Magnitude of credit losses will depend on BoC’s ability to orchestrate a soft landing: RBC

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While RBC posted stronger-than-expected earnings results, the bank said it expects credit losses to intensify in the coming months as interest rates remain elevated.

In comments made during the bank’s Q3 earnings call, chief risk officer Graeme Hepworth said the impact of inflation and high interest rates is expected to play out over the coming years.

“We are still in the early stages of the current credit cycle,” he said. “As we move further into the credit cycle, we expect to see losses driven by more systemic factors arising from the anticipated economic slowdown.”

The full extent of the anticipated slowdown or potential recession remains largely in the hands of the Bank of Canada, Hepworth added.

“Ultimately, the timing and magnitude of increased credit costs continue to depend on the central bank’s success in contributing to inflation while creating a soft landing for the economy,” he said.

For now, however, the bank’s retail portfolio continues to “outperform expectations,” supported by the current low unemployment rates, Hepworth added.

While slower than previous quarters, mortgage volumes remain up 5% compared to last year.

RBC also increased its provisions for credit losses slightly to $616 million in Q3, up from $600 million last quarter.

Amortization periods normalizing

Similar to what TD Bank reported in its third-quarter earnings results, RBC also saw the remaining amortization periods for its residential mortgage portfolio start to decrease.

In previous quarters, banks that offer fixed-payment variable-rate mortgages, like RBC, TD, BMO and CIBC, had seen the amortization periods for those mortgages lengthen dramatically.

In most cases, however, the mortgage reverts to the original amortization schedule at renewal, which would typically result in a higher monthly payment.

In Q3, RBC saw the percentage of mortgages with a remaining amortization above 35% start to ease to 23% of its portfolio, down from a peak of 25% in Q2.

RBC residential mortgage portfolio by remaining amortization period

Q3 2022 Q2 2023 Q3 2023
Under 25 years 60% 57% 57%
25-29 years 16% 17% 19%
30-34 years 4% 1% 1%
35+ years 20% 25% 23%

RBC earnings highlights

Q3 net income: $3.9 billion (+8.9% Y/Y)
Earnings per share: $2.73

Q3 2022 Q2 2023 Q3 2023
Residential mortgage portfolio $347B $356B $363.2B
HELOC portfolio $36B $35B $35B
Percentage of mortgage portfolio uninsured 75% 76% 77%
Avg. loan-to-value (LTV) of uninsured book 45% 69% 69%
Portfolio mix: percentage with variable rates NA 32% 29%
Average remaining amortization NA 26 yrs 24 yrs
90+ days past due 0.10% 0.12% 0.13%
Mortgage portfolio gross impaired loans 0.10% 0.10% 0.11%
Canadian banking net interest margin (NIM) 2.42% 2.65% 2.68%
Provisions for credit losses $340M $600M $616M

Source: RBC Q3 investor presentation

Conference Call

  • Mortgage volume moderated to 5% compared to last year.
  • RBC said it “remains focused on the trade-offs between spreads and new mortgage originations as intense pricing competition is limiting expansion in asset betas.”
  • On mortgage underwriting, president and CEO David McKay said, “we will remain disciplined to ensure new originations continue to meet internal hurdles of economic value.”
  • Asked about the strong competition the bank is currently seeing in mortgages, Neil McLaughlin, Group Head, Personal & Commercial Banking, said the following: “Despite the competition…the rapid volatility in swaps has impacted mortgages I think across the [board]. We said the market is competitive, but we do look at it and expect some normalization, as we saw that volatility and swaps start to abate. When we look at it overall in terms of profitability, we do look at the levers we have in the short term and long term, and I think we feel very confident that we have levers over the medium term if we need to pull them to manage the profitability there.”
  • McLaughlin also noted that many variable-rate mortgage clients have been making lump sum payments in order to lessen the “payment shock” at renewal time. He said that’s resulted in a “slight decrease” of LTVs at origination, “but not something I would say worth calling out the portfolio overall.”
  • On the topic of delinquencies, Chief Risk Officer Graeme Hepworth said the following: “Expected losses in the retail portfolio continued to be delayed due to strong employment and elevated levels of consumer deposits. We do expect credit trends in retail to weaken as the labor markets soften and more clients are impacted by higher mortgage payments. These credit trends will be led by credit cards and unsecured lines of credit consistent with the traditional credit cycle.”
  • RBC reported that its full-time employee count fell by 1% compared to the previous quarter, with the bulk of cuts effecting the bank’s personal and commercial banking unit, and wealth management unit.
  • Higher staffing costs drove the bank’s expenses higher by 23% to $7.86 billion in the quarter.

Source: RBC Q3 conference call


Note: Transcripts are provided as-is from the companies and/or third-party sources, and their accuracy cannot be 100% assured.

Featured image by Cole Burston/Bloomberg via Getty Images

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