Canadian Bank Outlook 2019: Macro Risks Moderating, Rates Rising, And Bail-In-Eligible Borrowings Under Way - S&P Global Ratings
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Canadian Bank Outlook 2019:
Macro Risks Moderating, Rates Rising, And Bail-In-Eligible Borrowings Under Way
AUTHORS
Nikola Swann Shameer Bandeally
Lidia Parfeniuk Amit Tiwari
Contents
Outlook Summary 3
Macroeconomic Backdrop 4
Canadian Banking Risks Still Low Despite 6
Deterioration
Canadian Bank Ratings All Stable But Two 10
Asset And Income Trends Healthy 12
Digitization And Cybersecurity In Focus 16
Capitalization Adequate-To-Very Strong Despite 18
Headwinds
Asset Quality As Good As It Gets 19
Funding And Liquidity Steady As Bail-In Regime 22
Implemented
Jan. 18, 2019 2
The Outlook For Canadian Banks Is Mostly Stable
Improving Neutral Worsening
We expect decelerating but still relatively strong economic growth, with increasing rates. We expect banking industry
Macro
risks to remain stable, and our base case presumes growth in consumer debt and house prices will moderate, albeit
environment from elevated levels, in 2019.
Our expected macroeconomic backdrop implies continued growth, in 2019, in loans and net interest margin (NIM)
Revenues & driven by corporate lending. We also expect wealth management and foreign operations to represent increasingly
Expenses significant proportions of revenue, but market-sensitive income to remain a drag. On the expense side, we expect
gradual progress with digitization to continue to lower input costs, but cybersecurity spending to increase.
We expect profitability to hold largely steady, in 2019, as accelerating net interest income (NII) replaces decelerating
Profitability growth in non-interest income.
We expect mild deterioration in nonperforming assets (NPAs) and net charge-offs (NCOs), reflecting the increased
Asset Quality debt-servicing cost implied by interest rates, but for these metrics to remain near the stronger end of the past
decade’s performance.
We expect capitalization by our (S&P Global Ratings risk-adjusted capital [RAC]) measure to remain unchanged and
Capital ratings neutral for most banks.
Funding & We expect the incremental adding of bail-in-eligible senior resolution notes to not significantly alter prior issuance
Liquidity volumes, nor cost-of-funds. Liquidity is unlikely to improve much beyond its current level.
Jan. 18, 2019 3
Macroeconomic Backdrop: Decelerating But Still Relatively Strong
Growth As Rates Increase, So Long As Trade Keeps Flowing
S&P Global Ratings’ Economic Outlook – Select Economic Indicators Unemployment at its lowest in 40 years
2014 2015 2016 2017 2018F 2019F
Real GDP (%) 2.9 1.0 1.4 3.0 2.1 2.0
CPI (%) 1.9 1.1 1.4 1.6 2.3 2.1
Unemployment (%) 6.6 6.9 7.0 6.3 5.8 5.8
Short-term rate 1.2 0.8 0.8 1.4 2.1 2.5
Long-term rate 1.9 1.5 1.5 2.0 2.5 3.3
U.S.-Mexico-Canada Agreement (USMCA) will present manageable
changes for several industries such as dairy (price, market share) and
automobiles (production costs, tariffs). U.S.-China trade tensions Exports rebounding post-USMCA
continue to temper business sentiment.
We expect Canada’s economic growth to decelerate but remain
relatively strong, as net exports continue to benefit from decelerating
but still relatively strong U.S. growth, while rising borrowing costs,
already high consumer debt burdens, and tighter underwriting
standards continue to dampen housing demand.
Interest rates will continue to climb as the Bank of Canada moves its
policy rate toward its neutral range (2.5%-3.5%), from the current
1.75%. We expect the policy rate to end 2019 at 2.5%.
Sources: S&P Global Ratings, Bank of Canada. CPI--Consumer Price Index.
Jan. 18, 2019 4
USMCA: Little Impact… So Long As It’s Ratified
USMCA Partner Trade – Bil. US$
700 140
600 120
500 100
400 80
300 60
200 40
100 20
- -
1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017
Imports (LHS) Exports (LHS) Net Exports (RHS)
Canadian exports rebounded in the latter half of 2018 and are expected to continue expanding in 2019 along with net exports.
