With fears of the Canadian housing bubble burst looming large, the world is watching as all of the major rating agencies issue warnings of a potential downgrade to the Canadian banks.
A macro outlook
In its monetary policy report issued in July 2013, the Canadian central bank conceded that excessive levels of household debt coupled with imbalances in some segments of the housing market pose a significant risk to the Canadian economy.
As the Canadian housing sector is experiencing renewed momentum on the back of low interest rate regime, fear of the deepening of the existing imbalances within the sector is catching up fast.
The numbers
The fourth quarter of 2012 saw the Canadian economy post a debt-to-disposable income ratio of 163%, a figure posted by the American economy in 2007, just before the collapse of the real estate market leading to a global economic slowdown.
While there has been media frenzy over the Canadian economy heading toward a similar fate, Diana Petramala, Economist at TD Economics begs to differ.
According to Petramala, the two numbers aren't comparable as there are significant differences in the methodologies adopted by the two countries for calculating debt and income.
Let's take a look at the main attractions of the Canadian banking space
Canadian Imperial Bank of Commerce (CIBC) (NYSE: CM) is one of the major players in the Canadian banking industry and has won many accolades for its fiscal discipline and strong operating performance. The bank was recently ranked the strongest player in North America and the third strongest in the world by Bloomberg Markets magazine.
With a strategy focused on risk minimization and a consistent focus on operational improvements, CIBC has developed a robust foundation to drive future growth and profitability.
The third quarter of 2013 saw the company post healthy growth in its top- and bottom-line figures as net income grew 6% year over year while maintaining an impressive BASEL III Common Equity Tier 1 ratio of 9.3%, one of the highest among its peers.
Although CIBC recorded sustained growth across all segments, its wealth management segment was the best performer, clocking a 14% year-over-year revenue growth.
Wealth management business drivers
- Increased assets under management
- Incremental sales of long-term mutual funds
- Higher contribution from holdings in American Century Investments
With CIBC's announcement to acquire Atlantic trust, the wealth management arm of Invesco Ltd., for $210 million, the company plans to further increase its presence in the wealth management space with an expected incremental assets under management of approximately $20 billion.
Overall CIBC is set to be an outperformer in the long term and a worthy addition to your portfolio.
Another prominent player on the Canadian banking scene
Bank of Nova Scotia (BNS +2.84%) has one of the strongest and cleanest balance sheets and risk profiles across major peers not just in Canada but across the world.
In the third quarter of 2013, the bank record an adjusted diluted EPS of $1.30, an increment of 12% from a year ago. The revenue also grew 12% year over year, as the bank witnessed robust growth across major business segments. Lower loan loss provisions, higher banking and wealth management fees, higher gains on investment securities, and an increase in interest incomes have collectively contributed to the growth in the top and bottom lines.
Going forward, I believe Nova Scotia bank is in a position to deliver strong growth across business segments and geographies on the back of...
- Solid asset and deposit growth
- A growing footprint in automotive lending
- Continuous and productive gains from the ING DIRECT acquisition
- Strong presence in rapid growing economies of Latin America and South Asia
Royal Bank of Canada (RY +2.71%) posted a record performance in the third quarter of 2013 as net income grew 3% year over year, owing to the bank's solid performance in the retail and commercial banking as well as wealth management segments.
Keeping in line with its peers, the bank has maintained strong capital ratios without compromising growth while successfully executing its operations in an otherwise slow growth environment.
Moving forward, a diversified business mix, strong revenue generation from Canada, and the bank's efforts to strategically position itself in key businesses and geographies across the United States and international markets are the catalysts that will drive the future growth of this bank.
Foolish take
Despite the fuming real estate market and increasing concerns among the stakeholders of a potential bubble burst causing a ripple effect across the economy, I believe the concerns are far too unrealistic and do not represent the fundamentals of the Canadian economy and financial institutions that successfully braved the global financial meltdown.
As the perceived risks subside, I believe investors stand to gain heavily from these fundamentally strong companies, and I recommend them as worthy additions to your portfolio.
