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A Bank of Nova Scotia branch in Ottawa on Feb. 14, 2019.CHRIS WATTIE/Reuters

Commercial bankers are chasing a boom in demand for business activity that is defying concerns that the sector would retrench this year amid market turmoil.

Bank of Nova Scotia BNS-T head of Canadian banking Dan Rees says the lender’s commercial lending division presents one of its biggest growth opportunities as record levels of newcomers to Canada spur spending and businesses launch expansion plans that were put on hold during the COVID-19 pandemic.

As the bank prepares to launch a rejigged companywide strategy, Mr. Rees has set his sights on low-double-digit growth in the commercial unit this year, and has been hiring hundreds of employees. In the bank’s first quarter ended Jan. 31, Scotiabank posted a 22-per-cent jump in business lending in Canada from a year earlier in a broad effort to renew its focus on the segment.

“The sector is far more healthy than some people think,” Mr. Rees said in an interview. “There’s just so much GDP that hasn’t fully kicked in based on the immigration in the last year.”

Scotiabank isn’t the only lender chasing market share among medium-sized businesses served by its commercial segment, with Royal Bank of Canada also forecasting significant growth in its unit. The shift in strategy comes as interest rate hikes slow mortgage lending. Some banks have pointed to the boost from commercial activity as a key source to offset a slowdown in borrowing from homeowners.

Scotiabank’s commercial unit is on the smaller side among its peers, but it plans to cross-sell business products to customers in its larger wealth management division, aiming to hold more of a client’s overall portfolio and grow its deposit base to fund more loans. The lender is also moving further into underpenetrated markets in British Columbia and Quebec, with more commercial bankers that specialize in local industries.

But the broad business outlook for the banks is caught in a paradox. On one hand, the supply chain issues and labour shortages that wreaked havoc in 2021 are easing and Ottawa’s aggressive immigration targets are boosting demand for products and services.

On the other, economists are warning that high borrowing costs and a funding shortage wrought by three U.S. bank failures could prompt a credit crunch – a drop in lending as banks tighten their borrowing standards, making it more challenging even for creditworthy borrowers to get approved for loans. That could put a leash on the banks’ growth prospects.

So far, Canadian banks are bucking the concerns plaguing U.S. lenders. RBC has also refurbished its commercial banking teams to grab more market share. Last year, Canada’s largest lender created a new team with senior commercial bankers focused on growing demand from middle-market business with $10-million to $25-million in revenue.

Neil McLaughlin, RBC’s head of personal and commercial banking, said that competition has been fierce as businesses have come out of a pandemic-induced standstill. The bank is targeting significant growth in the division, fuelled by entrepreneurs who are embarking on expansion plans that were paused in recent years over concerns of supply chain blockages and labour shortages.

But even though those pressures are easing, companies are striking a cautious tone. Business owners anticipate slowing sales growth this year, with inflation expected to remain elevated until at least 2025, according to the Bank of Canada’s quarterly business survey.

“It really does create a dichotomy in terms of the signals that entrepreneurs are getting,” Mr. McLaughlin said. “They’re saying that there are still headwinds, but I can’t wait any longer – it’s imperative that I move my business forward.”

Signs of a credit crunch in the United States have started to appear since fear of contagion after Silicon Valley Bank’s collapse accelerated a trend of shrinking deposits at regional banks. In recent first-quarter earnings, regional lenders saw deposits slip away and loan growth shrink. Meanwhile, large U.S. banks benefited from a boost in deposits as customers pulled cash from smaller institutions – a shift known as a flight to quality.

But loan growth has continued to edge lower across U.S. banks this quarter, with commercial segments seeing the biggest slowdowns among bank divisions, according to regulatory filings as of April 12.

“The slowdown that you’re seeing is a reflection of the slowdown in the U.S. economy, but there are so many cross currents going on right now,” RBC Capital Markets analyst Gerard Cassidy said in an interview ahead of a CFA Montreal event Wednesday. “It’s an unusually conflicted market.”

In Canada’s highly concentrated banking sector with diversified business segments, sticky deposits and a more conservative regulator than in the U.S., the banks here avoided a run on deposits and ensuing funding issues. While the Big Six may not have to tighten borrowing standards, Bank of Canada Governor Tiff Macklem has warned that strain in the U.S. financial system could affect the Canadian economy as less business lending south of the boarder could lead to lower demand for exports.

The domestic economic picture is expected to worsen as well. The Bank of Canada forecasts near-zero growth over the first three quarters of this year as its rapid interest rate hiking campaign takes effect. Although so far, the Canadian economy has withstood the Bank of Canada’s battle to temper inflation. Recent GDP data have come in higher than the central bank or analysts expected.

Mr. Rees says that Scotiabank has become more amenable to adjusting payment terms for clients struggling with rate shocks, but it has not tightened its lending standards.

The complicating factor going forward, he says, is whether the Bank of Canada continues to raise rates. The central bank has said that it takes 18 to 24 months for rate hikes to fully affect the economy, meaning that the total blow of higher costs has yet to hit customers.

“The reality of that hasn’t hit everybody,” Mr. Rees said.

Some banks still anticipate growth in the commercial segments, but the pace is expected to slow. Canadian Imperial Bank of Commerce told analysts during its first-quarter earnings call that growth in its commercial loan book has eased as entrepreneurs become more tentative. The bank said it will be more selective when lending to businesses and it expects loan growth to land in the mid-single-digit range.

Bank of Montreal also expects growth to moderate slightly as the economic environment prompts more discerning decision-making on lending. But Nadim Hirji, the bank’s head of commercial banking in North America, sees pockets of opportunities as businesses deploy cash reserves built up during the pandemic, especially in high-demand industries such as agriculture, manufacturing and seniors housing.

“The volumes have come down, but we’re doing deals,” Mr. Hirji said. “We’ve got clients that have cash on the balance sheet. Now they’re starting to use it instead of borrowing, and that’s probably the appropriate and the right thing to do for those for customers.”

BMO is also integrating its acquisition of California-based Bank of the West – the largest-ever purchase of a U.S. bank by a Canadian lender – which focuses on consumer and commercial banking. When BMO announced the deal in late 2021, it said that commercial loans make up 60 per cent of Bank of the West’s loan portfolio.

The bleakest area of concern is a downturn in commercial real estate. Across the Big Six banks, commercial real estate comprises 10 per cent of total loans on average, according to research from Keefe, Bruyette & Woods.

The lagging office and retail segments make up the smallest portions of loan books at the large banks. On average, those two segments combined account for a quarter of commercial real estate lending, with the remainder in surging industrial and housing real estate.

“There’s such big growth in the Canadian population that the demand for housing continues, and there’s been lots of activity in multiresidential,” National Bank of Canada incoming head of commercial and private banking Michael Denham said.

Toronto-Dominion Bank says that even as businesses are being cautious with their growth plans, clients have been drawing money from their operating lines of credit, pushing balances back up toward prepandemic levels.

Similar to the other large Canadian banks, TD says that it does not adjust its credit criteria depending on the economic cycle, maintaining its conservative risk appetite even when times are good. This provides the bank with the opportunity to grow its share of commercial business as some institutions restrict lending when market conditions turn sour, according to head of Canadian business banking Barbara Hooper.

“Other folks who may have relaxed their criteria during a frothy point in the cycle may need to put their foot on the break,” Ms. Hooper said. “That may give us an opportunity to win more than our fair share of deals during a downturn.”

Follow Stefanie Marotta on Twitter: @StefanieMarottaOpens in a new window

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