Q2 2020 Earnings Call
All participants please stand by your meeting is about to begin.
Please be advised that this conference call is being recorded.
Good morning, and welcome to there'd be no financial group Q2, Twentytwenty earnings release and conference call for me 27 2020.
Your host for today, if you Miss Jill home Onec head of investors Relations you somatic. Please go ahead.
Good morning, and thanks for joining us today, our agenda for today's Investor presentation is as follows we will begin the call with remark from Darryl White.
Oh, they presentations from Tom the banks, Chief Financial Officer and.
Our chief risk officer, we have with us today or any johansen from Canadian PNC, and Dave Kasper from U.S., TNT and Barclays here for BMO capital markets.
Burqas here for me my wealth management.
After their presentations, we will have a question and answer a period, where we will take questions from prequalified analysts.
To give everyone an opportunity to participate please keep it to one question.
On behalf of those speaking today I note that forward looking statements may be made during this call actual results could differ materially from forecasts projections or conclusions in these statements.
I would remind listeners that the bank uses non-GAAP financial measures to arrive at adjusted results to assess and measure performance by business and the overall bank management assesses performance on a reported an adjusted basis and considers both to be useful and assessing underline business performance.
Daryl and Tom will be referring to adjusted results in their remarks, unless otherwise noted as reported additional information on adjusting items. The banks reported results and factors and assumptions related to forward looking information can be found in our 2019 annual report and our second quarter 2020 report to shareholders with that I will hand.
It's over to Darryl. Thank you Joe and thank you for joining US. This morning, we always value the opportunity to connect with you and particularly do during this extraordinary time the global covert 19 pandemic is having a profound and deeply personal impact on all of US we want to all of our stakeholders to know that.
As one of the largest banks in North America, we feel a clear responsibility to do our part to support the health of the economy.
We're working together with policymakers customers and other stakeholders to develop solutions to the complex challenges presented by the pandemic.
Measures taken by governments and central banks to support the overall economy individuals and businesses have been significant and unprecedented.
For BMO, the strength and the clear momentum that we had going into the crisis means that we can provide the needed support to employees to customers and communities and to ensure the operational and financial stability for the long term benefit of our shareholders.
Our top priority has been and continues to be the health and safety of all of our employees and customers, while maintaining critical banking services.
We mobilized quickly to transition 90% of our non branch employees to work remotely we implemented strict safety procedures to protect those who need access to physical locations.
We're acutely aware of the uncertainty and financial concerns our customers are facing and we're committed to helping them navigate. These challenges we've provided personalized advice and access to a variety of flexible relief options, including payment deferrals for over 200000 customers in Canada and in the United States as of last week.
We facilitated over $2 billion in funding on <unk> under the Canada emergency benefit assistance program and over $5 billion U.S. in loans in the U.S. SP, a paycheck protection program, helping 75000 businesses to keep operating and pay their employees.
We are maintaining access to branches 18 times and call centers and we're also connecting with customers and each other in new and innovative ways Weve very successfully expanded our virtual and digital tools to meet customers' needs, including broad use of E signatures phone in video meetings and digitized processes.
Our ability to implement these changes quickly.
As directly benefited from the investments we've made over many years and our technology in our digital infrastructure.
Turning to community.
Guided by our purpose to boldly grow the good in business and life, we've announced several initiatives aimed at helping the communities, where we live and work, including donations through the United way to help get support to those in greatest need.
For our frontline healthcare workers, who go above and beyond each day to help keep us all safe we've converted our institute for learning building to provide a safe place for them to rest and recover.
Together with MLS see we've re purpose the kitchens at BMO field to prepare and deliver meals to hospitals and shelters across Toronto communities.
We also know the impact depend emmick is having on mental health as people have all ages struggled with the challenges of so social isolation and an uncertain future. That's why we remain fully committed to our ongoing sponsorship and as a founding partner with kids help phone re imagining our annual walk so kids can talk to a virtual never dance.
Alone a thought I invite you to join US on May 30, Onest to help raise funds and awareness for mental health in Canada.
And just yesterday, we announced that we have joined others to support a promising pancanadian coven 19 clinical trial being coordinated by Sunnybrook Hospital Rhys research team donating $300000 to this potentially groundbreaking research.
Turning now to our financial results well covert 19 had a meaningful impact on the banks earnings this quarter, the banks operational performance and capital position remains solid.
We benefited from positive momentum across all our businesses going into the crisis with a focus strategy and a very disciplined approach to expense management.
This quarter, we delivered $2 billion in pre provision pre tax earnings demonstrating the resilience and earnings power of our diverse businesses.
We fully absorbed a significant increase in loan loss provisions, including a $705 million provision for credit losses on performing loans.