None of the USMCA key updates are expected to present significant challenges to Canadian industries.
Auto + parts quotas should benefit Canada but will be balanced against general competitive forces, evidenced by recent GM
closures
Marginally increased access to local dairy markets for U.S farmers should boost U.S.-to-Canada exports by about $70 million, but
access is still only 3.6% of the market, with heavy tariffs on exceeding quotas
Ratification in 2019 was already least certain in the U.S.; the partial government shutdown can only delay U.S. ratification. If ratification
were to go off the rails, Canadian business sentiment (and related bank revenues, such as those tied to corporate investment spending)
would likely worsen.
Sources: S&P Global Ratings, World Bank.
Jan. 18, 2019 5Canada Still A Low-Risk Country For Banking, Despite Mild
Deterioration
BICRA Brief: Canada
BICRA group: ‘2’
ER/ER trend: 3/Stable
IR/IR trend: 2/Stable
Recent years’ incremental
deterioration led to, in 2018:
ER worsened to ‘3’ from ‘2’…
…but ER trend improved to stable
from negative.
Looking Ahead:
We expect economic and industry risk
trends to remain stable in 2019.
The 2018 worsening of the ER score reflects our concerns over high consumer indebtedness and elevated house
prices leaving the Canadian banks more vulnerable to downside risks, but we think these risks are moderating and
further deterioration is unlikely in 2019.
A BICRA (Banking Industry Country Risk Assessment) is scored on a scale from ‘1’ to ’10’, ranging from the lowest-risk banking systems (group ‘1’) to the highest-risk (group ‘10’). ER –
Economic Risk; IR – Industry Risk.
Source: S&P Global Ratings.
Jan. 18, 2019 6Key Sources Of Credit Risk: Consumers And The Housing Market
Housing Price Growth DSIBs – Median Consumer Loan Growth
200% 10%
180%
160% 8%
140%
120% 6%
100%
80% 4%
60%
40% 2%
20%
0%
0%
Oct-06
Oct-08
Oct-10
Oct-12
Oct-14
Oct-16
Oct-18
Feb-06
Feb-08
Feb-10
Feb-12
Feb-14
Feb-16
Feb-18
Jun-05
Jun-07
Jun-09
Jun-11
Jun-13
Jun-15
Jun-17
-2%
2012 2013 2014 2015 2016 2017 2018
Composite Vancouver Toronto Montreal Credit Cards HELOC Other Personal
Composite includes the 11 largest metropolitan areas.
Housing prices in the two largest and hottest markets (Toronto and Vancouver) cooled in 2018, with year-over-year price growth of about 3%-5%
in major markets, while some western markets (Edmonton, Calgary) declined. We expect residential mortgage (RM) credit and house prices to
continue to increase in 2019, reflecting continued strong underlying demand, but at a more moderate pace, tempered by higher interest rates and
tightened underwriting by the largest lenders, reflecting, among other factors, the B-20 stress test implemented in 2018.
"Other consumer" loan growth has converged in recent years to about a 3%-6% pace (median growth among the big banks).
1. Credit Card activity has been influenced by M&A activity, such as BNS completing its acquisition of BBVA Chile, and acquiring assets or
partnerships in Colombia and Peru. We don’t expect the Aeroplan-Aimia deal to affect card volumes with TD and CIBC, as we expect Air
Canada to seamlessly take over the loyalty program. We expect expansion of this kind to continue in 2019, particularly abroad.
2. HELOC growth decelerated over the past year, likely reflecting rising interest rates, both of which we expect will continue.
3. Other Personal lending is on an uptick--mainly due to automobile lending, such as TD’s U.S. expansion plans in the space, which we
expect will continue in 2019.
Sources: S&P Global Ratings, company filings, Teranet. DSIB--Domestic systemically important bank. HELOC--Home equity line of credit.
