Canadian Imperial Bank of Commerce (CM) Earnings Call Transcript & Summary

Okay. So we'll start with some introductory statements here. And before we begin, I'd just like to remind you all that Victor's comments today may include forward-looking statements. Actual results could differ materially from forecasts, projections or conclusions in these statements. Listeners can find additional details in the public filings of CIBC.

So with that, Victor, we can start our session off. I think I want to do the usual run through, which is we start with capital. And in your situation, we do have a situation where we have a capital base that with the DSP being increased, and you have some charges coming in Q1. So maybe if you can just walk us through where you see your capital ratio landing. And over and above that, what do you do? And how do you manage your capital if potentially the DSP is raised later on this year or even earlier?

Yes. That's a good question. Good afternoon, everybody. It's nice to see you. Happy New Year. Thank you for your interest in our bank. We -- on capital, we've been very, very focused on the organic deployment of capital. You saw that in terms of our performance last year and our investment levels, and we can talk about that a little bit later, but that is going to be the focus going forward. We know and we've been very transparent about what lies ahead in terms of charges in the first quarter. And we've looked at our forecast, including credit migration, including the DRIP that we turned on with the Q1 dividend, and we'll operate within that 11.5% zone. And then towards the back end of the year, start building towards what might be a new level over a period of time. But what I heard today was a 0 to 3% buffer, and we will be in that 11.5% zone.

And if something should change along the way, if it's quick, is an equity raise the potential? I mean how do you see yourself managing through...?

I see us working to accrete capital over time as we start off with 11.5% and build over the course of the year. But working within that 11.5% zone is, I think, the right place to be based on everything that we've heard from our regulator. If they increase the buffer, we'll take management action to be able to do that. There's a number of levers that we can use in that regard. So we don't foresee any equity raise based on everything that we know today.

And does it mean -- so has it changed anything, though, in terms of the way you think about managing capital going forward? And specifically, since you're going to manage within that 11.5% range, does that necessarily preclude you from deploying capital inorganically for the foreseeable future? And how do you think about potentially growing your U.S. business, which I know you eventually want to do? But maybe you can just touch on your focus there.

Every dollar of capital that we deploy that generates a risk-weighted asset, we'll ask ourselves, does it generate a hurdle rate that will generate capital over time? And therefore, not just on the loan or the credit itself, whether that's a consumer loan or whether that's a corporate loan, but all the other activities that we get from our client relationship. And that's the way we run our bank. That's the way we've run our bank for many, many years now. There's a relationship focus, a client focus, one where we understand our clients, one where we do business that's highly aligned with our risk appetite. And that will generate growth across all of our businesses in a world where capital is precious. You think about the RWA density and you're making sure, absolutely sure, that you get that hurdle rate achieved in those more capital-dense businesses.

So you mentioned RWA there in your response. I mean are there other levers here that you can like significant risk transfers? Maybe other -- there's the -- also the Basel IV, let's call it.

Yes, the Basel IV adjustment comes in, in the second quarter, and we've got that kind of factored in as something that would contribute as well in addition to the DRIP, in addition to significant risk transfers, things like securitizing our credit card receivables. But that's a normal course of business, and that's also an avenue for freeing up capital. More of that has an impact on your earnings. So we're very mindful of that. But as I said at the very outset, the clear message that you as investors should get is that we have a plan that has us in the 11.5% zone of CET1 for a period of time, and we will work toward accreting, and we'll see how the rules change if they change over time. One of the things that our regulator did say is that in a downturn, the buffers are there to be used as well. And we should be mindful that it's a spectrum, right? And we can work well within that spectrum, and we'll manage according to it. And based on what we know and based on what we all heard for the foreseeable future, we're offering a 0% to 3% buffer, and we're at 11.5%.

Okay. One of the things that the regulator touched on was the vulnerabilities in the environment here in Canada. And specifically, the indebtedness of Canadians, especially recent mortgages put on the books with very low rates. So maybe we can talk a little bit about your situation. You've been growing mortgages rather at a very good risk the last couple of years. Maybe we can touch upon how you see these vulnerabilities and how it's manifested itself, if at all, in your mortgage book. So can you talk to the variable rate mortgages? How many are hitting the trigger rate? How many are you concerned about? What proportion of your mortgage book should we be focused on here in this high rate environment?

