Rate uncertainty looms over Canada’s big banks ahead of earnings

Financial analysts are warning the Big Six

Rate uncertainty looms over Canada’s big banks ahead of earnings

As Canada's banks prepare to unveil their latest quarterly earnings, the prolonged high interest rates are drawing concern from financial analysts. The impact of these rates on the growth and credit quality at the country's top banks is becoming increasingly evident, with experts closely monitoring the situation.

A team from Bank of America, including analysts Ebrahim Poonawala, Gabriel Angelini, Isiah Austin, and Brandon Berman, have highlighted how the sustained high interest environment threatens to overshadow stock valuations and potentially hamper earnings. They pointed out that the five-year government bond yield, which influences mortgage pricing for nearly half of the loans, remains higher than it was when banks last reported their earnings in November.

The analysts noted that the risk to earnings from higher rates could serve as an overhang on stock valuations, signalling a potentially challenging period ahead.

Concerns are also growing around the Canadian job market's outlook, with predictions suggesting the unemployment rate could rise to 6.5% by the end of 2024, a slight increase from the current and pre-pandemic levels.

Gabriel Dechaine from National Bank has observed that expectations for this quarter are muted, with bank stocks lagging the broader market by almost 3% in the early part of 2024. "Shifting rate cut expectations have been a primary drag on performance," he said, reflecting on the cautious stance taken by bank management since the start of the year.

Read next: Rate strategist questions BoC's inflation timeline

Despite a previous trend of stable or improving net interest margins, Dechaine predicts a plateau in this area for the current quarter. He attributes this to a tilt towards more expensive term deposits and a potential slowdown in profitable commercial lending activities.

The analyst also pointed out several risks looming over the Big Six, including the potential for negative GDP growth, changes in credit trends, and heightened regulatory scrutiny on banking operations and capital requirements.

Recent acquisitions by the Royal Bank of Canada (RBC) and the Bank of Montreal (BMO), involving HSBC Canada and Bank of the West respectively, are under the microscope. The completion of these transactions and their integration into the banks' operations are of particular interest to the analysts.

Additionally, they're keeping an eye on the ongoing investigation by the Department of Justice into the Toronto Dominion Bank's compliance with anti-money laundering regulations in the US.

With earnings season kicking off this morning, the financial community is on high alert. Scotiabank and BMO revealed their Q1 results earlier, to be followed in coming days by RBC, the National Bank of Canada, CIBC, and TD Bank. Other institutions, like EQB Inc., Laurentian Bank of Canada, and Canadian Western Bank, will also share their financial results, making this week a significant one for insights into Canada's banking sector's future direction.

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