Jan. 18, 2019 7Key Drivers Of Our 2018 Revision Remain In Focus
High-profile cases of documentation deficiencies in the RM
Residential Mortgages Continue Increasing;
underwriting process, such as with Home Capital and Laurentian
Bank, have led to renewed efforts to tighten lending frameworks Arrears Improve
against fraud, including talk of officials allowing the Canada 4,400 0.40%
Revenue Agency to share income data with lenders and/or
mortgage insurers. Our move to ER3/Stable assumes a limited 4,350 0.30%
Mil.
amount of further evidence emerges regarding fraud or other RM 4,300 0.20%
underwriting deficiencies.
4,250 0.10%
Positively, RM arrears/loans have been on a downward trend for 4,200 0.00%
many years. Still, we believe rising DTI and house prices 2011 2012 2013 2014 2015 2016 2017 2018
strengthen incentives for fraud, although we expect these Sep.
incentives to moderate, near current levels, in 2019.
Mortgages (LHS) Arrears (LHS) Arrears / Total Mortgages (RHS)
An increasing share of brokered mortgages was another factor in
our move to ER3, as we believe brokers’ incentives differ from
lenders’, but we also expect moderation in the brokers’ share in
Macro Credit Metrics
2019. 180% 15%
10%
130%
Household DTI by Product
5%
80%
0%
0% 50% 100% 150% 200%
30%
Mortgage HELOC Cards Auto Installment Other -5%
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018 F
2019 F
-20% -10%
With anticipated rate hikes and tightened B-20
guidelines constraining refinancing options, we Household DTI (LHS)
Household debt/GDP (LHS)
expect mortgage arrears to tick up in 2019. Credit/GDP (LHS)
Real change in residential house price index (RHS)
Sources: S&P Global Ratings, company filings, Canadian Bankers Association, Canada Mortgage Housing Corp. DTI--Debt-to-income.
Jan. 18, 2019 8Brokered Residential Mortgages: Share Growth To Moderate
Broker Share Of Mortgage Originations
60
50
40
(%)
30
20
10
0
2012 2013 2014 2015 2016 2017
First-time Buyers Repeat Buyers Refinancers Renewers
In light of the latest Canada Mortgage and Housing Corp. (CMHC) consumer survey, we believe the brokered share
declined slightly in 2018, among first-time and repeat buyers, and refinancers, while remaining steady among
renewers.
Nearly 90% of broker market volume flows through 10 dealers.
We expect brokers’ share of the market to continue to grow in 2019, although at a more moderate pace, as house-
priceCMHC.
Sources: growth decelerates.
Jan. 18, 2019 9Canadian Bank Ratings: All Stable But Two
Business Capital & Risk Funding & Group Systemic ICR &
Anchor SACP
Position Earnings Position Liquidity Support Importance Outlook
Bank of Montreal a- Adequate Adequate Strong Avg. & Adeq. a High A+/Stable
Bank of Nova Scotia bbb+ Strong Adequate Strong Avg. & Adeq. a High A+/Stable
Canadian Imperial
a- Adequate Adequate Adequate Avg. & Adeq. a- High A+/Stable
Bank of Commerce
Above Avg. &
Central 1 Credit Union a- Weak Very Strong Moderate a- Low A-/Stable
Strong
Fédération des Caisses
a- Adequate Strong Adequate Avg. & Adeq. a Moderate A+/Stable
Desjardins du Québec
Below Avg. &
Home Capital Group Inc. a- Very Weak Strong Weak b+ Low B+*/Positive
Moderate
HSBC Bank Canada a- Moderate Adequate Adequate Avg. & Adeq. bbb+ Core Low AA-/Stable
Laurentian Bank of
a- Weak Adequate Adequate Avg. & Adeq. bbb Low BBB/Negative
Canada
Above Avg. &
Manulife Bank of Canada a- Weak Very Strong Moderate bbb+ Strategic Low A+/Stable
Adeq.
National Bank of Canada a- Adequate Adequate Adequate Avg. & Adeq. a- Moderate A/Stable
Royal Bank of Canada a- Strong Adequate Strong Avg. & Adeq. a+ High AA-/Stable
Toronto-Dominion Bank a- Strong Adequate Strong Avg. & Adeq. a+ High AA-/Stable
Movements From The Anchor:
Very Weak (-5) Weak (-2) Moderate (-1) Adequate (0) Strong (+1) Very Strong (+2)
Source: S&P Global Ratings. SACP--Stand-alone credit profile. ICR--Issuer credit rating. *Home Trust Co. (lead operating company) ICR. Home Capital Group Inc. (non-operating holding
company or NOHC) ICR is B-/Positive, because we view an NOHC as reliant on dividends and other distributions from its operating companies.
