Canada’s big 5: The global darlings
There’s no doubt that our banks have been the darling of the world over the past two years. The world has been quick to heap praise on our banks, while our politicians have been quick to direct that praise back to their own oversight of the system.
Interestingly, our big 5 escaped the financial crisis largely unscathed, though not without a massive dose of assistance on the part of our government. The boys over at Sprott Asset Management wrote about this back in November 2009 when they noted that the leverage ratio of our big 5 banks exceeded that of the top 10 US banks.
Why did the Canadian banks escape the crisis largely unscathed?
There are two major reasons. The first is that our real estate downturn was largely averted (postponed?) by some dramatic action on the part of the central bank and the government. Interest rates were cratered. Unprecedented stimulus measures enacted. Demand was dragged forward. As a result, the banks saw little by way of a hit to their unsecured lending or their mortgage portfolios (the bulk of which are backstopped by the government anyways). But let’s understand that the Canadian banking system is on such solid footing today precisely because real estate did not continue on its downward trajectory.
This is lost on some writers like Jay Bryan of the Montreal Gazzette who, in an article from June 17, 2010 suggested that, “Our real-estate rebound was possible because Canada’s banking system remained in good health, unlike the shattered US one”. This is cart-before-the-horse mentality at its finest. The entire banking system fiasco in the US was CAUSED by write-offs associated with bad debt from real estate. Not the other way around.
For the second reason why our banks fared so marvelously, I’ll turn it back over to Eric Sprott and David Franklin from the publication highlighted above:
“The answer is that they received significant assistance from the Canadian government. First, they received $65 billion in liquidity injections from the Insured Mortgage Purchase Program (IMPP), whereby Canada Mortgage and Housing (CMHC) purchased insured mortgages from Canadian banks to provide additional liquidity on the asset side of their balance sheets.
Next, the Bank of Canada provided them with an additional $45 billion in temporary liquidity facilities. Finally, a Canadian Bank (that shall remain nameless) also received assistance from the Canada Pension Plan (CPP) through the purchase of $4 billion in mortgages prior to the IMPP program, for a total government expenditure of $114 billion.
For reference, the entire tangible common equity of the Canadian Banks in 2008 was $68 billion. Can you put two and two together? The Canadian government injected a sum through mortgage purchases worth more than the entire tangible common equity of the Canadian banking system! On top of that, the Bank of Canada provided more than 50% of the tangible common equity of the system in emergency liquidity facilities.”
The problem with facts like this is they get in the way of a good news story. To wit:
No one wants to hear that our banks, for some reason a new source of national pride, actually received a backdoor bailout courtesy of Canadian taxpayers. To be fair, there was greater oversight and a generally more conservative approach to lending by our big banks, but had the government not stepped in to discretely provide a form of bailout, our perspective would be quite a bit different. I do find it amusing that I’ve seen little mention in any of the big dailies of any of the government’s involvement in the back-stopping the banking system in Canada.
New report finds Canadian banks lagging US counterparts in tier 1 capital
A new report by Canaccord Genuity analyst Mario Mendonca suggests that the tier 1 capital ratios at Canada’s big banks are actually lagging that of their American peers. Tier 1 capital is the safe, liquid assets that can provide a lifeline in the event of a financial crisis.
While certainly not earth-shattering news, it does make it a bit more difficult to hold our banks up as beacons of prudence to the shame of those crazy yank banks…..seemingly a pastime of choice for some of our newspapers.
Canadian banks may struggle to meet rules
I’m not particularly bullish on Canadian banks simply because their balance sheets are not particularly transparent. It is difficult to establish just how much unsecured debt makes up their portfolio, what derivative counter-party risks they are exposed to, etc. For this reason, I prefer to stick to companies with strong balance sheets and stable, predictable earnings.
It should be interesting to see how the banks fare as real estate comes under increasing pressure over the next few years.