Bank earnings preview: Focus remains on bad loan provisions in Q3

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TORONTO — Canadian banks will continue putting aside massive amounts of cash to cover unpaid or “bad” loans in their second quarters, but the totals won’t be nearly as high as they were in the previous quarter, analysts say.

“The greatest amount of investor focus is going to be on credit, even though we are not going to see any real uptick in impairments,” Barclays analyst John Aiken told The Canadian Press.

“I think that will be a bit of a sigh of relief for investors.”

His prediction — mirrored by several other analysts — comes as Canada’s six largest and most prominent banks are due to report their third-quarter earnings this week.

The banks have continued to face pressure in the quarter as the COVID-19 pandemic continues to wreak havoc on the economy, employment and investments.

They have tried to rise to the occasion by offering mortgage and loan deferrals, but both measures have weighed down their earnings, eaten into their margins and pushed them to collectively allocate about $10.9 billion in provisions for credit losses.

This quarter, Aiken said, the question is going to be: where is growth coming from?

“The banks are facing a lot of challenges because of the low rate environment, because of the liquidity in the system,” he said.

“We are expecting to see margin compression continue and this is not surprising because the U.S. banks experienced margin compression in their second quarter.”

He is expecting to see modest growth from residential mortgages and wealth management rebound and believes capital markets will be strong because of ongoing volatility.

But banks, he said, are still going to have to be hypersensitive about capital.

“You don’t want to put yourself in a position where you’ve deployed capital either through an acquisition or … in something that you think is a fantastic strategy that’s only going to bear fruit two to three years out,” Aiken said.

“Then you paint yourself in a little corner if things suddenly turn worse than expected.”

National Bank of Canada analyst Gabriel Dechaine also predicts that margin compression will persist beyond the quarter.

“While we are definitely not out of the woods, we believe Q3/20 bank results could yield positive surprises including lower than expected provisions for credit losses, strong capital markets results,” he said in a note to investors.

He forecasts earnings per share will sink 14 per cent below 2019 levels and says his top pick is Royal Bank of Canada.

“Given where the bank positioned itself last quarter, we believe RBC could report one of the sharper declines in Q3/20 provisions, assuming no material change to the bank’s economic outlook,” Dechaine said.

RBC said last quarter that its credit-loss provisions amounted to $2.83 billion, up 564 per cent from $426 million in the same quarter last year.

Bank of Montreal’s reached $1.11 billion, up 531 per cent from $176 million, National Bank of Canada’s hit $504 million, up from the $84 million, and Bank of Nova Scotia’s totalled nearly $1.85 billion, more than doubling from $873 million a year earlier.

TD Bank Group’s provisions for credit losses soared to nearly $3.22 billion from $633 million during the same period a year ago and Canadian Imperial Bank of Commerce put aside $1.41 billion, up from the $255 million it reported in its previous second quarter.

Dechaine is also watching CIBC because he thinks it has the potential to beat credit expectations and perform well after selling FirstCaribbean to GNB Financial Group Ltd. for US$797 million.

The deal is expected to close in the second half of the year.

Dechaine said, “We believe feeling the pulse on this transaction is important and expect to do so when CIBC reports.”

Companies in this story: (TSX:CM, TSX:RY, TSX:TD, TSX:BNS, TSX:NA, TSX:BMO)