Bank of Montreal (BMO) Earnings Call Transcript & Summary

Great. Thanks for our next presentation, we have Bank of Montreal. Coming from Bank of Montreal. We have their Chief Financial Officer, Rahul Nalgirkar. Welcome, Rahul.

Thank you.

Maybe let's get started kind of on the macro. Can you give us an update on the economic environment in Canada, especially in light of recent tariff negotiations and ongoing investments on it? You also have a unique perspective on the subject with large commercial businesses on both sides of the border?

Sure. First of all, thanks for having us, and thanks for hosting us here. As we think about Canada and U.S., it's been a long-standing relationship and partnership, which lives over decades. And while -- and then that's what's made the North America a pretty strong economy as well in general, if you think about it. So while there may have been some uncertainties with the recent trade discussions, I'm optimistic as we look beyond where things would proceed with this. If you think just near term, you asked what is it looking like? I mean, clearly, there's a lot of discussion on demand, there's continued demand, loan closings this year are almost double of what it was last year, coming out of a lot of slow 2025. Pipelines are strong. Conversations are strong. I think what clients are looking for, is that a little bit added confidence towards the end as the negotiations find closure. As you think about BMO being a top 5 commercial bank in North America, we're very strategically positioned to help clients in their needs, whether it's cross-border, whether it's supply chain, whether it's export. And I think that's where we've been focused on, on how do you help the clients proactively and also use this as an opportunity to, in fact, acquire new clients on both sides of the border.

Great. And then I think if you look at recent earnings in Q3, demonstrated double digits year-over-year growth in revenue, PBT net income and EPS. Any of our key takeaways from earnings you'd like to highlight for investors? And how are these trends shaping up for 2027?

Sure. Third quarter was another strong quarter for us, and the results demonstrate the continued progress and execution, which we have been doing on our path, which we laid out at Investor Day. If you see 7 quarters in a row when we started this journey in the end 2024 at an ROE of 9.8%. Now we finished at 14%, almost up 220 basis points so far this year, and it's been broad-based. It's not just coming from one particular unit, all the 4 units subsegments for us are contributing 50, 60 basis points each of this expansion of 220 basis points we have had this year. So broad-based and also largely coming from core operating performance. We've seen strong performance in revenue was up 11%. PPPT was up 13% and record at $4.5 billion. All 4 of your units printed record PPPT. ROE of 14%, ROTCE of 18% and EPS growth of 22%. So I feel very good about what these results demonstrate the results of our execution. And then that gives us the confidence as we think about the next phase of the journey towards 15% exiting 2027.

Okay. And then, throughout 2026, Bank of Montreal has made steady progress towards reaching its 15% plus ROE target, inclusive of a 12% U.S. banking ROE with 3Q generating 14% on overall at 9.8% in the U.S. Maybe can you discuss some of the drivers for that RE expansion? How much is structural improvement versus cyclical market conditions? And then can you update us on the time line to achieving your return targets?

Sure. A part of this is also related to my previous response, where a lot of this growth, majority of the improvement is all coming from core operating performance and it's broad-based. Where we have come along within core operating performance includes the improvement in returns of our U.S. business. It also includes broad-based growth of our capital markets Canadian wealth and Canadian personal business as well. As we think about the remainder of the journey from here onwards to the 15% target, which we have, I think about 50%, 60% comes back from core operating performance. Continued strength in the P&C businesses on both sides of the border and the strength, which has been demonstrated both in wealth and capital markets. And the remainder portion, we expect as credit normalizes as we continue to optimize our capital, the remainder to come from that. So it's a combination of largely dependent on core operating performance from fees, from deposits as we better squeeze the dollar of capital for more fees and deposits, that's how we look at it.

Great. Maybe drilling down into the U.S. banking business, now the bank has optimized the loan portfolio and divested certain businesses. Where are the areas resources will be deployed -- redeployed -- and how are you positioning for growth opportunities going forward?

