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TORONTO — Although interest rates have started to fall, borrowers and lenders are still feeling the pressure.
The degree of stress they are under will be a focus for analysts as the big banks prepare to release their third-quarter results.
« Our main focus for the quarter will be credit, as pressure increases from both commercial and personal banking clients, » Canaccord Genuity analyst Matthew Lee said in a note.
The next results, which will begin Thursday with the release of TD Bank Group’s results, will cover the three months to the end of July.
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This period coincides with the Bank of Canada’s first two interest rate cuts, which brought its key rate down half a percentage point to 4.5%, a reduction matched by the banks lowering their prime rate to 6.7%.
Despite the cuts, mortgage renewal rates remain much higher and those exposed to variable rates continue to struggle.
Banks have portrayed the credit environment as normalizing to pre-COVID levels, but Lee said he would look closely at whether banks’ loan loss provisions indicate the worst is yet to come.
« Apart from the challenges in commercial banking, we are focused on the weakening of the Canadian consumer, particularly in the credit card and auto sectors, » he said.
The Bank of Canada’s latest survey of consumer expectations, released last month, showed that financial stress had worsened compared to the first quarter, with Canadians reporting a higher likelihood of defaulting on debt or losing their job.
The central bank also warned that mortgage payments are expected to increase next year and in 2026.
Further easing is on the way, however, with many economists expecting at least two more rate cuts this year, and more likely another percentage point cut next year.
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But even if borrowers continue to make their payments, analysts believe that various economic challenges — such as high borrowing costs and the risk of a recession weighing on consumer sentiment — will continue to put some downward pressure on loan growth, said John Aiken, an analyst at Jeffries.
« As the Bank of Canada continues its monetary easing policy… lending volumes could be challenged and remain modest in the near term. »
With loan growth moderate, expenses will also be in focus. But banks are expected to improve from last year, when several had to bear restructuring costs related to staff cuts in anticipation of the economic slowdown.
Analysts expect 2025, as rates continue to fall, to see a notable increase in loan growth, as well as banks beginning to reduce the large credit loss provisions they have built up due to default risks.
« While the impact of the rate cut is expected to be negligible in the third quarter, we believe the anticipation of the cuts makes the acceleration of loan growth a more tenable possibility in the first half (of fiscal 2025), » Lee said.
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For now, these provisions are expected to remain largely stable, although National Bank analyst Gabriel Dechaine has revised his provision forecasts to a slightly more negative level heading into the quarter.
« These adjustments are justified simply by a general sense of conservatism, given the increase in bankruptcies in Canada, potential commercial write-downs and losses in certain consumer categories, » he said in a note.
Dechaine nevertheless believes that the banks will also manage to achieve a soft landing during this delicate period.
« A sufficient level of rate cuts should allow Canadian banks to avoid a sharp increase in loan losses, as we have seen in previous crises. »
Overall, bank stocks are likely to continue to face some pressure and underperform the broader market until there is more clarity on these loan losses and earnings growth potential, Aiken said.
« It will take much higher-than-expected earnings to support the banks, and we think it will be difficult for them to turn the tide this earnings season. »
The Toronto-Dominion Bank will release its results on August 22. The other major banks will follow the following week: Scotiabank and BMO on August 27, RBC and National Bank on August 28, and CIBC on August 29.
This report by The Canadian Press was first published Aug. 20, 2024.
Companies in this story: (TSX:RY; TSX:TD; TSX:BNS; TSX:BMO; TSX:NA; TSX:CM)
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