Jan. 18, 2019 10Tiptoeing Into Bail-in-eligibility Since September
Key Takeaways
Canadian Systemically 1. Bail-in-eligible ("senior subordinated" or "senior resolution") issue ratings are gradually
Important Banks Ratings And being assigned to DSIBs
Outlooks Are Unchanged 2. No change to DSIB ICRs (applicable to senior debt ineligible for bail-in) nor outlooks
Following Release Of Draft Bail- No change in our government support assessment on Canada (“Supportive”)
In Regulations, June 19, 2017
3. No resolution counterparty rating assigned to DSIBs
4. We view Canada’s resolution regime as “effective” (as defined in our ALAC criteria1)
We rate bail-in debt at one notch below the SACP, reflecting the common-
A Closer Look At How
equity conversion clause--that we consider to be effective subordination
Proposed Bail-in Regulations
May Affect Canadian Bank
Ratings, July 14, 2017 BMO BNS CM NA RY TD
Anchor a- bbb+ a- a- a- a-
SACP a a a- a- a+ a+
Canadian Systemically Systemic Importance +1 +1 +2 +1 +1 +1
Important Banks Ratings And
ICR A+ A+ A+ A AA- AA-
Outlooks Are Unchanged On
Release Of Final Bail-In Bail-In Debt2 A- A- BBB+ BBB+ A A
Regulations, April 20, 2018
We expect the remaining Canadian D-SIFI, the Desjardins Group, to become subject to a
separate bail-in regime, possibly as early as April 2019, based on the public consultation
Review Of Canadian Bank administered by Desjardin’s regulator (Quebec’s Autorité des marchés financiers or
Resolution Regime Completed; AMF). We plan to comment further on any implications for our ratings on Desjardins,
Ratings And Outlooks On once the AMF’s final regulations are published.
Systemically Important Banks
Unchanged, Aug. 16, 2018 1Bank Rating Methodology And Assumptions: Additional Loss-Absorbing Capacity; April 27, 2015.
2Only RBC, TD, and CIBC have issued bail-in debt, to date.
Sources: S&P Global Ratings. ALAC--Additional loss-absorbing capital. DSIB--Domestic systemically important bank.
Jan. 18, 2019 11Balance Sheet: Corporate Lending To Continue To Drive Growth
Loan Growth By Type - All Rated Average Loan Mix – All Rated Canadian Banks
Canadian Banks 100%
90%
50%
80%
40% 70%
60%
30% 50%
40%
20%
30%
10% 20%
10%
0% 0%
2012 2013 2014 2015 2016 2017 2018 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018
Residential Real Estate Commercial & Corporate Residential Real Estate Commercial & Corporate
Commercial Real Estate Other Consumer Commercial Real Estate Other Consumer
Post-2011 (generally accepted accounting principles to International Financial Reporting Standards [IFRS]) balance-sheet growth has been
relatively stable, averaging about 6% per year over the past few years.
Commercial/corporate lending has driven loan growth in recent years and is becoming a larger part of the loan mix for many banks, a trend
we expect will continue, in light of our macroeconomic assumptions.
We expect DSIBs to increase foreign assets more aggressively, augmented by mergers and acquisitions (M&A) activity, particularly in the
U.S. where many DSIBs have subsidiaries.
We expect aggregate DSIB loans to grow at about 5%-6% into 2019, with deposits growing at a similar rate.
Source: S&P Global Ratings, company filings.
Jan. 18, 2019 12M&A: Investments In Wealth & Technology To Continue
Two key spheres dominated M&A activity in 2018: wealth and technology.
Banks are continuing to make bolt-on acquisitions of small-to-midsize asset management firms, with BNS leading the way in 2018 with
several high-profile multi-billion-dollar acquisitions.
