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A Scotiabank branch in Toronto. (Ryan Carter/Ryan Carter/The Globe and Mail)
A Scotiabank branch in Toronto. (Ryan Carter/Ryan Carter/The Globe and Mail)

Scotiabank feels heat from shrinking profit margins Add to ...

Canadian banks are locked in a fierce battle for loans and deposits that is grinding away at the fat profit margins they once enjoyed.

As Bank of Nova Scotia reported second-quarter earnings on Tuesday, the country’s third-largest bank showed just how tight the competition for business in the Canadian banking sector has become, compared to international markets.

Similar to its Canadian rivals that have unveiled quarterly earnings in the past week, Scotiabank reported a healthy increase in profit from its Canadian lending operations. However, the margins on that profit continued to shrink – a telling sign that has been seen across the sector for almost a year.

But step outside Canada, where Scotiabank has branches spread throughout Central America, South America and Asia, and the picture is much different. Canada’s most international bank has seen its profit margins fattening, particularly in countries such as Mexico, Colombia and Peru.

This stark contrast between profit margins at home and abroad is the clearest sign yet of the pressure Canadian banks are under at home to keep churning out hefty profits from their large core businesses, while at the same time revealing how much more profitable Scotiabank’s expansion into high-growth countries has been.

Scotiabank reported a 16 per cent increase in operating profit for the quarter, beating analysts estimates. Its core Canadian lending operations made $461-million, up 23 per cent from last year. However, net interest margins – which are the difference between what a bank borrows money at and what it lends its funds out for – continued to grind down.

Those margins slipped to 2.17 per cent at the Canadian operations from 2.19 per cent a year ago. In the first half of last year, the margin was 2.23 per cent.

Such fluctuations in net interest margins may seem small, but multiplied across the bank’s entire lending portfolio, they add up to large profits. While the Canadian operations have seen heavy competition this year for mortgages and other consumer loans, Scotiabank’s international margins have been widening.

The international retail banking division made $448-million, up 14 per cent in the quarter, as its margins expanded to a hefty 4.18 per cent, compared to 3.92 per cent a year ago, and 3.88 per cent during the first half of last year. Those kinds of numbers would be unfathomable in Canada right now.

Scotiabank executives acknowledged much of the margin boost in the international business came from its Colombian operations, where the bank recently expanded with a $1-billion deal to buy a majority stake in Banco Colpatria, one of Colombia’s largest lenders.

Scotiabank, which has spent the past few decades expanding rapidly in international markets and now operates in roughly 50 countries, is also seeing growing margins in Asia, where it operates in places such as Taiwan, Thailand, Vietnam, Hong Kong.

As European banks recoil from the region, needing to shore up their balance sheets, Scotiabank is finding it possible to command better margins on loans in several countries.

“Margins in Asia have been trending up, but were up significantly this quarter,” said Brian Porter, head of international banking at Scotiabank. “We see it in our trade finance and our lending business there. But that’s a function of European banks disappearing in terms of the lending market in Asia.”

But the trend shows where the bank is getting most of its momentum from.

“We had good momentum on loan and deposit growth and we expect this momentum to continue,” Mr. Porter said of the international business.

Over all, Scotiabank’s operating profit exceeded analysts expectations. Excluding unusual items that boosted earnings a year ago, Scotiabank made $1.46-billion or $1.18 a share in the quarter. Analysts on average expected the bank to make $1.15 a share.

Final profit fell from last year, due to a large gain the bank recorded a year ago from acquisitions and accounting changes.

With one-time items factored into the earnings, Scotiabank made $1.46-billion or $1.15 a share, compared with a final profit of $1.62-billion or $1.39 during the same quarter last year. Revenue rose slightly more than 1 per cent to $4.7-billion.

The previous year’s second quarter benefited from a number of gains that did not exist this year, including $286-million from acquisitions, such as a $260-million gain from the revaluation of its original 18 per cent stake in Dundee Wealth Management. The value of that asset was written up when Scotiabank bought the rest of the business.

Scotiabank also recorded a $77-million gain on currency in the second quarter of 2011, due to changes in accounting standards.

Scotiabank’s global wealth management business made $298-million in the quarter, down 40 per cent from last year because of the one-time gains recorded from the Dundee Wealth acquisition. Excluding such items, profit in the division rose 14 per cent.

Profit in the global banking and markets division, which includes investment banking, was relatively flat. The business made $387-million, an increase of 3 per cent.

Though pleased with the quarter, Scotiabank chief executive officer Rick Waugh said the bank is focusing on cost containment as margins continue to feel pressure. “Expense management remains an ongoing priority,” Mr. Waugh told analysts.

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