Our personal and commercial businesses in Canada, and the U.S. continue to drive core profitability and revenue growth as both businesses worked very closely with customers strong loan and deposit growth was in part driven by customer reaction to the pandemic, which increased loan utilization and a movement to deposit.
Safety, we're now seeing these trends stabilize.
Our capital markets and wealth management businesses were impacted by the market volatility and dislocations during the quarter.
Capital markets results reflect the increase in provisions for loan losses, primarily for performing loans.
Client driven trading revenues were mixed with strong performance in certain asset classes offset by negative impacts from the market environment.
Underlying performance in wealth management held up very well with good net new asset growth in our advisory businesses and very strong online brokerage revenue as our teams supported a doubling of transaction volumes and account openings compared to a year ago.
Good well to results were negatively impacted by market movements on our insurance business and a legal provision.
Capital markets in wealth management continued to demonstrate their competitive strengths and supporting the efficient and effective functioning of global markets.
Well capital markets was a lead book runner for the $8 billion global benchmark sustainable development bond issuance with the World Bank aimed at strengthening health systems in developing countries.
PMO Gam was proud to be selected as the asset manager for the bank of Canada's provincial bond purchase program, which aims to support the liquidity inefficiency of provincial government funding markets.
Well, the scope and the scale of the economic and social.
Impact of the pandemic remains uncertain.
Strong liquidity and capital provide the strength and stability to withstand a period of prolonged economic recovery RCT one ratio at 11% is well above regulatory requirements and supports our commitment to maintaining our dividend payment record.
We prudently provision for future losses have demonstrated track record of strong risk management, and our singularly focused on working with our customers across industries and geographies to help them withstand and recover as we always have through every part of the business cycle.
Our commitment to improving the banks efficiency is as strong as ever.
On a year to date constant currency basis, we've held expenses flat to last year and maintained positive operating leverage and we'll harness the speed and agility with which we've been executing changed during this period to further approved improve efficiency in each of our businesses over the long term.
We're not alone and finding efficiency efficiency improvements that will sustain future growth. The economic recovery is likely to be uneven with some sectors able to rebound quickly and even outperform as they take advantage of accelerating trends that were already emerging.
The economies have proven to be resilient and we salute, our personal and our business clients, who are incredibly resourceful as we work together with them to overcome challenges and close innovation gaps.
We all have a shared accountability to make things better when we get through the other side of this crisis.
At BMO through the pandemic, we've developed a new way of working that has been core to our strategy for a long time, but has now accelerated as we build a stronger more competitive BMO for the future.
We will continue to show discipline and accountability on how we allocate resources to areas with clear competitive advantages strengthening value for our customers and delivering a more sophisticated integrated approach on digital first combining the power of our modern technology product platform and proactive analytics.
Before I close.
I'll leave you with my summary, reflections on how I feel about our quarter in such unprecedented and remarkable environments.
First I'm extremely proud of how our employees responded so admirably supporting each other our customers and our communities in moments of extreme anxiety and need.
I'm proud of our brand and our ability to live our purpose when a truly matters. Most here I could not have asked for more.
We earned $2 billion of ERP comfortably absorbing significant and prudent increases in provisions for credit losses, and we earned this despite meaningfully lower revenues and some of our market sensitive businesses.
We have a strong capital and liquidity position, a disciplined operating plan and very good momentum.
The strength and resilience of our overall diversified business model has been tested and we are performing well through these challenges as a result, I'm confident that our bank has never been positioned better to face the environment ahead.
I'll now turn it over to Tom to talk about the second quarter financial results.
Alright, Thank you Daryl and good morning, everyone. My comments will start on slide nine with the highlights of our financial results for the quarter.
Despite the challenges of the environment, our pre provision pretax earnings and our operational performance remains resilient.
From a balance sheet perspective, we're also in a very good spot with strong capital and liquidity positions.
Q2 reported EPS was a dollar and net income was 689 million.
Adjusted EPS was one dollar and four cents and adjusted net income was $715 million both down from last year, primarily due to higher provisions for credit losses, which drove 85% of the decline.
The provision pre tax earnings were approximately $2 billion down, 5% and comfortably absorbed the impact of higher pcls.
Adjusting items are similar in character to past quarters and are shown on slide 29.
Turning now to revenue.
Second quarter net revenue was 5.5 billion down 3% from last year higher revenue and PNC businesses from strong loan and deposit growth was offset by lower revenue in our market sensitive businesses.
Net interest income of 3.5 billion was up 12% or 10% in constant currency driven by higher deposit and loan balances.
Non interest revenue was $1.9 billion compared to $2.5 billion last year with the decline largely driven by lower trading insurance and market related fee revenues.
<unk> expenses decreased 2% from last year and reflect disciplined expense management.
