Q: Hi Peter,
Paul Holden of CIBC Capital Markets raised his recommendation of Royal Bank of Canada and National Bank of Canada to outperform. He cited their capital levels, earnings diversification, and lower relative credit risk as the basis for his favourable recommendations.
However, he acknowledged there are risks to that assumption and that central banks could overshoot by tightening too aggressively and thus tip economies into recession; or they could move too cautiously and allow stagflation to take hold.
Holden’s models show the Big Six banks, could see their Fiscal 2023 earnings per share tumble 33 and 31 percent, respectively, in the recession and stagflation scenarios.
“Canadian bank stocks are not being priced for the same economic risks that have already been incorporated into the bond market and U.S. bank stocks. We are not calling for a 2023 recession as our base case, but we cannot simply dismiss that possibility as inconsequential. Our analysis shows there could be (roughly) 30 percent downside should a recession scenario transpire,” he wrote.
Do you agree with Paul Holden’s recommendation concerning the Royal Bank and National Bank as the best of the Big Six banks to own today? Please explain your rationale.
Second, in the event of a recession or stagflation scenario in Canada, do you agree with Paul Holden’s prediction that the Big Six bank stocks will tank by about 30%? Please explain your rationale.
Thanks
George
Paul Holden of CIBC Capital Markets raised his recommendation of Royal Bank of Canada and National Bank of Canada to outperform. He cited their capital levels, earnings diversification, and lower relative credit risk as the basis for his favourable recommendations.
However, he acknowledged there are risks to that assumption and that central banks could overshoot by tightening too aggressively and thus tip economies into recession; or they could move too cautiously and allow stagflation to take hold.
Holden’s models show the Big Six banks, could see their Fiscal 2023 earnings per share tumble 33 and 31 percent, respectively, in the recession and stagflation scenarios.
“Canadian bank stocks are not being priced for the same economic risks that have already been incorporated into the bond market and U.S. bank stocks. We are not calling for a 2023 recession as our base case, but we cannot simply dismiss that possibility as inconsequential. Our analysis shows there could be (roughly) 30 percent downside should a recession scenario transpire,” he wrote.
Do you agree with Paul Holden’s recommendation concerning the Royal Bank and National Bank as the best of the Big Six banks to own today? Please explain your rationale.
Second, in the event of a recession or stagflation scenario in Canada, do you agree with Paul Holden’s prediction that the Big Six bank stocks will tank by about 30%? Please explain your rationale.
Thanks
George
5i Research Answer:
We fail to see how an analyst can discuss a 30% drop and then raise ratings on two banks. RY is the largest and typically the safest bank and we are fine with that call. NA likely has the least risk of US contagian and may be less risky than others with heavy international exposure. But in terms of the forecast, investors have been worried about recession for 16 months now. Valuations reflect at least some of this worry. The Canadian system is much stronger than the US: more conservative and less competition. The Bank of Canada has already indicated it will likely stop rate hikes. We would not agree with a 30% decline unless we saw a 2008 scenario, which we do not see as likely. 10% perhaps would be a more realistic number.