Canada’s two biggest banks continue to churn out blockbuster profits in an environment that is, in significant ways, “as good as it gets” for the country’s large lenders.
Royal Bank of Canada and Toronto-Dominion Bank both reported profit of $2-billion or more for the second successive quarter, establishing a new benchmark that they will be expected to clear in future results.
Both banks are benefiting from their diversity, with better earnings everywhere from personal and commercial banking to wealth management. And there is little on the horizon that is likely to slow them down.
At TD, “it’s one of those quarters where everything was performing exceptionally well,” chief financial officer Colleen Johnston said in an interview.
At RBC, the wealth management division shone, and the bank expects it to stay bright because rising stocks keep convincing clients to put more money into the markets.
At both banks, provisions for potential losses on loans have fallen to near historic lows. “The credit environment is as good as it gets,” National Bank Financial analyst Peter Routledge wrote in a note to clients. Investors can “conclude from this insight that the environment can only get worse and that credit losses will become a headwind to earnings … eventually. But eventually is probably a fair distance into the future.”
RBC’s profit jumped 15 per cent to $2.2-billion in the fiscal second quarter from a year earlier, while TD’s rose 14 per cent to $2.1-billion after stripping out one-time items.
However, some shorter-term comparisons are not as compelling. Canadian personal and commercial banking drives the bulk of both bank’s profits, and core earnings from these units fell 4 per cent at RBC and were flat at TD, relative to the preceding quarter.
Still, the major threat to the banks’ run of $2-billion-plus profits appears to be the possibility of an interest rate increase. Few observers see such an increase as likely any time soon. But RBC’s chief financial officer Janice Fukakusa said in an interview that banks are always susceptible to surprises, particularly “some rate increase that isn’t well forecasted into the market.”
Banks have adapted their business models to make money in a low-interest-rate environment, she said. A sudden, unexpected rate upheaval would require lenders to rework their operations in short order, rather than allowing them to retool more methodically over time.
In the absence of any such shock, the banks are poised to keep churning out the profits.
Even TD, which has been more negative about the Canadian banking outlook than its peers, told investors they should not fear any major changes to the overall operating environment for the remainder of 2014. “This is a better outcome than we were expecting when we started the year,” chief executive officer Ed Clark said.
However, the bank raised a caution flag about its U.S. personal and commercial banking arm. Although the unit’s profit rose in the second quarter, the rest of the year is expected to be challenging. “The U.S. operating environment for banks is quite tough right now,” CFO Ms. Johnston said. Loan margins are getting squeezed because banks are all chasing the same big clients, leading them to cut prices, and the regulatory environment has changed dramatically.
At RBC, the trouble spot has been the Caribbean. Since striking a $2-billion acquisition in the region in 2008, RBC has struggled to keep its Caribbean loan losses in order, leading to a recent restructuring and the sale of its Jamaican operations at a loss.
Still, the diversity of each bank’s operations have helped them withstand these headwinds, as well as a cooling in the mortgage loan market – something that has been long expected and has finally arrived.
“Certainly we’ve had a bit of a slower start to the mortgage season,” RBC president and incoming CEO Dave McKay said on the bank’s conference call. But “slowing is not a bad thing necessarily,” he added, alluding to Canadians’ high levels of indebtedness.