The provision for credit losses was 1.1 billion and Pat will speak to this in his remarks.
Moving to slide 10 for capital the capital position is strong and well above regulatory requirements. The common equity tier one ratio was 11% down from 11.4% in Q1.
The change in the ratio reflects higher risk weighted assets in the clear pool acquisition, partially offset by the expected credit loss provisioning adjustment and other smaller net positive items.
Growth in risk weighted assets was driven by strong loan growth in support of our customers and changes in asset quality.
As you are aware during the quarter, we instituted a 2% dividend reinvestment plan or 2% discount on our dividend reinvestment plan. We view this as a prudent action given the uncertain environment and the loan growth that we had in the quarter.
Our liquidity position has remained strong and benefited in part from excellent customer deposit growth, which exceeded loan growth.
Liquidity metrics, including the LCR, which was 147% improved during the quarter.
Moving now to our operating groups and starting on slide 11.
Canadian PNC maintained good core profitability with pre provision pretax earnings of 985 million up 1% from last year and net income of 362 million, reflecting higher credit provisions.
Revenue increased 2% as a benefit of higher balances was partially offset by lower non interest revenue and lower margins.
Average loans were up 7% with commercial loans up 14% deposit growth was strong with personal up 12, and commercial up 20%, reflecting higher liquidity retained by customers due to the due to the impact of cobot 19.
Net interest margin was down 10 basis points from last quarter, primarily due to lower loan spreads as a result of a narrowing of the prime to be a relationship.
While projections are difficult the net interest margin is likely to drift to somewhat lower over the balance of the year due to the due to the impact of lower interest rates.
Expenses increased 3%, primarily due to higher technology and pension costs.
Moving to U.S. PMC on slide 12 in my comments here will speak to the U.S. dollar performance net income of 253 million was down from a year ago to higher credit provisions pre provision pretax earnings growth was strong at 11%.
Revenue was up 6% driven by deposit and loan growth and higher fee income, partially offset by lower deposit margins.
Commercial loans were up 13% and personal up nine average deposit growth was 18%.
Net interest margin was up two basis points from last quarter as a negative impact of lower rates was more more than offset by an elevated LIBOR and strong deposit growth relative to loan growth.
The net interest margin is expected to move down somewhat over the next two quarters, reflecting a more normalized LIBOR and the impact of rate cuts expenses were up just 2% from last year.
Turning now to slide 13, BMO capital markets had a net loss of 68 million as performance was impacted by higher credit losses, and the market environment.
The provision pre tax earnings were 300 million.
Revenue was down 15% global markets revenue declined in the quarter, Although performance was good across rates foreign exchange commodities and cash equities.
Trading non interest revenue was negative given the impact of extraordinary market conditions on our equity linked to note related businesses as well as credit and funding derivative valuation adjustments.
In investment in corporate banking revenue decreased as higher corporate banking related revenue was more than offset by markdowns on held for sale loans and lower underwriting and advisory fees.
Expenses were down 15% from last year due to the impact primarily of a severance in the prior year.
The provision for credit losses was 408 million and included a provision on performing loans of 335 million.
Moving now to slide 14.
Wealth management net income was $153 million.
Traditional wealth net income of 169 million was down from 236 million last year, largely due to to the impact of up 49 million dollar after tax legal provision and lower fee based revenue, partially offset by strong online brokerage revenue.
Loan and deposit growth continued to be strong.
The insurance business had a net loss of 16 million compared to average income of approximately $60 million a quarter over the last couple of years.
The decrease was primarily due to the impact of unfavorable market movements in the quarter.
The impact of market movements on our insurance business and the legal provision together reduced earnings per share by approximately 15 cents in the quarter.
<unk> expenses were well managed and up just 1%.
Turning now to slide 15 for corporate services.
The net loss was 80 81 million relatively unchanged from last year as lower expenses and higher revenue were largely offset by the impact of a less favourable tax rate in the quarter.
To conclude our pre provision pre tax earnings and underlying operating performance demonstrate the strength of our franchise and what was an extraordinary quarter. We earned through higher credit losses supported our customers and employees and maintained a strong balance sheet and with that I'll hand, it over to Pat.
Thank you Tom and good morning, everyone.
The current cobot 19 pandemic has had a meaningful impact on all of our risk types.
With that said we went into this crisis in a very strong risk position with a long track record of successfully managing risks through challenging times.
As such we expect to navigate the risks of the current crisis successfully and continue to serve our customers across all businesses.
The most evident cobot 19 impact in the quarter is on our provisions for credit losses as shown on slide 17, our total provisions for credit losses were 1.1 billion or a provision rate of 94 basis points significantly higher than what has been seen in recent quarters.