Notably, DSIBs are also gobbling up niche tech startups, such as the acquisition of artificial intelligence startup Layer 6 by TD, and tech-
savvy specialty finance firm Wellington Financial by CIBC--part of a broader move by banks to effectively analyze the mass amounts of
customer data on hand, both for better cross-sell and to find and better realize cost efficiencies.
RBC has been investing in AI research as well, having opened labs in Toronto and Edmonton.
We expect more of the same M&A in 2019 as wealth revenues show no sign of slowing down, and competitive pressures re: technology
continue, in Canada and abroad.
Buys… For… Industry
Bank of Montreal KGS-Alpha Undisclosed Capital Markets
Bank of Nova Scotia Jarislowsky-Fraser $1 Billion Wealth Management
Bank of Nova Scotia MD Financial $2.5 Billion Wealth Management
Bank of Nova Scotia Misc. LatAm/Caribbean Undisclosed P&C, Cards
Canadian Imperial Bank of Commerce Wellington Financial Undisclosed Advisory, Venture Capital
Toronto-Dominion Bank Greystone Investments $800 Million Wealth Management
Toronto-Dominion Bank Layer 6 Undisclosed Artificial Intelligence
Source: S&P Global Ratings, company filings. P&C--Personal & commercial.
Jan. 18, 2019 13NIMs Are Rising And Will Continue To Do So
The Bank of Canada increased the policy (overnight) rate three
A Tale of Two Rates times in 2018, from 1.00% to 1.75% as part of its efforts to
2.65% normalize monetary policy amid tight labor markets, rising exports,
1.50% and relatively strong macroeconomic data. We expect the bank’s
2.60% policy rate to end 2019 at 2.5%.
1.00%
2.55%
The rate hikes are helping domestic NIMs upward as DSIBs have
2.50% 0.50% succeeded in raising lending rates more quickly than their funding
costs are increasing, sustaining profitability despite decelerating
2.45% 0.00% growth in non-interest income. The latter was largely a result of
Q1 17 Q2 17 Q3 17 Q4 17 Q1 18 Q2 18 Q3 18 Q4 18 market volatility causing declines in underwriting, trading, and
DSIB Domestic NIM (LHS) BoC Overnight Rate (RHS) other market-sensitive income; we are assuming negative impact
from market volatility continues in 2019.
DSIBs+ Profitability (Mostly) Steady In 2019
5% 18%
4% 16%
14%
3%
12%
2% 10%
1% 8%
We expect NIMs to slightly increase in 2019, on
average across the big banks. 6%
0%
4%
-1% 2%
-2% 0%
2015 2016 2017 2018 2019F
Average Operating Leverage (LHS) Return On Equity (RHS)
Growth in Operating Revenues (RHS) Growth In Noninterest Expenses (RHS)
Growth In Net Interest Income (RHS) Growth in Noninterest Income (RHS)
Source: S&P Global Ratings. DSIBs+ is DSIBs plus Laurentian Bank.
Jan. 18, 2019 14Revenues: Wealth Management & Foreign Operations Increasingly Important
Since 2012, wealth management (WM) revenues have increased in Revenue Contribution By Business Line
revenue contribution to 21.7% from 18.1%. 100%
80%
We expect these revenues to gain further traction while capital markets
revenues decline in relative importance. 60%
40%
Foreign revenues are also becoming more important, helped by
acquisitions that are being progressively integrated--such as those by 20%
CIBC in the U.S., and BNS in Latin America and the Caribbean.
0%
-20%
BMO BNS CM NA RY TD
P&C S&T Wealth Insurance Other
DSIB Revenue by Activity DSIB Revenue Trends By Geography
25% 70% 40%
24%
23% 68% 38%
22%
21% 66% 36%
20%
19% 64% 34%
18%
17% 62% 32%
16%
15% 60% 30%
2012 2013 2014 2015 2016 2017 2018 2014 2015 2016 2017 2018
WM / Total Revenues (%) S&T / Total Revenues (%) Canada (LHS) International (RHS)
Sources: S&P Global Ratings and company filings. S&T--Sales & trading.