Sure. I mean, listen, we're very pleased with the progress, which our U.S. banking has shown so far. ROE of 9.8%. I think the one thing I would point out is that's ROTC of 17.3%. That's Important to note on return on marginal capital. That's 90 basis points of ROE improvement year-over-year. And then these results demonstrate the impact of our deliberate actions. We deliberately 5, 6 quarters ago, unified the operating structure to bring all the business together under one umbrella. There's been very strong core operating deposit growth. TPS fees have grown about 14% year-over-year. Strong operating leverage. Capital has been optimized as we looked at businesses which didn't meet our risk-adjusted return expectations. PCLs have normalized. And we have had significant upgrade in talent and reinvestment in tech across the board. So it's a very all-rounded story in terms of what these results reflect in terms of these deliberate actions. As we look forward from where they are at around 10% to the remainder of 12%, I broadly think about the remainder of the journey as almost 1/3, 1/3, 1/3 as I say, coming from fees, 1/3 coming from deposits and 1/3 coming from all other actions, including cost and capital as we continue to invest and allocate capital to relationships and businesses which meet our risk-adjusted returns through the cycle and also our growth expectations through the cycle. So that's how we've been very deliberate in our capital optimization and our liquidity optimization and also mix expense.

Great. Another major factor in the ROE expansion story has been continued strength in capital markets. Maybe can you discuss how you are positioned within capital markets relative to other Canadian banks?

Sure. I mean if you think about Capital Markets business, again, a very strong result so far this year, printing almost $900 million PPPT every quarter. I feel very strong about it. And while the markets have been constructive, but the story here is largely structural and represents the results of our deliberate investments over years. We've been very deliberate about allocating capital. We've been deliberate about expanding in tech and talent of a lot of product capabilities. And then also very deliberate about how geographically this is dispersed. 48% of the revenues are from U.S., 41% from Canada. A lot of capabilities, as I was mentioning, which we have evolved over the years. First quarter was dominated by commodities. Third quarter was dominated by the equities. So as the market and the situation presents itself, we've diversified our and expanded our capabilities so that as we think about the future and as we think about sustaining strong performances, through the cycle, it helps us to get there. So the floor has resumed. And while I do recognize markets have been constructive, but there's a lot to do with the deliberate actions.

Sure. Returns have also been strong kind of Canadian P&C and wealth. I mean, are there any trends there that you'd like to touch on?

Yes. I mean, what I would mention is that those 2 are our highest return businesses Canadian P&C had ROE of almost 23% and wealth of about 42%. And as I deconstruct each of those businesses, very pleased with where we are seeing growth. If we talk about Canadian P&C, 7% deposit growth, 3% loan growth, 13% EPS growth, strong ROE performance year-over-year improved at 23% was up 300 basis points year-over-year. So core operating performance business in general, focused on deposits, focus on fees, lot of good improvement there. And I think the last leg, which we are looking at is as we get past our optimization on the consumer unsecured as we look at growing the mass affluent and the premium group. That's a big focus of there as that then allows us to raise our ROEs in this segment beyond 23 to our medium-term target of 25 plus. As I look at wealth, I have a very strong performance. PPPT of $620 million, if we were having this conversation 3 years ago, that was in the mid-300s to high 300s. So that reflects a lot of strong performance, which we have had over the years, especially in Asset Management business, where we've been a leading provider of many products like ETFs and mutual funds and so on and so forth. So again, reflecting delete investments we have made in that business and then feel strongly about how those 2 ROE businesses are also growing and contributing to capital generation.

All right. Let's move on to credit and kind of start with performing PCLs. After materially improving over the course of the year, for PCLs kind of have been relatively flat sequentially. Just -- did your guidance include the potential impact from higher tariffs? And if the tariff policy is enacted and maintained with that gradually that would imply gradually higher PCLs heading into 2027.

Sure. So what I would mention is we enter fourth quarter with a position of strength as far as credit is concerned. We have a reserve coverage of 69 basis points and feel very well positioned for that watch list gross impaireds are trending in the right direction trending down. We have a diversified exposure base. And as we look at the fundamentals of the customers, they're pretty strong, especially the commercial customers. So as you put it all together, we feel good about it. And I think to also answer your question, a lot of the tariff-related activities, which are there. As we look at our performing PCL, we try to factor in certain scenarios based on economic scenarios and also some expert judgment. So a lot of that gives us the comfort in terms of where we are entering into fourth quarter. We had said that we expect our fourth quarter impaired to be in the similar range as what we had in the third quarter, which was in the low 40s. And then heading into next year, I think path down towards the mid- to high 30s as we think about 2027. And then just to elaborate on your point on what does the tariff mean. I mean at this point of time, it's a manageable percentage of direct exposure and very material size of the book. So this does not present any credit build or credit data point at this point of time. But more what we are focused on is the secondhand impact, the secondary impact of what it means to the broader macro, and that's what we are closely watching out. But we feel pretty good about where we are entering the fourth quarter. Both our reserves, both are impaired in the direction of underlying credit.