Total provision was made up of a provision for impaired loans of $413 million or a provision rate of 35 basis points and a provision for performing loans of $705 million.
Based on our estimates we see approximately one third of the impaired provisions being related to cope with 19 impacts in the quarter.
As per slide 17, this increase in provisions on impaired loans was due to increased provisions in Canadian PNC and in capital markets.
In the Canadian PNC segment, the $212 million of losses were driven by elevated consumer losses with the increase versus Q1 largely related to the impact of cobot 19.
And elevated commercial losses in part related to cope with 19 as well as one larger credit loss that occurred before the pandemic and that involve fraud.
In capital markets. The PCL of 73 million, an increase of $20 million versus Q1 was driven by continued stress on the oil and gas markets exacerbated this quarter by cobot 19 related demand declines for oil.
In addition capital markets had a larger PCL and the apparel retail sector largely related again to the impact of cobot 19 on store operations.
US PNC impaired loan provisions were $124 million, a decline of 8 million from the prior quarter.
Transportation finance provisions accounted for approximately 41 million or 37% of our us commercial provisions this quarter.
The remainder of our U.S. commercial businesses saw impaired provisions declined by 17% quarter over quarter.
Turning to slide 18, the $705 million provision for credit losses on performing loans was primarily due to the weaker economic outlook with other factors like changes in scenario weights balanced growth credit migration and model changes largely netting out.
While cognizant of the unique nature of this economic disruption as well as the substantial support provided by governments, we followed our normal process and portfolio overlay type adjustments were not a large determinant of the overall provision.
Our closing allowances by line of business are shown on slide 18.
We feel our closing allowances are appropriate when compared to our actual historical impaired loan experience as well as our own expectations for impaired losses in the future.
In particular this quarter, we saw a significant increase in the capital markets allowance, reflecting expected continued stress in the oil and gas sector.
On slide 19 impaired formations were 1.396 billion and gross impaired loans were 3.64 or $5 billion or 74 basis points.
The elevated level of both formations and gross impaired loans are largely reflection of continued stress in some industry sectors like oil and gas us agriculture, and transportation as well as more recent stress on other sectors more impacted by cobot 19, like retail trade and services.
Loan growth shown on slide 20 was largely due to borrowings by our existing accounts in many cases driven by draws against previously committed facilities.
This utilization of revolving lines of credit peaked at the end of March and has been declining steadily and notably ever since.
Consumer loan growth was modest with utilization levels actually declining in Q2 relative to Q1 in several products.
This was particularly noteworthy in credit cards, where balances declined 12% quarter over quarter, explaining about two thirds of the increase in overall credit card delinquency rates in the quarter.
Turning to slide 21, we've included a view of our loan portfolio with additional balance information for some sectors that are generally viewed as more impacted by cobot 19.
For the purposes of this disclosure we have taken a very broad view of what sectors to include and while we're not immune to the stress. These sectors may experience on slide 22, we note numerous important considerations that give us some comfort when evaluating the potential force for that stress to ultimately translate into loan losses.
On slide 23, we provide further detail on our oil and gas loan portfolio.
Although the impaired loan rate of over 4% is clearly elevated we expect to continue to benefit from the reserve based nature of virtually all of our sub investment grade exposures in the extraction segment.
In addition, we have a prudent oil and gas performing provision of $357 million as of the end of Q2, representing roughly 2.4% of the balance of the entire energy portfolio and 3.2% of the entire portfolio excluding pipelines.
You'll note additional disclosure on payment deferral programs and our Mdna this quarter as of the end of Q2, we had 11% of our consumer balances and 9% of our commercial balances under deferral arrangements.
With respect to consumer deferrals, 89% of the deferred balances our real estate secured lending with 94% of those deferred wrestle balances in Canada.
Of the deferred Canadian wrestle balances the large majority or mortgages.
Of which 33% our insured.
The credit quality of consumer deferrals varies by product, but the average Bureau score weighted by deferred balances is approximately 750 in Canada and 730 in the us.
And the average LTV LTV of deferred wrestle balances is approximately 60% in Canada and 55% in the U.S.
Commercial loan payment deferrals are adjudicated case by case based on a strict set of criteria, including but not limited to a requirement for all loans to have been current prior to covert 19 minimum credit ratings and an assessment that the business is likely to recover.
Turning to slide 24 are trading related net revenue shows several days in the quarter, where we experienced notable losses.
These days coincided with periods of extreme volatility historic price declines in equity markets and unprecedented discontinuity between previously well correlated assets.
Although many parts of our trading businesses performed exceptionally well this quarter a small number of specific segments saw elevated losses.
These segments have been closely evaluated and where appropriate material risk reduction actions have already been taken.
Although the majority of the company is now working remotely our operational risk remains within acceptable ranges and our control activities across all three lines or defense are largely operating business as usual.
