Canadian banks will be rolling out what are expected to be lacklustre third-quarter profits this week despite their share prices having almost doubled, on average, since the height of the credit crisis in February.
The rise in bank share prices shows investors are no longer worried about dividend cuts, but they shouldn't be looking for higher dividends any time soon. "There could be no dividend increases for a number of years," said James Cole, portfolio manager for AIC Investment Services Inc. "Their payout ratios are very high." His AIC Canadian Focused and AIC Canadian Balanced funds own Toronto-Dominion Bank.
After the stellar rise in financial stocks since March, Mr. Cole has taken profits and reduced his holdings in other financials such as Sun Life Financial Inc. and Great-West Life Assurance Co., along with a quasi-financial Thomson Reuters PLC.
WHAT ARE THE EXPECTATIONS?
If the earnings forecasts prove accurate, this quarter will mark the seventh consecutive quarter of year-over-year earnings declines for Canadian banks, Macquarie Capital Markets Canada Ltd. said in a report to clients. Sagging third-quarter results will likely reflect the continuing rise in loan-loss provisions and the effect of a 4-per-cent rise in the average number of shares outstanding on a fully-diluted basis, the report said.
The Bank of Montreal kicks off the bank earnings season tomorrow. Analysts forecast its third-quarter profit declined 14 per cent to 95 cents a share from a year ago, according to Thomson Reuters First Call.
Analysts think the Canadian Imperial Bank of Commerce will see its third-quarter profit drop 16 per cent to $1.39 a share when it reports on Wednesday. On Thursday, the Royal Bank of Canada is expected to post a 20-per-cent slump in third-quarter profit to 91 cents a share and the Toronto-Dominion Bank a 14-per-cent drop to $1.23 a share.
Reporting by the five largest Canadian banks winds up on Friday, with the Bank of Nova Scotia forecast to see its profit decline 16 per cent to 84 cents a share.
HOW WILL THE MARKET REACT?
Investors will be tuning in to hear what the banks have to say about the state of corporate and commercial lending, and how real estate loans are faring. Another key they'll be paying attention to is whether the credit environment is likely to improve, strategists say.
Macquarie thinks the bank's share prices have already factored in all the short-term positives.
"Given that our valuation methodology prices the stocks based on our outlook for profitability over the next four quarters, on aggregate the Canadian banks do seem expensively priced," said Macquarie analysts Sumit Malhotra and Bryan Brown.
Another issue is with the quality of bank earnings.
As a result of the "characterization of 'operating' earnings put forth by management," which excludes one-time capital market-related writedowns, bank income based on generally accepted accounting principles now accountsfor only 56 per cent of so-called operating earnings, compared with 94 per cent in 2007, Mr. Malhotra and Mr. Brown said. They expect that differential will narrow as loan losses fall.
Desjardins Securities has a more optimistic view and sees about a 10-per-cent upside for its "hold"-rated Canadian banks, and a potential 22-per-cent gain in share prices for "top pick" Toronto-Dominion Bank.