This past week the big Canadian banks reported earnings. It was a solid reporting season for the big banks. Profits are still healthy, though the banks are preparing for potential economic weakness as they increase their emergency funds for the potential of bad loans. When money is moved for those loan loss provisions, that takes a bite out of earnings. In this jam-packed Sunday Reads, we’ll also look at ‘this week in the markets’, the economic backdrop that might include rates staying higher for much longer than previously anticipated. Also, what’s a young investor to do?
The banks’ emergency funds
The banks set aside more money in their fiscal first quarter to handle the prospect of defaults: The Big Six banks collectively reported nearly $2.5-billion in provisions for credit losses, up from a net $373-million in provisions in the same period a year ago.
No one knows how much stress might show up in the Canadian economy, but I will lend an ear to one of the smartest guys in the room.
From an Associated Press post …
Dave McKay, Royal Bank of Canada’s chief executive officer, said during an earnings call that the bank is forecasting a “softer landing, characterized by a modest recession” – which sounds like a good reason to buy bank stocks right now.
In this Yahoo! Finance post TD Securities strategist Pirya Misra said the Fed (U.S. central bank) has no choice but to engineer a hard landing. 75% of economists surveyed by Bloomberg agree.
The weakest of the bunch
Dan thinks CIBC is the weakest of the bunch. In the attached tweet you can see CIBC’s loan book breakdown.
And this is interesting. Any single bank profit dwarfs that of the combined Canadian grocers who are raking it in during the inflationary cycle.
At MoneySense Kyle Prevost offered a very good weekly wrap that included the Canadian bank reports.
Canadian bank earnings highlights
- Bank of Montreal (BMO/TSX): Earnings per share of $3.22 (versus $3.14 predicted) and revenues of $6.47 billion (versus $7.34 billion predicted).
- Bank of Nova Scotia (BNS/TSX): Earnings per share of $1.85 (versus $2.02 predicted) and revenues of $7.98 billion (versus $8.26 billion predicted).
- Royal Bank of Canada (RY/TSX): Earnings per share of $3.10 (versus $2.94 predicted) and revenues of $15.09 billion (versus $13.55 billion predicted).
- Canadian Imperial Bank of Commerce (CIBC/TSX): Earnings per share of $1.94 (versus $1.72 predicted) and revenues of $5.93 billion (versus $5.72 billion predicted).
- Toronto-Dominion Bank (TD/TSX): Earnings per share of $2.23 (versus $2.20 predicted) and revenues of $13.10 billion (versus $11.99 billion predicted).
- National Bank of Canada (NA/TSX): Earnings per share of $2.56 (versus $2.38 predicted) and revenues of $2.71 billion (versus $2.60 billion predicted).
Net, net, banks are hanging in there for now. They offer very good value (though within the historical norms). I’d be a fan of adding to the banks as part of a well-diversified portfolio. Simply pay attention to your sector concentration levels.
I own RBC, TD and Scotiabank as part of the Canadian Wide Moat 7. In my wife’s accounts she holds the financials-heavy Vanguard VDY and iShares XIU for Canadian stock exposure.
And of course we have our Canadian oil and gas stocks.
The markets this week
With the weekly advance, the benchmark index managed to snap a three-week losing streak. The index also closed out a volatile February with a nearly 3% fall on Tuesday, weighed down by Federal Reserve rate hike concerns sparked by strong economic data.
That pattern initially continued this week. However, on Thursday a Fed official said the central bank could be in a position to pause its rate hiking this summer, which helped to prop up markets. That positivity carried over onto Friday and helped the S&P 500 to its weekly rise.
Market participants now see the terminal rate to reach at least 5.5%, with a fraction of the market even considering 6%. Traders appear to have become more comfortable with the direction of the central bank.
Meanwhile, economic data this week has suggested both a flourishing economy and a tight labor market. With the Fed in a hawkish mood, any numbers that point to a robust economy have sparked worries about higher interest rates.
It was a risk-on week (buying assets positioned for economic growth and good times). We see the defensive investment assets move to the bottom for the week.
Weekly returns for U.S. sectors:
- #1: Materials +4.20%.
- #2: Industrials +3.35%.
- #3: Energy +3.07%.
- #4: Information Technology +2.98%.
- #5: Communication Services +2.85%.
- #6: Consumer Discretionary +1.70%.