In terms of outlook given the historic level of economic stress due to covert 19, we would not expect to see a reduction in impaired loan losses over the next few quarters and depending on the length of the crisis and the impact on specific industry sectors, we could see further increases in impaired loan loss rates.
We will review our allowance coverage as appropriate given our current forecast for future loan losses, and as such would expect the performing provision in the next few quarters to be largely a function of the normal factors that influence this provision in any given quarter.
With that ill turn the call over to the operator for the question and answer portion of today's call.
Thank you we will now take questions on the telephone line. If you have you question. Then you are using his speakerphone. Please pick the handset before making your selection.
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Please press star one that this time, if you have a question.
There will be brief pause of all the participants I guess Terry Thank you for your patience.
We have a question from Ebrahim Poonawala from Bank of America. Please go ahead. Your line is now open.
Good morning.
Yes. So his question on just on credit backdrop.
Talk to us around on reserve coverage for when you look at Slide 18, one Lake and a comment you made about future performing pcrs.
Why is 49 basis points reflective of this macro backdrop and why is that enough.
We've already seen some.
Concern from investors, but at this stacks next door against your peers and whether this might be enough given some of the public sector that excludes is that you outlined so would appreciate some hot-cross Saddam by 49 basis points as Inox in why should we expect a meaningful increases in that number going forward.
Sure I think I caught most of your question I would start with Ah I don't know if you suggested there was a meaningful increase coming in the provision I wouldn't I wouldn't say that at all the performing provision we would expect to come down from this level in starting next quarter and so we don't see an increase coming in the quarterly provision.
With respect to the appropriateness of the coverage.
Obviously, we spend a lot of time thinking about that appropriateness and I think first of all you can look at it on an overall coverage basis.
If you look at the two roughly 2.4 billion of the total allowance we think some a good way to look at it is versus trailing four quarters of specifics and that gives us about two times coverage of trailing four quarters and that includes two quarters of as you know significantly elevated impaired PCL or you could even look at it based on that.
Current quarter annualized so a fairly stressed impaired quarter annualized for four more quarters and thats still about one and a half times coverage and so I think when you compare that to the peer set you'll see that were actually pretty much in line with with most of the group and then we also look at it by line of business and I think for me I look at.
At the closing GA in terms of basis points on how that compares to the historical range of specific loss rates and if you look across every business US commercial is a good example.
We have 49 basis points of coverage now in us commercial the historic impaired rate of that business and for the last six years has ranged between six basis points and 27 basis points. So we think we're actually quite well covered in that sector.
And then I think we'd look at the at the experience even this quarter in U.S. commercial we actually saw the non TF specifics go down this quarter.
Including in.
Incorporating some specific impacts from some of the sectors you talked about that are impacted by co bid. So I guess two comments, we're not really seeing significant stress yet in the US commercial book, we think it's a really well put together book that can withstand a lot of stress and at 49 basis points compared to the historic loss rate of that have that segment.
To us that feels like adequate coverage and I think if you look across all of the business segments and compare them to their historic loss rates or even some version of a stress loss rate like we're seeing now you'll see that were over covered in every single one of the business segments.
Got it and this sale.
Ebrahim, sorry, it's Joe I'm, just going to happen jump in with apologies, but I think we better keep it to one question just because we all know we have a hard stop at 815, that's fine. Thank okay. Thank you operator next question.
Thank you then next question is from Scott Chen from Canaccord. Please go ahead. Your line is now open.
Hi, good morning, Pat.
Yes, and the capital market side, you talked about.
Trading losses on separate several days on on.
On certain segments or sectors.
Can you can you talk about both those certain sector.
The sectors that that that are more commodity driven or.
Kind of thought that was than usual either in the volatility.
Yes. Thanks for the question Scott I think what I'll do as maybe I'm going to ask Dan to make some preliminary comments on this and if I have anything to add I'll jump in after the fact.
Sure.
Thanks, a question Scott.
I think as you'll appreciate the quarter was a fascinating quarter, where the early part of the quarter.
We had some adjustments is covered came in the two weeks in March were extraordinarily volatile.
And then subsequent to that in April and now going onto into May we've actually had I would call it exceptional results.
In that period of high volatility.
We had a couple of places.
Where we had such extreme market dislocation.
Around historical patterns that we had some exposure. The first is what we call or equity links note business.
And then the second is how we're.
Covering off the heading hedging of our exposure.
Around our our derivative book, which you have known as Xcede. So those are the two places that we we work through some of that dislocation to the marketplace.
Okay.
Thank you then next question is from that given the Duchaine from National Bank. Please go ahead. Your line is now open.
Good morning, just the on the energy provisioning.
It surprised that the.
On them.
