Low loan provisions fuel Canadian bank earnings: Fitch

The Covid-19 shock has produced much less credit turmoil than feared, allowing Canada’s big banks to sustain earnings as they unleash reserves initially built up in anticipation of widespread credit issues, Fitch Ratings reports.

In the third quarter, aggregate net income for the big banks (and Desjardins Group) rose by 56.3% compared with the same quarter last year, Fitch said.

“Stable revenues and lower than normal provisions underpinned a third consecutive quarter of positive [year over year] earnings growth across the domestic systemically important Canadian banks and Desjardins,” it said.

Approximately 20% of the big banks’ earnings in the third quarter were driven by their historically low credit loss provisions, Fitch noted.

With the onset of the pandemic, the banks added $13.7 billion in loan loss provisions, yet they’ve only drawn between 18% and 58% of that amount so far.

“Therefore, further reserve releases will continue to provide a tailwind to earnings through full fiscal year 2021 and into 2022,” Fitch said, at which point the banks should be facing “a period of improved revenue opportunities, including growth in unsecured consumer and commercial loans to pre-pandemic levels and higher interest rates.”

However, this outlook faces downside risks, including resurgent infection rates and and supply chain disruptions that constrain economic activity.

Last week, Fitch slashed its GDP forecast for 2021 to 5.0% from 6.6% in the wake of a weak second quarter and ongoing supply shortages.

In the meantime however, revenue growth has remained positive at the big banks, “helped by continued strength in mortgage origination, wealth management and capital markets segments across most institutions,” Fitch said.

Overall the banks’ wealth management divisions enjoyed solid revenue growth in the third quarter, as higher assets under administration and assets under management boosted fee revenues, it reported.

“Strength was experienced across retail and institutional businesses, and revenues also benefited from increased mutual fund fees and brokerage/retail trading revenues driven by higher customer activity,” Fitch said, adding that this segment should remain strong in the fourth quarter as long as markets remain buoyant.

In capital markets, investment banking revenues were supported by merger and acquisition and loan syndication activity, which was offset by lower fixed income and equity trading revenues amid lower market volatility.

Fitch also reported that the banks remain well capitalized, although it expects capital levels to decline in the “medium term” as temporary restrictions on share buybacks and other capital actions expire, as do regulatory accommodations for credit losses.

“In Fitch’s view, banks remain well positioned to absorb unexpected credit losses related to coronavirus variants or supply chain disruptions,” it said.

James Langton

James is a senior reporter for Advisor.ca and its sister publication, Investment Executive. He has been reporting on regulation, securities law, industry news and more since 1994.