I don't mean to -- going further, gross impaired loans continued to move lower in conjunction with the decline in formations. Any particular factors that were driving this decrease or noticeable differences in geography or segment? And do you see gross impaired loans reaching the bottom in the near term?

So yes, I mean those impaired this quarter were 97 basis points came down about 4, 5 basis points quarter-over-quarter. The watch list trend, the gross impaired trend has been pretty broad-based and heading in the right direction, declining, both in commercial and consumer business in both sides of the border. I think as we look forward, overall, I think we are focused on Canadian consumer, how that evolves over a period of time. But largely, the strength is coming from improvement in watch list and gross impaired on the commercial side, which is a bigger portion than a predominant portion of our business. So we do expect that to happen, and that's correlated with our guidance at which we had provided for our mid-30s, high 30s impaired being correlated as those underlying trends are running positive that supports our impaired outlook as we look in the future.

All right. And then you highlighted ongoing investments in technology, innovation, including the rollout of GenAI tools for advisers and customer self-serve capabilities. Could you elaborate on how these initiatives are translating into tangible cost efficiencies or revenue opportunities in the near term? And are you starting to see scalable benefits from your digital transformation in terms of operating leverage?

Yes, sure. So I mean as we think about AI, we've got very strong momentum and pretty excited about what it means in terms of our opportunity for efficiency in both revenue growth in both our -- in all our businesses in both the countries. I think broadly before I answer that question, AI to us is we look at it in a couple of different ways. How we are basically personalizing the client experience, how we are augmenting this for our employees and how we are automating our processes. And I think that is the big part because AI is not just a tech project, but it's a fundamental rewiring of your business model and processes. So from that standpoint, as we look at it, there's not already benefits which we are seeing. Now earlier part of the phase in this journey, it's going to be more on the efficiency side. But as time progresses and as some of these tools have their impact. It will start yielding into revenue growth. We already have revenue growth impact, but it's more coming on the efficiency side right now. I mean, to give you some examples, you asked for it in our insurance business, we have this tool called Smart decision, which has cut down the underwriting time from many weeks to a couple of minutes. As we look at customer complaints and customer disputes, when we look at completely or reorganizing the end-to-end journey with the genetic tools that speeds down not only the time for resolution, but also the quality of customer experience and also credit for that matter. So there are a lot of these benefits, which we are seeing and that gives us the confidence about the $1 billion PPPT benefit, which we had talked about achieving by 2030, feel good about that progress.

One thing we really haven't touched too much on loan growth. Are there any areas you can maybe discuss like compare commercial loan growth opportunities and consumer loan growth opportunities? I mean how would you compare the U.S. opportunity in the U.S. versus Canada, especially like this past week, we've had the Canadian Investment Summit going on?

Yes. Yes. Sure. I mean maybe I'll start with Canada and then go to the U.S. I think in Canada, there's a lot of good dialogue with this summit, which is going to attract a lot more capital. I think there are already discussions on special projects. Like defense infrastructure, which is there. What makes us feel very good as being a dominant commercial player in Canada positions us well to serve the clients in that need. And as that capital is coming into the country, how do we help those investments and also grow our own business and revenues as we see those areas specifically. Canada, though, what I would say is coming out of last year, which was relatively slow, we have seen in Canadian commercial low to mid-single-digit loan growth. But the pipelines and the closings are very strong. So as we expect things to progress in time to get more clarity on the trade negotiations, we do expect more pickup from there. On the U.S. side, I think the clients have been very resilient. The activity is similar story. Pipelines are strong. We had 4% sequential loan growth in U.S. commercial. While a lot of that might have been related to some of the backlog on commercial construction and M&A activity side, but the underlying growth is still pointing towards a mid-single-digit loan growth as we exit the year. So good activity. Good loan closing, strong pipelines. I think probably U.S., I would say the client sentiment is a little bit more confident than in Canada. But then with the negotiations finding place, we expect that to level out.