Jan. 18, 2019 15Digitization To Continue To Lower Input Costs, Offsetting Increased
Cyber-Risk Spending
$14 Billion spent on cybersecurity in 2017 by Canadian businesses
36% Business leaders planning to refresh their security architecture for digital transformation
52% Executives in Canada’s financial sector who believe that cyber-risk will be the most
disruptive trend in the next 24 months
We expect further penetration in digital sales, adoption, and self-
service among all Canadian banks, particularly in mobile banking and DSIBs - Technology Spend
among smaller Canadian banks that lack the pre-existing 15% 60%
infrastructure and scale for branch banking.
13% 58%
Increased digitization brings its own risks: the big five banks are
11% 56%
among the top 100 most-phished brands in North America (according
to VadeSecure). 9% 54%
Cybersecurity spending thus far has been modest, despite, in 2018, 7% 52%
several high-profile security breaches in large Canadian banks, such
as BMO, CIBC, and RBC. 5% 50%
2013 2014 2015 2016 2017 2018
We expect technology spend to continue increasing as companies CES / NIE (LHS) NIE / Operating Revenues (RHS)
invest more into their systems and modernize their digital
architecture.
Sources: S&P Global Ratings, VadeSecure, Statistics Canada, PWC. CES--Computer, equipment, software. NIE--Noninterest expense.
Jan. 18, 2019 16Digitization & Cyber-Risk To Remain Top-Of-Mind
From the Bank of Canada’s Financial System Survey, it appears respondents believe:
• Machine learning and artificial intelligence will have the largest impact, of the types of innovation cited, on the operations
of the Canadian financial services industry in the next three years.
• From a market structure perspective, two key innovations--systematic trading strategies and open banking, which allows
clients to share their banking data with other financial institutions--will have the largest impact.
• From a risk perspective, cyber attacks were cited as the biggest threat to the financial system.
Jan. 18, 2019 17Capitalization To Remain Ratings Neutral For Most
DSIBs - Average Capital Position RAC Ratio Distribution, All Rated Canadian
10.0% 5.0%
Banks
9.5% 70%
4.5%
9.0% 60%
8.5% 4.0%
50%
8.0%
3.5%
7.5% 40%
7.0% 3.0% 30%
20%
10%
July 2017 RAC Criteria ER 3
0%
S&P RAC (LHS) S&P Leverage (RHS) Adequate (7% - 10%) Strong (10% - 15%) Very Strong (>15%)
The majority of rated Canadian banks are expected to maintain an adequate RAC ratio during 2019, which is ratings neutral.
The worsening of the economic risk score to '3' from '2' in 2018, combined with the new assumption that a small (5%) proportion of uninsured RMs are non-
prime, had a 40 bps-50 bps negative impact on DSIBs RAC ratios, bringing the average down to 8.2% in second-quarter 2018. The effect was more
pronounced on the smaller Canadian banks (100 bps on average), reflecting both a higher concentration in Canadian exposures and our assumption that the
proportion of non-prime among uninsured RMs is slightly higher (10%), but the majority of these started from a stronger capital position than the DSIBs. No
rating actions directly resulted from these changes.
We expect the DSIB RAC ratios to moderately increase in 2019, in concert with leverage ratios and regulatory capital, as these banks build resources for
future acquisitions. The impending phase-out of old Tier 1 innovative instruments is not expected to affect our RAC assessments.
A surprise 25 bps increase in the domestic stability buffer of DSIB capital ratios in December is manageable, with the average Common Equity Tier 1 for
DSIBs at 11.5%, far above the 9.75% prescribed minimum. We don’t anticipate any impact on DSIBs' S&P Global Ratings RAC figures.
Source: S&P Global Ratings. 2018 RAC average is forecast.
Jan. 18, 2019 18Oil & Gas Exposures Remain Less Important Than You Might Think
Crude oil (West Texas Intermediate) prices dropped over 60% in the last four months of 2018, ending at a two-and-a-half year low of $45.4.
Despite price volatility, risks to banks remain low, as the DSIBs' oil and gas exposure is less than 2% of total loans, and less than 5% of business and government
loans, on average.
Asset quality in the sector remains strong as well, with oil and gas NPAs making up less than 2% of oil and gas loans for most banks.
Western Canadian Select exposure remains low, at about 10% of total oil and gas exposure, with the majority of the exposure being investment-grade.
