It was supposed to be a year of blood-letting, but Canada's big banks are poised to close 2009 with another decent quarter as strong trading revenues again offset big loan losses.
After stronger-than-expected performances through the worst of the financial crisis, Canadian lenders should report a profitable final quarter of their fiscal 2009, which ended in October. But it may not be pretty.
"I usually refer to it as a kitchen-sink quarter," said Barclays Capital analyst John Aiken, warning of the habit banks have of throwing one-time charges into the final quarter to tidy up the books for the new year.
The quarter will likely include smallish writedowns or restructuring charges, but analysts predict the lenders will chalk up enough revenue from capital markets and interest margins to offset money they put aside for bad loans.
It is less clear if the overall profit will outshine that of the fourth quarter of 2008. Some say earnings will be a bit better than a year ago; others think they may be a bit worse.
"Regardless of what happens in the fourth quarter, we have arrived at the end of a year that must be labelled 'better than expected'," National Bank analyst Rob Sedran said in a research note, predicting core cash earnings per share to be flat from a year ago and down about 6 per cent from the third quarter.
Canada's six biggest banks -- Royal Bank of Canada , Toronto-Dominion Bank , Bank of Nova Scotia , Bank of Montreal , Canadian Imperial Bank of Commerce and National Bank of Canada -- report fourth-quarter results between Nov. 24 and Dec. 8.
As in previous quarters, the banks will grapple with big provisions for credit losses. Unemployment means consumers can't repay their loans and credit cards, and businesses are expected to increase defaults in the quarters ahead.
And the worst of the credit woes may be ahead. While the fourth quarter is expected to show another uptick in provisions for losses -- in the area of $2.3 billion, according to CIBC analysts -- several experts forecast a peak in credit losses in the first or second quarter of 2010.
That sets the stage for a recovery in core earnings beginning the following year, making 2011 the year to judge each bank's underlying earnings power.
"While we expect aggregate loan losses to continue trending upward in the fourth quarter, along with unemployment rates, we believe that the Canadian banks are close to seeing loan losses peak," CIBC analyst Darko Mihelic said.
Credit woes are standard in economic downturns, but the banks surprised many this year with their ability to churn out healthy revenues from capital-markets related business such as trading. Volatile markets meant more trades and more fees, boosting earnings.
Analysts generally view trading revenues as less valuable than loan growth or plain-vanilla banking gains because they are so unreliable. But National Bank's Sedran said profits from trading were an acceptable way to cope with tough times.
"Fussing over earnings quality is a bull market luxury. More important to us is the existence of those earnings that act as a bridge to better days," Sedran wrote.
Trading revenues will be lower than the record-setting third quarter, but are expected to be nearly double the fourth quarter of 2008, when the banks suffered severe trading losses. CIBC's Mihelic estimated $2.2 billion in trading revenues -- nearly offsetting the $2.3 billion in loan losses.
Next year will also be tougher as global rivals recover from the crisis and compete more fiercely for business.
Still, Canadian banks are outshining competitors on the capital front, boasting ratios well above both regulatory minimums and internal targets.
The big Canadian banks raised equity early in the year to bolster balance sheets, driving the average Tier 1 capital ratio to 11.6 per cent by the end of the third quarter, according to UBS equity research.
No one expects those heady capital levels to be brought down yet through dividend increases or share buybacks.
But the guessing game of which bank will raise its dividend first has already begun. Macquarie analyst Sumit Malhotra believes National Bank and Royal Bank may be the first -- just not in time for the fourth-quarter reporting season.