Canadian Western Bank

CWB

TSX : C$36.99
BUY  Target: C$42.00

COMPANY DESCRIPTION: Canadian Western Bank is a Schedule I chartered bank that operates in Western Canada. The Bank specializes in mid-market commercial lending and offers a full complement of personal banking services. Through the Canadian Western Bank Group, the firm offers a diversified range of financial services across Canada. CWB operates 41 bank branches and has more than $19 billion in assets.
All amounts in C$ unless otherwise noted

Financials- Banks

SOLID LOAN GROWTH
Investment recommendation We are maintaining our BUY rating and slightly increasing our target price to C$42.00 (from C$41.00). We have increased CWB’s valuation target premium to 17% (from 14%), in-line with its historical average (see Fig. 11) to reflect relatively higher EPS growth expectations of 14%/16% vs. the Big-6 banks average at 5%/7% (based on consensus estimates). Our annual EPS estimates remain relatively the same (see Today’s Changes box). The partial replacement of high cost Series 3 Preferred with NVCC (4.4% yield) is offset by our lower NIM forecasts of 2.75% (from 2.87%) for F2015. CWB has a favourable positioning towards our key bank themes, specifically better operating leverage (+1%/1% in F14/15E) and large exposure to higher growth commercial loans (~75%), contributing to solid loan growth (+13% YoY).
Investment highlights  Q1/F14 results solid. CWB reported adjusted cash EPS of $0.67 (up 3.1% QoQ and 15.5% YoY), above our (and consensus) forecast of $0.65. While NII of $125.3 million (up 0.4% QoQ) was lower than expected due to NIM, non-NII of $28.5 million (up 9.0% QoQ) was higher than expected, PCLs were lower than expected, and NIE was in-line. CWB generated positive leverage of 1.7% in Q1/F14. Total loans grew 3.7% QoQ.
 Strong credit trends. The PCL ratio was flat QoQ at 19 bps and below our 21 bps forecast. The result was at the low end of management’s F2014 guidance for 18-23 bps. GILs declined 16.0% QoQ to $53.9 million (33 bps of total loans).
Valuation F2015E bank group P/E multiple of 11.5x that CG uses in valuing the Canadian banks.

Laurentian Bank of Canada

LB

TSX : C$45.92 
BUY  Target: C$51.50

COMPANY DESCRIPTION: Laurentian Bank of Canada (LB : TSX) is a banking institution operating across Canada and offering its clients diversified financial services. The bank serves individual consumers, SME’s, and a wide network of independent financial intermediaries through B2B Trust, as well as full-service brokerage solutions through Laurentian Bank Securities. With $34 billion in assets, LB operates approximately 153 bank branches.
All amounts in C$ unless otherwise noted.

Financials — Banks FOCUSING ON COMMERCIAL

Investment recommendation

We are maintaining our BUY rating and slightly lowering our target price to C$51.50 (from C$52.00/share) following relatively in line Q1/F14 results. Our lower target price mainly reflects our lower NIM (to 1.71% by Q4/F15) forecast to reflect the challenging rate environment. Currently, LB trades at a modest 8.2x P/E (F2015E), and a 22% discount to the Big-6 banks average. CG maintains its group bank P/E multiple of 11.5x. Our EPS growth expectations of 7%/7% are in line with the Big-6 banks at 5%/7% based on consensus estimates. LB has a good positioning toward our key bank themes for 2014 and 2015, specifically positive operating leverage (2.7% in F2015E), capital allocation strategy in regards to MRS and AGF Trust, and focus on commercial loan growth (including new leasing solutions).
Investment highlights 

Q1/F14 results neutral. LB reported adj. cash EPS of $1.29 (excluding certain items including T&I costs), which was slightly below our $1.31 estimate (vs. consensus of $1.30) and down 0.8% YoY. While total revenue was below our expectations, PCLs and adj. NIE were lower than expected. Adj. operating leverage was a strong +4.9%. The average loan balance was down 0.3% QoQ to $26.6 billion (vs. our $27.0 billion forecast).   NIM and loan outlook. NIM was flat QoQ at 1.66%, in-line with our 1.66% estimate. We forecast loan growth of 1.5% in F2014, and 3.7% in F2015 based on growth in commercial (+17% YoY), equipment leasing (new), and a relaunch of Alt-A mortgages. Mostly as a result of the expected change in loan mix towards higher margin commercial loans, we expect an increase in F2015 NIM.  Credit trends mixed; management not concerned. For Q1/F14, PCLs of $10.5 million (16 bps) were below our $11.1 million forecast and up 5% QoQ (31% YoY). That said, GILs increased 15% QoQ (down 13% YoY) to $113.9 million due to higher GILs in personal loans and commercial mortgages. Management is not concerned with the credit trends and noted a reclassification on the personal loan side and is confident of resolutions on the two problem commercial mortgages loans (and noted low LTVs). Valuation Our C$51.50/share target price is based on a 9.2x P/E multiple applied to our F2015E EPS FD. We apply a 20% discount toward the F2015E bank group P/E multiple of 11.5x that CG uses in valuing the Canadian banks

