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In Canada, there are already signs that late-summer demand for loans increased. Average loan balances inched higher across all lending categories in August compared with July.Nathan Denette/The Canadian Press

Customers of big U.S. banks are slowly starting to borrow more on credit cards and taking out more auto loans, and that’s a good sign for major Canadian banks as they near the end of a fiscal year marked by sluggish lending.

Last week, the six biggest banks in the United States all reported earnings for their third quarter ended Sept. 30 that blew past analysts’ estimates. Profits increased more than 50 per cent, on average, from a year earlier, and the key factors tell a familiar story: There were large releases of reserves against loan losses that never materialized, frenzied deal-making that generated big fees for investment bankers and plenty of stock market activity for traders.

Gains in the U.S. banks’ core lending books were far more modest, and still slower than they were before the COVID-19 pandemic. But signs that borrowing may be reviving – most notably in the retail divisions that cater to consumers – are likely the most important signal of what to expect when Canada’s Big Six banks report earnings six weeks from now for their fiscal year ended Oct. 31.

Credit card balances at the biggest U.S. banks increased 3 per cent from the second quarter, but are still down 1 per cent from a year ago, while auto loans were also up 3 per cent. “Core lending trends remain soft,” but top U.S. bank executives are telling the market they expect “improvement in 2022,” Scott Chan, an analyst at Canaccord Genuity Group Inc., said in a note to clients.

There are still plenty of storm clouds on the horizon that could blow a rebound in bank lending off course. The spread of the highly contagious Delta variant, major disruptions to global supply chains and growing concerns about persistent inflation are all sources of considerable uncertainty that could threaten the economic recovery from the pandemic.

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There is also continuing pressure on the profit margins banks earn on loans, which shrunk as interest rates fell to ultralow levels last year and stayed more or less flat at U.S. banks in the third quarter. At the same time, “expense growth is accelerating as banks face wage inflation and higher discretionary spending” on strategic priorities such as upgrading technology, National Bank Financial Inc. analyst Gabriel Dechaine said in a research note.

But in Canada, there are already signs that late-summer demand for loans increased. Average loan balances inched higher across all lending categories in August – the first month of the Canadian banks’ fiscal fourth quarter – compared with July.

Consumer loan balances in Canada increased 0.6 per cent when compared with July, mortgages were up 1 per cent and business loans rose 0.4 per cent, according to regulatory data. If those trends continue, the rate of overall monthly growth would swell. Business loans have already recovered from low levels last summer and are 8.2 per cent higher than they were a year ago.

Loans made outside Canada – mostly to customers in the U.S., the Caribbean and Latin America – also increased month over month by 1.8 per cent for consumer lending, and 1.7 per cent for businesses.

“Recovering loans in August are a positive early sign for the Canadian banks looking ahead,” Credit Suisse analyst Mike Rizvanovic said in a research note. He expects the rate of growth in mortgages – the only type of loan that has been in high demand during the pandemic – will slow “from its current unsustainable level.” And that makes it all the more vital to banks that other categories of lending recover to pick up the slack.

When Canadian banks announce fourth-quarter and fiscal year-end results starting on Nov. 30, analysts expect “similarly positive performance” to their U.S. peers, Mr. Dechaine said.

But surging profits driven by temporary tailwinds from lower loan loss provisions and surging capital markets won’t be enough to impress shareholders: Banks need to show there is life in their lending portfolios. “We believe most investors are keying in on ‘core banking’ results, especially in terms of loan growth and margin performance,” he said.

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