Canadian bank CEOs insist they will keep paying dividends, even as banks around the world have axed payouts under pressure from regulators to preserve capital within the banking system.
Concern is mounting about the sustainability of banks’ dividends after major British and European lenders suspended payouts to prepare for an unpredictable health crisis. Banks everywhere are bracing for a major shock as measures to curb the spread of the new coronavirus shut down large parts of the global economy, putting millions out of work and making a painful recession into a virtual certainty.
Canadian banks made it through the last financial crisis with dividends intact, and they have built generous capital reserves since then. They have also treated the payouts as more or less sacrosanct: Steady dividends serve as signals of health in a banking system and stopping the payouts can erode confidence. Dividends also provide a flow of income to a wide array of investors, including retirees, at a time when low interest rates have sapped returns on bonds.
On Wednesday, the United Kingdom’s largest banks bowed to pressure from Britain’s financial regulator and suspended dividend payments. Several large European Banks, including Italy’s UniCredit and Dutch bank ING Group have also halted after a request from the European Banking Authority, and Mexico’s financial regulator followed suit on Thursday, saying that “it’s impossible to estimate how deep and how long the economic effects of the pandemic will be.”
Canada’s Office of the Superintendent of Financial Institutions, has told domestic banks not to increase dividends or buy back shares, but has made no effort to reduce payouts. And so far, bank executives are telling investors not to worry.
“At this time, I don’t see a change in TD’s dividend policy," chief executive Bharat Masrani said in an interview with reporters after the bank’s annual meeting on Thursday.
Toronto-Dominion Bank has “more than adequate capital” to confront the crisis, Mr. Masrani said. He suggested Canadian banks’ conservative appetites for risk, and tendency to avoid some of the most risky lending undertaken by global banks, give them an extra margin of safety.
“All governments are trying their best to make sure that individuals do have the liquidity, that they do have the money, and they’re trying to introduce various programs to deliver that," he said. "And to say that ‘alright, we’ll take this away,’ seems contradictory to that objective by elected officials.”
Banks are facing significant pressure from an anticipated spike in loan losses in the long run, as well as widespread demand from companies to draw down funds on credit lines immediately. But bankers and regulators are keenly aware that bank stocks are widely held by millions of Canadians, some of whom depend on them as retirement income. Some worry that cutting off dividends could worsen the economic hardship from the crisis.
“About 77 [per cent] to 80 per cent of our shareholders are Canadian, either institutional or retail, so the construct of our shareholder base is very different than would be a European bank,” said Bank of Nova Scotia CEO Brian Porter on Tuesday. Mr. Porter and Bank of Montreal CEO Darryl White both said they have no plans to slash their banks’ dividends.
Several banking analysts agree that Canadian bank dividend cuts are unlikely, at least in the near term, and some suggested banks would be more likely to raise equity to bolster capital levels.
The Big Six are coming into this crisis in a strong position, Bank of America Securities analyst Ebrahim Poonawala said on Wednesday. On average, the banks have a common equity Tier 1 (CET1) ratio of 11.6 per cent – a key measure of a bank’s resilience – or 2.6 per cent above the minimum level set by OSFI. That gives banks room to absorb losses, Mr. Poonawala wrote in a note to clients.
“While the current crisis could be worse given the state of the energy sector and an over-leveraged consumer, we believe that the bar for dividend suspension/cuts is extremely high,” he said.
OSFI has already freed up an estimated $300-billion in lending capacity by lowering the domestic stability buffer, which serves as an extra cushion of capital amassed in good times, by 1.25 percentage points. Officials from the regulator said they have leeway to reduce the buffer further if necessary to free up more capital.
For now, banks are likely running stress testing models multiple times a week, and giving frequent updates to the regulator. But it has become far more difficult to make accurate predictions as banks grapple with the speed of the unfolding health crisis, as well as estimate the effects from an unprecedented response from governments.
“The biggest challenge is trying to understand how long the crisis is going to be, and then trying to overlay what will be essentially an unprecedented level of government support and trying to understand how this will impact the recovery," said Mark Hughes, a former chief risk officer at Royal Bank of Canada who now chairs the Global Risk Institute in Toronto.
Canadian banks also differ from their British and European counterparts, which are tightly regulated. Many European banks are still building capital buffers under new rules introduced after the last financial crisis, and cleaning up bad loans on their balance sheets.
European banks’ dividend payments have also been more variable historically compared with Canadian bank dividends, which are considered ‘locked in,'" said Gabriel Dechaine, an analyst at National Bank Financial Inc., in a note to clients.
And Canadian banks are in a different position politically, after some British banks needed government bailouts in the last crisis, said Laurence Booth, professor of finance at the University of Toronto’s Rotman School of Management.
“The Canadian banks do not have the bad reputation that the European and the U.K. banks have got, so it’s not like the government can lean on them and say, ‘Look, we’ve bailed you out, you’re bad guys, do what we say, you’ve got to rebuild your reputation,'" Mr. Booth said. “So that moral suasion component is missing in Canada.”