumer portfolios, though some banks expected to make it up elsewhere.

“While we are experiencing deterioration in the consumer credit portfolio in the oil-impacted provinces, it is largely offset by strong performance across the rest of the country,” TD CFO Riaz Ahmed said in an interview.


Analysts have also been weighing various scenarios to assess the risks, but few see a doomsday scenario playing out.

“Under a moderate stress scenario...it will be a profitability concern, not a capital concern,” Moody’s analyst David Beattie said. “If it is a severe stress case scenario, it may require capital conservation measures on the part of the banks.”

Some portfolio managers saw safety in the banks despite the economy, as their investment options beyond resources remained limited in Canada.

“So far there’s nothing apocalyptic that’s happening,” said Michael Formuziewich, portfolio manager with Leon Frazer, which owns positions in RBC, TD, Scotia and BMO. “The pain will grow, but in my opinion it is not going to lead to even a single year where the banks lose money. It’s just not going to get to those levels.”

Some investors even see opportunities in the historically low multiples the stocks were trading at.

“The valuations are the cheapest they’ve been since the financial crisis,” said Barry Schwartz, portfolio manager at Baskin Financial Services. “If oil has bottomed here, this is a gift from the gods. This is the time you should be selling your house to buy Canadian banks.”

Additional reporting by Matt Scuffham in Calgary; Editing by David Gregorio

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