Provisions for credit losses (PCLs) in the sector have not been affected by IFRS 9, with most banks posting reduced PCLs year-over-year in energy.
We expect PCLs overall to increase about 12% in 2019, in-line with the previous year. We could see a spike in PCLs akin to the energy price decline of 2014-2015,
but, similar to then, modest exposures limit the significance of asset quality concerns.
Oil & Gas - Assets & Asset Quality Oil & Gas Exposure Breakdown
3.0% 100%
2.5% 80%
2.0% 60%
1.5%
40%
1.0%
20%
0.5%
0%
0.0% BMO BNS CM NA RY TD
BMO BNS CM NA RY TD
Exploration & Production Drilling & Services
Net O&G Loans / Total Loans Net O&G NPAs / O&G Loans (%) Midstream & Downstream (RMD) Other
Source: S&P Global Ratings. RMD--Refining, marketing, distribution.
Jan. 18, 2019 19Underwriting: Trend Toward Lower Insurance (But Lower Loans-to-Value) To
Continue But Decelerate
Insured Mortgages / Total Mortgages (%) DSIBs - Average Uninsured LTV (%)
75% 60%
70%
65% 58%
60%
56%
55%
50%
54%
45%
40%
52%
35%
2013 2014 2015 2016 2017 2018
50%
BMO BNS CM NA RY TD 2013 2014 2015 2016 2017 2018
The proportion of insured mortgages has declined as portfolio insurance falls away.
Uninsured loan-to-value ratios (LTVs) on the Canadian book were on a slight uptick in 2018 after years of decline, a trend we expect will
continue into 2019. Uninsured LTVs on new originations averaged around 67% at fourth-quarter 2018.
On average, uninsured mortgages with high (>75%) LTVs and low (< 650) FICO/Beacon scores have made up less than 1% of uninsured
mortgages among DSIBs.
Insured mortgage volumes have historically been low for the smaller banks, and we expect these lenders to issue more uninsured mortgages
as well.
We believe the majority of uninsured mortgages outstanding lent by DSIBs have a FICO/Beacon score above (better than) 700.
Source: Company filings.
Jan. 18, 2019 20Asset Quality: Non-Mortgage Consumer Lending To Weaken, Slightly, But
Overall Strength To Remain
Credit Metrics: All Rated Canadian NPAs: All Rated Canadian Banks (% Loans)
Banks 4.0%
1.4% 3.5%
1.2% 3.0%
1.0% 2.5%
0.8%
2.0%
0.6%
0.4% 1.5%
0.2% 1.0%
0.0% 0.5%
0.0%
2009 2010 2011 2012 2013 2014 2015 2016 2017 2018
NCOs (% loans) NPAs (% loans) Residential RE C&C CRE Other Consumer
NPA – Nonperforming Assets.
Asset quality has largely remained resilient in the face of growing
consumer debt and housing prices, with NPAs and NCOs holding NCOs: All Rated Canadian Banks (% Loans)
steady, or improving, across most segments. 1.0%
0.9%
0.8%
Other consumer debt remains the area with the highest loss rates,
0.7%
but has been declining since 2017 due to higher recoveries in
0.6%
various products such as cards and auto. 0.5%
0.4%
We expect aggregate asset quality to deteriorate slightly in 2019, 0.3%
reflecting the increased debt-servicing cost implied by interest 0.2%
0.1%
rates, but remain near the stronger end of the past decade’s
0.0%
performance. 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018
Residential RE C&C CRE Other Consumer
Sources: S&P Global Ratings, company filings. C&C--Corporate and commercial. CRE--Commercial real estate.
Jan. 18, 2019 21Funding: Incremental Adding Of Bail-In Debt To Continue
Canadian Banks – Funding Metrics Subordinated
Debt Bank Deposits
150% 105% 4% 5%
100% Other
140% 95% Securitization
90% 16% Other BDNs, CD, CP
130% 32%
85% 2%
80% Covered
120%
75% Bonds 2014
110% 70% 10%
65%
100% 60% Senior Notes
ABCP
2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 29%
2%
Loans / Deposits (LHS) S&P Stable Funding Ratio (RHS)
DSIBs Wholesale Funding Mix
DSIBs - Covered Bonds / Wholesale Funding Subordinated Bank
Debt Deposits
Other 3% 2%
15%
Securitization
13% 12% Other
4% BDNs, CD,
11% CP
9% Covered 32%
Bonds
7% 14%
2018
5% Senior
2014 2015 2016 2017 2018 Notes ABCP
31% 2%
Most rated banks enjoy an S&P-calculated stable funding ratio of 100% or more.
