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Canadian Bank Health Update

2015 Q1


Go to the most recent report: 2016 Q4

Health of Canadian banks: stable (green)

Introduction

In these reports, I apply the same analysis techniques that I used when watching the American financial system through 2005-2009. These metrics should show early warning signs of impending bank losses or even a banking crisis, just as they did in the USA. All data comes from public financial reports. See notes about methodology changes starting with 2013 reports.

Summary for 2015 Q1

Off-balance sheet derivatives

Capital levels and leverage



Big Six Banks: Balance Sheet Health

Definitions: GIL = Gross Impaired Loans, CET1 = Common Equity Tier 1

Table A. GIL / Gross loans (higher = worse loan book)

This is a rough measure of how bad the loan book is, looking at impaired (non-performing) loans. Before 2008, these values were under 1.0%. Presently, the values are quite low but one must also consider the accounting standards change that started excluding non-performing amounts within packaged loans and debt securities [*].

Bank

2015.Q1

2014.Q4

2013.Q4

2013.Q3

2013.Q2

2013.Q1

2012.Q4

2012.Q3

2012.Q1

2011.Q4

2011.Q3

2011.Q2

2011.Q1

2010.Q4

2010.Q3

National

0.36%

0.46%

0.40%

0.39%












RBC

0.46%

0.44%

0.52%

0.50%

0.54%

0.54%

0.58%

0.55%

0.62%

0.78%

0.79%

1.31%

1.54%

1.65%

1.68%

CIBC

0.56%

0.53%

0.60%

0.63%

0.67%

0.69%

0.73%

0.76%

0.79%

0.94%

0.91%

0.92%

0.98%

0.99%

1.09%

TD

0.57%

0.55%

0.59%

0.60%

0.58%

0.59%

0.60%

0.57%

0.63%

0.70%*

1.32%

1.34%

1.43%

1.23%

1.24%

BMO

0.69%

0.67%

0.91%

0.97%

1.07%

1.12%

1.15%

1.12%

1.09%

1.29%

1.11%

1.58%

1.71%

1.80%

1.78%

Scotiabank

1.01%

0.96%

0.89%

0.90%

0.89%

0.91%

0.95%

0.98%

0.99%

1.32%

1.38%

1.43%

1.47%

1.50%

1.86%

Average

0.61%

0.60%

0.65%

0.66%












Avg Big Five

0.66%

0.63%

0.70%

0.72%

0.75%

0.77%

0.80%

0.80%

0.82%*

1.01%

1.10%

1.32%

1.43%

1.43%

1.53%

* Note: banks switched to IFRS accounting standards in 2012.Q1 which caused a sudden drop in the impaired loans being reported. It's important to note that impaired loans were stable at this time, and the approx 0.25% decline is due to accounting rules and NOT an improvement in loans. A value of 0.75% today is roughly equivalent to a value of 1.00% under the previous GAAP standards in effect during the 2007-2009 crisis.

Table B. GIL / CET1 capital (higher = greater risk of failure)

Similar to the Texas Ratio, a measure of bad loans versus the bank's capital. Around the 100% mark, a bank's capital cushion is no longer adequate to absorb loan losses. This ratio is believed to be an early warning signal for bank failures, though the ratio has to get quite high before solvency is threatened.

Bank

2015.Q1

2014.Q4

2013.Q4

2013.Q3

2013.Q2

2013.Q1

RBC

5.5%

5.4%

7.2%

7.1%

7.7%

7.6%

National

6.3%

8.1%

7.4%

7.2%



TD

8.8%

8.8%

10.4%

10.5%

10.3%

10.3%

BMO

9.2%

9.1%

12.0%

12.8%

14.1%

14.6%

CIBC

10.4%

9.8%

12.1%

13.0%

13.8%

14.5%

Scotiabank

13.3%

12.4%

14.0%

14.6%

15.1%

15.8%

Average

8.9%

9.0%

10.5%

10.9%



Avg Big Five

9.4%

9.1%

11.1%

11.6%

12.2%

12.6%

Table C. Leverage multiple (higher = more leverage = more risk)

Higher leverage means a bank is more susceptible to sudden shocks, and is less capable of handling losses. High leverage means a bank has less capital; conversely, low leverage means a bank has more capital. Leverage = Assets / CET1 capital (see technical details) and is sometimes stated as N:1 or N x leverage.

Bank

2015.Q1

2014.Q4

2013.Q4

2013.Q3

2013.Q2

2013.Q1

Scotiabank

24.8

23.9

28.2

29.5

31.4

32.0

RBC

27.9

25.8

28.2

29.3

30.7

29.8

BMO

28.1

26.3

25.3

26.6

27.5

27.3

CIBC

29.6

28.4

31.1

31.8

32.4

32.5

TD

32.1

30.5

33.4

32.9

33.5

33.7

National

34.8

34.3

35.2

35.8



Average

29.6

28.2

30.2

31.0



Avg Big Five

28.5

27.0

29.2

30.0

31.1

31.1

Off Balance Sheet Derivative Exposures

Amounts are in trillions of dollars. All amounts are notional, which is the face value of a contract (the amount of underlying money represented by a contract). These are not prices or market values of contracts. In other words, $1 trillion of notional exposure does not mean the bank could lose $1 trillion; however, it shows the magnitude of derivative contracts. For instance, RBC most certainly has a larger derivatives book than any other bank and likely faces more derivatives risk than others.

OTC exposures are included here because I believe OTC contracts are the most dangerous since they are illiquid, difficult to value, and become worthless if the counterparty (another bank) collapses.

Even the experts have very little idea how to properly account for risk in derivative books. This is new and unknown territory.

Derivative exposure is hidden off-balance sheet where it can't distress investors and depositors. The standard excuse given by banks is that they are long some derivatives, and short others – and the two (thanks to financial engineering) perfectly balance out risk, resulting in minimal net exposure. But in reality, banks can only maintain such perfect hedging during exceptionally low volatility. A spike in volatility, or a counterparty failure, can suddenly create enormous derivative book losses. This happened in 2007-2009 (wiping out several banks), and will probably happen again. More derivative exposure means more risk.

The below data comes from: OSFI, financial data: banks: quarterly derivative components.

Bank

2014.Q4


Total notional

OTC notional

RBC

$10.25 T

$9.95 T

TD

$6.10 T

$5.77 T

Scotiabank

$4.97 T

$4.60 T

BMO

$4.02 T

$3.89 T

CIBC

$1.89 T

$1.77 T

National

$0.74 T

$0.63 T

Total exposure

$27.97 T

$26.61 T

Bankruptcy Statistics

These numbers show total Canadian bankruptcies (consumer + business). Bankruptcy rates closely relate to bank loan quality and losses. Note however that banks with significant US/international operations have further credit exposure beyond Canada, which isn't reflected in this graph.

The volatile monthly data is smoothed using a trailing 6 month average (moving average).

Bankruptcy rates have been declining since 2010.




- Perpetual Bull, perpetualbull@gmail.com