It was 54 million of specific provisions within them.
Thankfully the even from additional disclosure on the provisions on performing.
Similar question the Ebrahim given all the issues that we're seeing in that sector.
Why but number makes sense.
I'm.
Doubled fabricator.
Yes, no sure Thats, a great question and.
We think with that rate of coverage, we size it relative to a couple of things I mean first of all that's well above the current loss rate we've seen on specifics over the last couple of quarters and as you know the sector is already quite stressed.
And that the specific PCL rate has actually been pretty stable in the book for the last three quarters and so we have of we've had a pretty good picture of what stress looks like the other thing you can look at is what level of stress. We would have seen in our book back in 2015, 16, 16 would have been the worst year during the last downturn.
And there the we averaged about 150 basis points of loss in that year. As you know we recovered a fair bit of it later, but that was the rate in that quarter. So that kind of gives you. Another bookmark and then lastly, obviously, we do a ton of stress testing on the portfolio and I would tell you that up 35 dollar flat for three.
Years, a stress test and keep in mind. This is just a stress test theres assumptions baked into it but our best guess of a $35 flat environment for three years running would be roughly about a 2% loss rate per year in that portfolio and so that kind of gives us some sense that.
Two and a half times are to 250 basis points of coverage or three plus if you exclude pipelines is a pretty reasonable number for a sector and actually would incorporate higher levels of stress than we've seen in some of the more stress periods in the past for that sector and is quite consistent with our stress tests.
I do think the specifics or you are.
Looking at when an actual account go bankrupt or where there were are you doing any.
I think these guys are going bankrupt so think of specific now.
No. We we would take a specific provision on every oil and gas account that is currently classified as impaired and that provision would fully reflect.
Our complete expectation of what the loss would be so everything in the oil and gas impaired portfolio right. Now has a specific provision thats been taken on it if it needs. One of you know I would I would remind you that huge chunk of that oil and gas portfolios reserve based.
For example, we had a fair one very chunky addition into the impaired oil and gas portfolio. This quarter in fact that accounted for almost two thirds of the increase or another formations. We had in the sector this quarter and given the reserve base nature and the significant amount of junior debt. That's below us we actually don't expect to take any provision at all.
And so that.
Also gives us some comfort and the other thing to keep in mind to was a lot of the producer clients that we deal with particularly in the United States are hedged and a lot of them are hedged for the balance of the year. So they can weather quite well short term storms.
We'll see us the as prices play out but in the short term given that.
Plus the reserve based nature of our lending plus our stress testing and our own historic experience, we feel pretty pretty well covered in the sector. Thank you.
Thank you Kim next question is from key staff yield from eight capital. Please go ahead. Your line is now.
Thanks could we go back to capital markets for a moment and just the equity link note marks it didn't look like these products really rear their head to the equity line at the last time I appreciate it wasn't as adverse but we'll go back to O aid and we had a big sell off maybe can you talk about the differences there and.
Would you expect.
Thats a comeback linearly as the market Tom's background comeback in since since quarter end somewhat or is that a situation.
Maybe it was tolmar earlier mentioning that you've taken some risk off the table in some spots so is that.
Does that come back with the market.
Yes, Thanks, a question Steve I.
I think the piece I would give you as there was extreme volatility as we moved through.
Two weeks in March.
And so as you think about some of that normalization, you're right, we will get some of that back overtime.
With that normalization, but also as we went through there we are doing dynamic hedging.
And some of that dynamic hedging will then be permanent.
In terms of a realized loss.
As we think about going forward, we've done a lot to take risk off the book.
Both in terms of market downside protection.
Making sure that we have matched our term volatility profiles.
And then our exposure between different marketplaces, so think cana versus the us.
And have worked very very hard to take.
Book out and look at it today is being relatively balanced strong and immunized.
And again I do think there'll be some recapture as we go forward.
It's a strong business for us than has been and we'll continue to be so.
Is that dynamic dynamic hedging program for that book newer just enhance.
It's enhanced from where we were in if you think we've taken.
A more conservative view of our risks and so we're managing the business that way.
And if I look at the the trading days in the appendix. The day that had 180 million dollar think I'm reading our rate.
Last date is that primarily this book or is that a combination of thanks.
In every one of those lost days is a combination of many thing if you think about the breadth of our positions that day in particular was a combination really of the equity linked notes as well as the ex DVA. If you remember that was the day of extreme market dislocation.
Just before the fed came in and put in place its positions with dramatic asset sale prices moving and Dislocating.
And so you saw some of the volatility there to the negative you see the volatility of the positive after that as market started to normalize.
I think of it in my mind is about two thirds for.
The equity like notes in about one third fixed fee.
Okay excellent color.
Thank you.
