A dramatic and unexpected improvement in losses from sour loans helped propel Royal Bank of Canada to a first-quarter profit 24 per cent higher than last year.
The country's largest bank by assets surprised the Street by reporting provisions for credit losses (PCL) – money set aside to cover loans going bad – that were about $92-million less than most analysts expected, thanks in part to recoveries in the bank's loan book for the oil and gas sector.
Fears about a troubled energy sector that dogged big banks' earnings last year have eased, and RBC also set aside less money for losses in its consumer-loans portfolio. The standout first-quarter result – provisions were $294-million, down 28 per cent year over year – may be something of an anomaly. The PCL ratio of 22 basis points, or 0.22 per cent of average net loans and acceptances, was below the bank's traditional levels.
The question is: What might normal credit losses look like for the rest of 2017?
"For us, a range of 25 to 30 [basis points] seems prudent, because there's always unexpected things – there's volatility in policy and political environments out there in Europe and America that you have to account for," Dave McKay, RBC's chief executive officer, said in an interview.
He expects RBC's provisions will return to that range, which represents "a fairly benign credit book."The bank has yet to see a "return to investment" in Alberta, the province most affected by oil prices, Mr. McKay said. But concerns about energy loans haven't hit consumer-loan and credit-card portfolios as hard as banks once expected.
"There's been more layoffs. It's difficult out there, I don't want to undermine that, but people are finding ways to service their debt, and have equity in their homes," he said.
Even so, Canadian banks' credit portfolios may not be out of the woods just yet. On Thursday, Canadian Imperial Bank of Commerce reported PCLs that were 10 per cent higher, excluding an adjustment recorded last year, and analysts predicted major banks would see rises of 8 per cent or 9 per cent for the first fiscal quarter.
"Although our concerns about domestic consumer credit quality appear to be overblown at present, we continue to believe they will represent a headwind to earnings for the group, with [RBC] more exposed than most," John Aiken, an analyst at Barclays Capital Canada Inc., said in a research note.
Toronto-based RBC is the second bank to post a stronger-than-expected profit as well as a dividend increase this earnings season, shrugging off the drag from a sluggish Canadian economy.
"Having that diversified client base across Canada, the U.S. and Europe … really showed its strength this quarter," Mr. McKay said.
RBC earned $3-billion in profit, or $1.97 a share, in the quarter ending Jan. 31, up 24 per cent from nearly $2.5-billion, or $1.58 a share, a year earlier.
Adjusted to exclude certain items, including a $212-million gain from the sale of U.S. operations of Moneris Solutions Corp., RBC said it earned $1.83 a share. Analysts polled by Bloomberg expected adjusted profit of $1.76 a share.
RBC hiked its quarterly dividend by 4 cents a share, or 5 per cent, to 87 cents, beating expectations.
"Overall, this feels to us a like a bit of a workmanlike quarter from Canada's biggest bank," Robert Sedran, an analyst at CIBC World Markets Inc., said in a note. "This is not the kind of quarter that changes an investment thesis, in our view, but rather one that supports our positive one."
The bank is also shuffling two senior executives to new roles. Jennifer Tory, who spent the last three years as group head of the personal- and commercial-banking division, becomes chief administrative officer on May 1. She will still report to Mr. McKay, overseeing cross-business initiatives. Although the CAO title used to belong to Janice Fukakusa, who recently retired from the bank, a spokesperson said Ms. Tory won't be performing the same duties as Ms. Fukakusa did "at this time."
Taking over from Ms. Tory at the helm of Canadian banking is Neil McLaughlin, who has been at RBC since 1998, and is currently executive vice-president of business and financial services for the retail bank.
Earnings in RBC's cornerstone Canadian banking operations climbed 23 per cent from the same quarter a year ago, to $1.6-billion. Adjusted to exclude certain items, profit rose 8 per cent. Capital markets earnings were 16-per-cent better than a year earlier, at $662-million, while profit from wealth management rose 42 per cent from the first quarter last year, to $430-million.
"Royal's first quarter benefited from stronger-than-anticipated credit quality, trading revenues and cost controls, which is quickly becoming the theme of the quarter," Mr. Aiken said.
The bank reported an 11-per-cent common equity tier 1 capital ratio – a key measure of financial health – up from 9.9 per cent a year ago. With capital to spare – the bank's target for CET1 is about 10.5 per cent – executives faced renewed questions from analysts about possible small-scale acquisitions in the United States to complement RBC's 2015 purchase of Los Angeles-based City National Corp. But inflated share prices for U.S. banks could be a barrier, and Mr. McKay stressed that he would be content if no deal gets done in 2017.
"I mean, you look at the prices of U.S. banks and the run-up there – an ability to generate synergies and a return on capital remains challenging, I would say, at best," he told analysts. "So we're obviously very conscious of shareholder return as we look at tuck-in acquisitions to City National."