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Bank of Montreal

This BMO branch in Waterloo, Ontario retains t...

This BMO branch in Waterloo, Ontario retains the Molsons Bank name on the plinth. (Photo credit: Wikipedia)

BMO : TSX : C$62.50
BMO : NYSE
HOLD 
Target: C$69.00

COMPANY DESCRIPTION:
With more than $525 billion in assets, Bank of Montreal, together with its subsidiaries, provides a broad range of retail banking, wealth management and investment banking products and solutions in North America and internationally. BMO operates approximately 1,600 bank branches and employs approximately 46,000 full time employees globally.
All amounts in C$ unless otherwise noted.

WEAK QUARTER: MARGINS AND EXPENSES
BMO reported Q2/13 adjusted EPS of $1.46, below our estimate and consensus of $1.49. EPS was up 1% YoY. Excluding the $66 million after tax recovery on the impaired credit portfolio acquired from M&I, EPS would have been $1.36. Relative to our estimate, stronger capital markets revenues were offset by lower insurance results, higher expenses, and a higher tax rate.
The Basel III CET ratio increased to 9.7% from 9.4%, reflecting earnings in the quarter and model refinements which lowered RWA. The bank bought back 4 million shares in the quarter. We believe BMO’s strong Tier 1 ratio and weaker earnings growth supports building in more aggressive share repurchase activity for 2013 and 2014. Insofar as capital allocation is concerned, we believe BMO is leaning more toward buy backs than acquisitions.

U.S. P&C earnings were up 9% YoY reflecting lower PCLs and expenses offset by weak top line growth (loan growth offset by NIM pressure). The 3% YoY decline in expenses reflects M&I synergies. On a US$ basis, total loans were up 0.4% QoQ (the second consecutive quarter of growth) as commercial loans were up 1.9 % QoQ and personal loans were down 1.2%. We expect synergies and good commercial loan growth (offset by NIM pressure) to drive mid- to- high-single-digit earnings growth.
Domestic P&C earnings were down 0.7% YoY, reflecting -2.3% operating leverage and additional NIM pressure. Expense growth was elevated, but consistent with commentary regarding the desire to continue to invest in the franchise. BMO’s issue with operating leverage does not appear to be expense control but rather the very weak top line growth. We do not believe revenue growth will accelerate in the near term largely because we expect margins to remain under pressure.

We continue to believe that BMO’s more aggressive posture in mortgages, while leading to strong mortgage growth this quarter (discussed below) is hurting the bank’s margin. Our 12-month target price of C$69.00 (down from C$70.00) is based on the stock trading at 10.8x our 2013E EPS, a 6% discount to the group multiple of 11.5x. We continue to rate BMO a HOLD. Our outlook on the stock is constrained by an expectation of below group average EPS growth driven by: a) higher PCLs as recoveries decline, b) NIM pressure, and c) weak operating leverage in domestic retail. We also expect BMO’s dividend growth to lag its peers.

Bank of Nova Scotia

Scotia Tower, as seen from Seymour Street.

Scotia Tower, as seen from Seymour Street. (Photo credit: Wikipedia)

BNS : TSX : C$59.61
BNS : NYSE
BUY 
Target: C$67.00

COMPANY DESCRIPTION:
Scotiabank is one of North America’s premier financial institutions, and Canada’s most international bank. With over 80,000 employees, Scotiabank Group and its affiliates serve over 19 million customers in more than 55 countries around the world. Scotiabank offers a diverse range of products and services including personal, commercial, corporate and investment banking.