Covered bond issuances have increased 40% on average from five years ago.
We expect DSIBs to increasingly issue senior resolution notes (following the lead of TD and RBC) without significant disruption to prior
issuance volumes, nor cost-of-funds.
Sources: S&P Global Ratings, company filings. CDs--Certificates of deposit. CP--Commercial paper. ABCP--
Asset-backed commercial paper. NSFR--Net stable funding ratio.
Jan. 18, 2019 22Liquidity Unlikely To Improve Much More
DSIBs - Liquidity Metrics Cash
NHA MBS 11%
1.20x 140% 14% Bank Deposits
1.15x 135% Other 3%
2%
1.10x 130%
1.05x 125% Corporate
Equity 2013 Government
1.00x 120% 21% Debt
MBS, ABS, 33%
0.95x 115%
CMO
0.90x 110% 2%
Corporate Debt
0.85x 105%
14%
0.80x 100%
2009 2010 2011 2012 2013 2014 2015 2016 2017 2018
Liquidity Coverage Ratio (RHS) BLA / ST (LHS)
DSIBs Liquid Asset Mix
All DSIBs have a liquidity coverage ratio of well over 100%, as well as a
BLA/ST ratio comfortably over 1.0x, despite a slight downward trend in
2018. Barring further regulatory incentive, we do not expect the banks (as Cash
a group) to significantly improve their liquidity, as rising interest rates NHA MBS 10%
10%
raise the opportunity cost to holding it. Bank Deposits
Other 4%
Corporate 2%
Banks are well-positioned to handle liquidity stresses. In particular, Home Equity
Capital has made significant progress in pulling back from the liquidity 15%
run of 2017. 2018
Government securities have become a higher portion of unencumbered MBS, ABS, Government
Corporate Debt CMO
liquid asset holdings, a trend we view as positive given the majority of Debt
13% 2%
holdings in the sub-category are Canadian, U.S., and other highly rated 44%
governments.
Sources: S&P Global Ratings, company filings. BLA/ST--Broad liquid assets to short-term wholesale funding.
Jan. 18, 2019 23Related Research
Americas Economic Snapshots, Dec. 21, 2018
Global Banks 2019 Outlook: Bracing For More Volatility, Dec. 3, 2018
Review Of Canadian Bank Resolution Regime Completed; Ratings And Outlooks On Systemically Important Banks
Unchanged, Aug. 16, 2018
Laurentian Bank of Canada Ratings Affirmed; Off CreditWatch; Outlook Negative On Concentrated Mortgage
Exposure, April 27, 2018
Canada Economic Risk Higher On Elevated House Prices And Household Debt And Mortgage Fraud; No Ratings
Affected, Feb. 23, 2018
Canadian Banks Midyear 2018 Outlook: Bail-In, Mortgage Tightening, Tax Reform, And IFRS Affecting The Canadian
Banks, Aug. 17, 2018
How IFRS 9's Expected Credit Loss Framework Will Affect Canadian Banks' Loss Provisioning In 2018 And Beyond,
Dec. 18, 2017
Jan. 18, 2019 24Analytical Contacts
Nikola Swann Lidia Parfeniuk
Toronto Toronto
+1 416 507 2582 +1 416 507 2517
nikola.swann@spglobal.com lidia.parfeniuk@spglobal.com
Amit Tiwari Shameer Bandeally
Toronto Toronto
+1 416 507 3224 +1 416 507 3230
amit.tiwari@spglobal.com shameer.bandeally@spglobal.com
Robert Palombi Devi Aurora
Toronto New York
+1 416 507 2529 +1 212 438 3055
robert.palombi@spglobal.com devi.aurora@spglobal.com
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