Next question is from met many grauman from Cormark Securities. Please go ahead. Your line is now open.
Hi, good morning, and thinking about.
Where PCL ratio its peak and also.
Going back to my discussion of the adequacy of coverage on the allowance I'm wondering how appropriate as it to look back you reference sort of.
The past few quarters nearing, but if you go back far there too.
Past deeper recessions in Canada. The release early nineties, how appropriated it to look back to those historical examples to kind of gauge the magnitude Jim.
I guess government support is probably one factor are there other factors that we think that comparison not the best in your view.
Yes. Thanks for the question. Many I think you you answered your question a little bit right there.
I, certainly wouldnt discount the possibility.
That loss rates could end up being higher than within what we factored into the preferred the performing provision I mean, when I think about impaired going forward. We're running this quarter at 35 basis points, that's clearly a rate lower than what you would have seen in the financial crisis.
Or what you would have seen in prior recessions, but as you noted there are some things that are quite a bit different. This this at this time around not the least of which as you mentioned is some very very substantial and quite targeted and direct stimulus provided by the government. The second thing I would suggest is loss rates tend to be very much a function of duration of.
The economic stress.
And you know in prior to have did recessions you know you could think of those as running two to three years before we started to see recovery and this one just given the unique nature.
Most of the economic consensus forecast would see a recovery much much faster than that and think about stress on corporates are consumers and a lot of particularly when you get to higher quality credit folks like ours can withstand short periods of stress, but things start to get non linear in terms of PCL as that as that duration goes longer so I would say.
The risk to our forecast is if a sharper correction or a correction that is anticipated by the consensus turns out to be much longer than we expect then you're going to see some upward pressure and likely to push up into some of those more stressful loss rates that you are talking about from prior recessions. The other thing I'd highlight two is mix has changed.
But over the course of time as well.
Our Cree portfolio is a great example, we had fairly elevated Cree losses during the last recession.
That book looks dramatically different today than it did back then and so when we run a stress test today on thus on on a portfolio that portfolio, we see very different loss rates on what we would have seen in a weight. So I would say those three things mix duration and government stimulus.
Would likely see loss rates lower I'll caveat, all that with wherein dramatically uncertain times and so.
That that forecast could be different but I think about loss rates as you know from 35 basis points, where we are today, where theyre likely to drift up higher.
I think likely into those into the Fortys.
The other end of that book end would probably be at a 70 basis point range was where which has been closer to what you saw during the GFC. So hopefully that answers your question many.
Yes. Thank you.
Thank you Kim next question is from Doug Young from Deutsche Bank Securities. Please go ahead. Your line is now open.
Yes, so sorry, it was on mute.
Questions for pad I think Pat in your prepared remarks, you talked about just the build out of performing loans and I think you mentioned and I didn't catch should cause some hoping you can flesh it out the weaker outlook accounted for most of the build and change in scenario weightings models and whatnot that are netted I was hoping you can kind of just flesh that out a little bit more and talk a bit about.
More but the process and maybe if you can give some weightings in terms of how much was driven by the scenario changes versus the forward looking indicators and whatnot. Thank you.
Sure.
So as I said in my comments that single largest factor by far was the macro economic variable change. So have a 705 provision that can thats. The size of the macro impact was about was actually slightly larger than that.
In addition, we had some balanced growth in there, which contributed about call. It about 40 million credit migration with little bit of credit migration for about the same amount there was some FX in there as well that contributed about 50. So those were the things pushing upward on the provision we had some model changes, which are pretty normal course in any quarter.
Sure.
That adjusted it down by about 60 ish and then we did change our scenario weights in the quarter.
Because we are our base case is actually much much closer to what our prior adverse case looked like.
And we're now clearly in a downturn, we felt that the the probability of a benign scenario was about equally weighted to the adverse scenario now just given that we're right in the middle of a downturn our entering into it and so that scenario adjustment actually reduce supervision again by about 50.
Million so those other things all netted out to about into the impact of the macro change and that's why I made those comments at the outset.
So the model modeling reduce the performing loan PCL.
And I guess this scenario weightings, because I can expect a downturn on top of a current downturn and so that's still at your thinking in terms of scenario, but when you think of the modeling to that is what did that relate to.
Yeah that is probably more detailed and I think I want to get into on the call Theres a lot of technical things that we were constantly evolving our models every quarter are always looking to improve the efficiency and then sometimes we'll add sector specific models, where we don't have them anywhere and so these things tend to be quite small.
All this quarter was a little bit larger than you might normalize normally see but in a model changes are completely normal course, we have them fairly often as I'm sure most other banks do as well.
Okay that they'd be something to follow up on thank you.
Thank you.
Next question is from Mario Mendonca from TD Securities. Please go ahead. Your line is now open.