Q2/13 core cash EPS was $1.24 (up 6% YoY) versus our estimate of $1.25 and consensus of $1.26. At 6% YoY, BNS’ earnings growth is likely to be in line with the group average. Relative to our estimate, revenue was higher than expected, with capital markets revenue coming in better than expected. Slightly weaker than expected results relates to higher PCLs and higher expenses.
International earnings were up 5% YoY, reflecting good revenue growth offset by higher than expected investment spending and a 34% YoY increase in PCLs. Noninterest expense growth was 11% (5% QoQ), with half of the increase relating to acquisitions and the other half to investment spending. Operating leverage in the quarter was nil.

Given the investment spending in 2012, we expected BNS to deliver 2-3% operating leverage in the segment in 2013. In this respect, the expense growth in the quarter was surprisingly high. Higher PCLs reflect the expected normalization of credit losses in Colombia. We expect International
earnings growth to return to the low double-digits as early as next quarter.
Domestic P&C earnings were up 18.7% YoY on 15.1% YoY revenue growth and operating leverage of 2.4%. YoY, we were looking for earnings growth of 16.8%, revenue growth of 13.1%, and operating leverage of 1.1%. Earnings growth, excluding ING Direct, would have been 7.6%. Only Royal Bank is expected to deliver better organic earnings growth this quarter. With ING contributing $45 million in earnings last quarter and $51 million in Q2/13, the bank is already at the $190 million run rate discussed at the time of the deal.
Over the last five years, the bank’s better earnings stability and momentum has earned Scotia an average premium of 5-7%. On our estimates, the stock currently trades at a 5% premium to the group. For the reasons outlined below, we set our target price on BNS based on the stock trading at a 6% premium (consistent with RY).

Our target P/E premium drives a target P/E of 12.2x applied against our 2014E EPS and a target price of C$67.00 (down from C$69.00).

National Bank of Canada

English: The National Bank of Canada tower in ...

English: The National Bank of Canada tower in Place d’Armes (Photo credit: Wikipedia)

NA : TSX : C$77.02
BUY 
Target: C$89.00

COMPANY DESCRIPTION:
National Bank of Canada is an integrated group that provides comprehensive financial services in its core market in the province of Quebec.
National Bank offers a full array of banking services, including retail, corporate and investment banking. National Bank has over $176 billion in assets and employs over 19,000 employees.

UPGRADING TO BUY ON RELATIVE VALUATION AND IMPROVED OUTLOOK ON CAPITAL

NA reported core Q2/13 EPS of $2.08 (up 6% YoY), above our estimate and consensus of $1.97. Relative to our estimate, stronger capital markets related revenue (trading particularly) was partially offset by higher PCLs and noninterest expenses. NA raised the dividend as expected.
NA’s BIII CET ratio increased to 8.3% up from 7.9%, reflecting earnings, including the $100 million ABCP gain. The bank announced a 2% ($250
million) NCIB this quarter. We model for quarterly repurchases of 600,000 shares to arrive at a total share repurchase of 2.5 million shares, slightly under the 3.25 million authorized. With our assumed share repurchases, the bank’s Basel III CET ratio continues to improve, climbing from 8.3% this quarter to 8.7% by the end of 2014.

After deducting 30 bps for the CVA adjustment in 2014, the ratio should remain well above 8%.
P&C earnings were up 1% YoY on operating leverage of 0.7% offset by higher PCLs. P&C net interest income was weak, increasing only 1.6%, reflecting 10% volume growth offset by lower NIM YoY. NIM of 2.30% was down 13 bps from last year but was down only 1 bps QoQ. After delivering very weak NIM performance in domestic retail throughout most of the year, National’s QoQ P&C NIM performance (down 1 bps) was solid.
Our target price increases to C$89.00 from C$88.00 (target discount unchanged at 10%). At 20%, upside potential to our target price is as high as
other BUY-rated stocks. While we acknowledge that the current quarter’s results were largely driven by higher CMRR and that P&C remains weak,
given the bank’s discount valuation and our revised outlook on NA’s capital outlook, we are upgrading NA to BUY from Hold.

Our typical pattern with NA is to upgrade the stock when the discount to the group is well ahead of 10% (currently 13%) and downgrade once the discount narrows materially. In this  context, as well as the fact that the earnings beat was not particularly high quality, we view our upgrade as a short term call.

