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An oil worker holds raw oilsands near Fort McMurray, Alta., on July 9, 2008. The chief economists of some of Canada's biggest banks say the country is headed for a rocky year as low oil prices continue to drag on economic performance.Jeff McIntosh/The Canadian Press

Oil is going to be a hot topic among bank executives this year – and the conversation will likely get started on Tuesday at the Canadian Bank CEO Conference.

Consider the urgency: The price of oil – exploring 12-year lows – is fast-approaching worst-case hypothetical scenarios used in bank stress tests in 2015, raising concerns about whether loan losses will spike as energy companies fail to meet their debt obligations. Big Six loans to the oil and gas sector total nearly $113-billion.

Analysts peppered bank executives with questions about their exposure to the sector during the first-quarter earnings calls early last year, as they tried to get a handle on the extent to which tumbling oil prices would affect loans to Canadian energy companies. Bank executives responded with reassurances that credit quality was strong.

But those were innocent days. At the time, oil traded at about $50 (U.S.) a barrel. On Monday, it slid close to $31 a barrel, down more than $2.

The lower prices are nearing, or passing through, some significant thresholds. Canadian Imperial Bank of Commerce used $30 oil in its stress tests a year ago; Bank of Montreal stress-tested its loan portfolio at $35 a barrel in 2015, and assumed that oil would recover to $50 a barrel this year.

Back in February, BMO chief financial officer Tom Flynn sounded optimistic. "We're not expecting a big storm," he said during a conference call with analysts. "Clearly, parts of the country are adjusting to the lower price of oil, and there will be some credit losses there, but we're not seeing signs of those yet, and we don't expect them to be problematic."

He was right: Concerns about oil largely died down in 2015 as the price of oil appeared to stabilize and the big banks continued to report strong profits and relatively mild credit losses. BMO ended its fiscal year with provision for credit losses at just $128-million, down from $170-million in the fourth quarter of 2014.

But as a potential flashpoint, oil is back. In a note released earlier this month – when oil was 10 per cent higher than it is today – CIBC World Markets analyst Robert Sedran noted that the indirect exposure to depressed oil prices, through delinquent consumer mortgages and loans, could be a bigger concern than direct loans.

"The concern surrounding retail delinquencies (mortgages, auto, credit cards) in the oil-exporting provinces is more acute given its unpredictability," he said.

In the case of uninsured Alberta real estate loans, he estimates that a 115-basis-point loss rate (there are 100 basis points in a percentage point) would cut 2016 profits for the Big Six by 1.6 per cent; a 165-basis-point loss rate would cut profits by 2.4 per cent.

The indirect impact could spread well beyond Alberta, though. Mr. Sedran calculated that a 5-per-cent default rate for corporate and government loans outside the energy sector would hit bank earnings by another 2.4 per cent.

"While it was always going to take time for the negative impact of lower oil prices to begin to show in bank results, the continued strong credit performance in fiscal 2015 was nevertheless a noteworthy positive," he said. "That same upside is harder to see at this point," adding that credit quality will be one of the most discussed themes this year.

And the discussion will likely start on Tuesday at the CEO conference.

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Tickers mentioned in this story

Study and track financial data on any traded entity: click to open the full quote page. Data updated as of 18/03/24 4:00pm EDT.

SymbolName% changeLast
BMO-N
Bank of Montreal
+0.07%93.92
BMO-T
Bank of Montreal
+0.05%127.17
BNS-T
Bank of Nova Scotia
-0.24%67.28
CM-N
Canadian Imperial Bank of Commerce
+0.73%49.6
CM-T
Canadian Imperial Bank of Commerce
+0.72%67.17
NA-T
National Bank of Canada
+1.06%111.39
RY-T
Royal Bank of Canada
-0.22%134.34
TD-T
Toronto-Dominion Bank
-1.4%80.23

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