Good morning.
On a quick clarification first Pat when when you talk about performing loan losses declining.
But impaired increasing I have you can you offer an outlook on just the total pcls ratio looking forward could the impaired increase sufficiently such that we're looking at it and then pair total pcls ratio.
Level similar to Q2 in subsequent quarters.
Three specifically.
Yeah, I would say if you're thinking about totals our current expectation would be that it would not be at the same level as what you would have seen this quarter.
Beyond that its gets pretty hard to predict as you can imagine the performing number theres lots of moving parts and that that can change from quarter to quarter.
So that one is harder to predict but.
And I know and based on where I sit today I don't see a large amount of upward pressure on the impaired provision and so that gives me some confidence that the net of those two things will be a lower total performing or a total provision number.
But just given how much uncertainty there isn't the market I'm a bit lows to try and pinpoint a specific number of in terms of loss rate for you at this point okay. The actual question I wanted to get to then was.
You talked about the duration and being.
Very very important to the trajectory of credit losses.
When you think about setting your performing loan loss reserves can you talk about when.
When in your models things are normal, Matt what I and by that I mean unemployment returns to a free coven level. GDP is activity is essentially back so a pretty cold level can you offer some commentary there.
Yes, I think.
Well first of all I'll caveat to that by saying that those could those things are obviously important but there are many many other variables that go into the model Triple B spreads of levels of the VIX. So all of those things can move around enhancing our offsetting some of the movement. You are taught that move back to normal that you're talking about and then beyond that I would actually.
Really just simply point you Unfortunately to the Mdna, we have some pretty good disclosure there about what we see you'll see no for instance in Canada GDP decline this year of roughly about 6% and then in 2021 rebound of 6% just the way the math works that doesn't get you back to flat.
By the end in 2021, but it gives you a sense of how we're predicting recovery there and then you will see similar patterns for the unemployment rate as well.
Okay. Thank you.
Thank you.
The next question is from Nigel the Susan from various this. Please go ahead. Your line is now open.
Your last question.
Good morning. Thank you so actually wanted to follow up a bit on the macroeconomic variables.
Our year performing loan loss modeling and if I could turn to.
Age 32 of your shareholders report, where you outline your updated.
Forward looking indicators.
Now turning a little bit more positive. So you you're expecting the higher home price appreciation you'd be skew scenario and then your adverse scenario.
You are not expected expecting or forecasting a decline in home prices. So I was wondering if you could just provide more color on your thinking there and maybe also touch on.
What's the sensitivity if you're performing on allowances if in the future you did forecast a more material decline in the H.B. I.
Yeah, and unfortunately, you cut out there I don't know if it was on our under Eurs, but I missed a good chunk of your question actually.
But maybe.
I'll try and answer it based on what I heard.
Thank you can we actually show the adverse scenario there on slide on page 32, So you can get a sense.
And we also disclose F.
I Wonder if we had 100% weight in the adverse scenario. So that just gives you some perspective, it's about relative to the allowance today, it's about a 600 million dollar increase in the in the allowance if we move to our 100% adverse case and so that does gives you some perspective and in there. We obviously don't neuron page 32, we don't disclose all the variables that it would be.
Associated with our adverse case.
That just gives you a sense of the sensitivity and hopefully that answers the question part of which I did not here.
So if we have time just for clarification just the assumption on your.
Price outlook it looks to be more positive now so I was hoping you just provide more more color on all forecasting a decline in real estate prices.
Even in your adverse scenario.
So sort of your question is why are we generally bullish on housing prices.
Yes going to your forward looking indicate it looks like you're expecting price to be flat or higher in your scenario ratings here.
Sure maybe I'll ask Ernie she is very close to this market segment and so she's probably got some very good color. Yes. Thank you for that question, what we're thinking on the on forecasting relate to housing prices is basically what we're seeing now some some stabilization in certain sectors in certain geographies and so I would say right now our position.
And would be that we're going to be remaining quite flat on housing prices, obviously in while affected regions et cetera, we're going to see some nuances there but for now that's what our indicators are suggesting.
Okay. Appreciate the color. Thanks.
Thank you I would now like to 10 Mccann, meaning over comes to narrow like.
Thank you operator, and thank you to everybody on the call I'll, just wrap up with a couple of summary thoughts.
In terms of bringing us back to our core messages I would remind you that we're extremely proud I am extremely proud of the strong response, our teams have had through the crisis.
We're very comfortable with their capital and liquidity position, which drives the stability of the bank the ppt at $2 billion. Despite the softness in our market sensitive businesses is very substantial relative to the prudent provisioning that we've got.
In our.
Pcls and we're very confident in the outlook so with that operator, I will leave the call there and I wish everyone continued health and safety. Thank you very much.
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