Toronto-Dominion Bank

Toronto-Dominion Bank

Toronto-Dominion Bank (Photo credit: Wikipedia)

TD : TSX : C$83.65
TD : NYSE
BUY 
Target: C$95.00

COMPANY DESCRIPTION:
The Toronto-Dominion Bank is the sixth-largest bank in North America by branches and serves approximately 22 million customers in four key
businesses operating in a number of key financial centres around the globe. TD had over $770 billion in assets on April 30, 2012 and employed over 85,000 employees in offices around the world.
All amounts in C$ unless otherwise noted.

DOMESTIC LOAN GROWTH SLOWER THAN EXPECTED; NO SIGN OF CREDIT ISSUES
TD reported Q2/13 adjusted cash EPS of $1.90, up 5% YoY, above our estimate of $1.88 and lower than consensus of $1.91. Higher than expected EPS related to better NII growth and higher capital markets revenue, offset by higher PCLs and expenses. The bank announced a 12 million share NCIB. With loan growth slowing and given the bank’s strong organic capital generation, a 12 million share NCIB appears manageable and leaves room to make small- to medium-sized acquisitions.
Domestic P&C earnings were up 5% YoY on 1.5% revenue growth, weak operating leverage (nil) and an 11% YoY decline in PCLs. Weak top line
growth reflects a 7 bps YoY decline in NIM (up slightly QoQ) and slowing loan growth. On a QoQ basis, domestic consumer loans were essentially
flat QoQ – an unusual result for TD. Commercial loan growth remains strong. While consumer loan growth in Canada is slowing (more so than
we expected), the credit picture remains very good as evidenced by the stability of impaired loans, formations of impaired loans, delinquencies,
bankruptcies, and credit losses related to the Canadian consumer.
U.S. P&C earnings were up 12% YoY. Revenue was up 10% YoY, reflecting solid volume growth and the Target acquisition. The bank did not disclose the contribution made by Target. Based on guidance at the time of the transaction, we estimate that Target made a contribution of less than $5.0 million to earnings. Accordingly, we estimate that organic earnings growth was closer to 10%.
Our 12-month target price of C$95.00 (down from C$97.00) is based on a target P/E multiple of 11.4x applied to our 2014 EPS estimate, slightly
lower than the group average of 11.5x. Although TD continues to meet our key themes for 2013, we felt it was appropriate to lower the multiple we
apply in valuing TD to reflect a more challenging growth environment in TD’s large retail businesses, particularly as it relates to loan growth, as
well as margin pressure. We now apply a discount P/E multiple to TD rather than a group multiple. In the current environment, BNS’ International business and RY’s capital markets business provide solid offsets to challenging growth in retail banking.

Bank Reporting Season Overview

Wells Fargo Stagecoach

Wells Fargo Stagecoach (Photo credit: Noel C. Hankamer)

JP Morgan Chase (JPM : NYSE : US$48.73)
Wells Fargo (WFC : NYSE : US$37.48)
TD Bank* (TD : TSX : $81.05),
Royal Bank of Canada* (RY : TSX : $60.11)
Bank of Montreal* (BMO : TSX : $62.59)
U.S. bank Q1/13 reporting season commences this Friday with JP Morgan and Wells Fargo.
Similar to prior quarters, Canaccord  Analyst Mario Mendonca says pay close attention to credit trends, trading results, commercial & industrial (C&I) loan growth and net interest margins. Q4/12 was the ninth consecutive quarter we saw an increase in U.S. C&I loans since the crisis. Weekly data from the Federal Reserve Board suggests that U.S. C&I loans at the large domestic banks grew 1.3% QoQ in Q1/13.

Last quarter, the U.S. credit picture remained strong despite macroeconomic concerns. In Q4/12 for the 11 U.S. banks Mendonca tracks, total PCLs were US$9.1 billion, down from US$9.3 billion in Q3/12. PCLs decreased in the quarter largely due to higher reserve releases by JPM, mostly offset by lower releases at Citigroup (C) and Bank of America (BAC). Net charge-offs, non-performing loans, delinquency trends and management
commentary all continue to suggest that credit losses will decline in the U.S. JPM and WFC’s results on April 12 will provide the first look into C&I loan growth from the U.S. banks this quarter.

Strong U.S. C&I loan growth bodes well for TD and Bank of Montreal particularly. JPM’s results will also provide the first indication of the sustainability of the trading environment.
While calling Royal Bank’s trading quarter by referencing the U.S. results has not worked consistently, Mendonca believes it is appropriate to look to the U.S. investment banks for broad trends.

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