- #7: Real Estate +1.63%.
- #8: Financials +0.93%.
- #9: Health Care +0.51%.
- #10: Consumer Staples -0.23%.
- #11: Utilities -0.54%.
What if rates stay high for years?
Here is a very good piece from Ian McGugan in the Globe & Mail (paywall). I’ll give you some of the good bits. It echoes my thoughts on how this might all play out. Higher for longer rates could extend to higher and much longer. You can thank sticky inflation and a consumer that refuses to weaken.
The following text is from Ian, I have edited in modest fashion.
There is the possibility that higher inflation might be on the verge of becoming embedded in economies. Companies have been highly successful in passing on price increases to their customers. Meanwhile, drum-tight labour markets imply that workers are in an excellent position to demand higher wages.
Both trends suggest inflation could stay high for a while, although opinions differ as to how high and for how long.
With unemployment levels in both countries at multidecade lows, wages are likely to continue growing at a rapid pace so long as recession is avoided. But if wages are powering ahead, inflation and interest rates will probably remain elevated, too.
4% inflation as a new normal?
Noah Smith warned in a post this week. He sees a decent possibility that 4-per-cent inflation will emerge as the new norm over the next few years.
Four-per-cent inflation is double what the Bank of Canada and the Federal Reserve prefer. It’s not outrageous, though, by historical standards. During the 1980s, both Canada and the U.S. managed to prosper with inflation around that level.
Central bankers could therefore decide to proceed with a light touch in a 4-per-cent world. They could keep their key interest rates at elevated but not brutal levels – say, around 5 per cent – and hope that inflation gently declines over the coming years.
Engineering a recession and throwing multitudes of people out of work simply to squeeze one or two percentage points out of inflation would be politically explosive. But it might be seen as a necessity.
How’s it going?
John Mauldin offers an economic check-in with How it started, how’s it going.
I am perfectly comfortable with 5% interest rates when inflation is 4‒5%. I hope rates stay high enough to give investors a real return on their savings, and less incentive to buy your competition rather than actually invest and compete.
And Martin Pelletier says that we’re never going back …
Canadian ETFers turn to cash
Leading the fixed-income inflows in February were the CI High Interest Savings ETF ($609 million), the Horizons High Interest Savings ETF ($413 million) and the BMO High Yield US Corporate Bond CAD-H ETF ($216 million), National Bank said.
Cash is back. And you can also check out my review of EQ Bank where you’ll find a 1-year GIC at 5%. Not bad, at all.
A message for young investors
In the Globe & Mail John Heinzl offered …
Now that you are starting out on your investing journey, you need to understand this above all: There are no shortcuts to building wealth. It is a slow, methodical process that rewards patience. It may even seem boring at times, but the long-term rewards will be very exciting. If you start early and follow a few simple rules, you will be amazed at how prosperous you can become.
I often tell readers that investing can and should be one of the most rewarding and stress-free events in life. It’s not that difficult, spend way less than you make and then invest on a regular schedule. Get rich slow.
Worst earnings season …
And for U.S. stocks it was the worst earnings season since the financial crisis.
And also from Scott, here is RBC’s top global energy ideas. I continue to chip away at the oil and gas space when a few dollars becomes available for investment.
Here’s some added colour for energy investors.
More Sunday Reads
Berkshire Hathaway saw a 19.8% compounded annual gain from 1965 to 2022, compared to 9.9% for the S&P 500 Index. In terms of overall gain, Berkshire saw a 3,787,464% rise during that time period while the S&P rose 24,708%.
On Cut The Crap Investing I took a look at the First Home Savings Account. That is a wonderful program that will be launched on April 1, allowing first time home buyers to save $8,000 per year to a maximum of $40,000. There is no limit to how much can be applied to the first home purchase. It can also be combined with the Home Buyer’s Plan, that is part of the RRSP program.
Thanks so much to Mark at My Own Advisor for featuring that post in his weekly reads.
There’s a fresh post, Monday to Friday on Jonathan Chevreau’s The Findependence Hub.
And of course, we always check in with the weekly wrap courtesy of Dividend Hawk. You’ll find Hawk’s dividends received, the earnings reports and the blog post favourites. Included in the mix is the top 25 high yield stocks by way of Simply Safe Dividends.
On Tawcan we have Bob’s 2023 goals and resolutions.
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