Let me bring it down to as much common speak as possible. Mortgages are the largest asset on our balance sheet, but they've come with deep relationships and more affluent relationships as we've grown our bank. And you can see that in our numbers and our client profiles, a much more attractive client base as we focus on our affluent growth strategy going forward. So 2/3 of our mortgages are fixed, 1/3 is variable, about that. So let's look at what's renewing this coming year as an example. So -- and we've disclosed some of this, but I'll go into a little more detail of the fixed rate holders of mortgages, we have $22 billion or so that's renewing this coming year, right? Those clients were adjudicated on a mortgage qualifying rate of 5.19% to 5.39%. And as our superintendent said, that was a policy that was put in place a number of years ago to deal with a very low interest rate environment. Those clients would be renewing today at 5.45%. So that's point #1. Point #2 is on those mortgages, the loan to value is in the 50% zone. It's all in our disclosures. In the GVA and the GTA, it's even lower, where our footprint is larger. So there's buffer room there as well. The third thing is, well, what's going to happen to their payment relative to what they're currently paying? On average, those fixed rate mortgage holders will be paying $350 more a month. Now if you look at the liquidity in the system, and this is where you connect all of the dots, there's -- you hear the $150 billion number of liquidity. What does that mean in terms of excess liquidity at a client level? In 2019, that fixed rate mortgage holder had $13,000 in excess deposits -- in deposits. Today, they have $21,000. It's gone up by $8,000. So you can do the math of they would renew at a rate that they qualify that. They have more deposits as a result of the lockdowns and all the stimulus, and they've created value in their home over that period of time. And we look at that and we say, "This is not a bank credit issue. This is an issue of consumer lifestyle." More money will have to go from interest expense, from discretionary spending to interest expense. On the variable component of that, it's about $8 billion renewing this year. They were also adjudicated at the same 5.19% to 5.39%. Today, that variable payment will go up by $700 a month, so more than the fixed rate payment. But those variable clients, their deposits have gone from $21,000 to $26,000 over that period of time. So they've gone up as well. And therefore, there's buffer room to carry that. And with the rates that are presented today, variable at 6.05% and a 5-year fixed at 5.45%, they're more likely to offer fixed. Again, not a bank credit issue. Loan-to-value statistics are similar, excess deposits, similar mortgage qualifying rate at time of origination, similar. So we feel that that's all manageable and that the biggest impact of a higher cost of money is on the consumer, and it's likely to manifest itself in terms of more tepid economic growth going forward.

So that's a great run through on the averages. What about the tail risk? We always hear averages, and I sit here, and I think to myself, there's got to be some proportion of borrowers that are at risk.

So we had in our fourth quarter earnings disclosure, those clients that are uninsured, that have a -- that are renewing over the next 12 months that we would deem to be in the highest risk category. And the highest risk we define as shallowest client relationships. We have a small [ stub ] of those. That added up to $336 million. It's all on the webcast presentation. Those that had a FICO score less than 650 and had a loan-to-value in excess of 70% accounted for $20 million of mortgage balances. That's the tail.

And does it maybe create a sort of situation where if there -- if it's more of a consumer impact, then we should start worrying about your credit cards and any other consumer...?

Look, we have -- you worry about everything as the economy slows down, right? You worry about how your clients are doing, the state of your employees, everybody, including shareholders. So as the economy slows down, depending on how it slows down in our view, likely negligible growth to a mild recession, depending on how we define it, you're likely to see some of that come through the credit card portfolio, small business lending. This is -- just walk through the streets today, and you can see a lot of the retail stores that have [ died a quiet death ]. So that's likely to manifest Itself in the system. But we've been pretty clear about what that will mean in terms of our provisioning and how we're postured for that as well. From our own credit card portfolio standpoint, we've added the Costco credit card vintage last year. And in addition to our Aeroplan and Aventura, the bulk of which accounts for most of our credit card outstandings, those clients will be considered premium clients in the credit card portfolio space and therefore, would behave that way from a credit standpoint as well.

And so maybe just the last question here to sort of wrap up on the vulnerabilities, and there's been some concern about commercial real estate. We've been touching on the consumer so far. But can you maybe talk about commercial real estate, your exposure there? And do you have any sort of concerns here on the horizon with respect to CRE or commercial real estate?

Well, let's look at all investor-related real estate, right? So on the residential mortgage side, 12% of our residential mortgage portfolio are investors. On the whole, they have a much higher FICO score, much deeper relationships, much lower loan-to-value than the overall book. So we feel good about that group of people, in addition to the immigration flows that are driving more to rental demand. That's inevitable, particularly, if you have to qualify for a new mortgage under the MQR rate, that exists today. When you look at the commercial real estate book, overall, we have one book in Canada. Its loan-to-value is generally less than 65%, a lot of multifamily, some office, a lot of the office relates to blue chip institutional. In the U.S., a very small stub of office, a very small stub of retail, multi-residentials, most of it. So you're looking at loan-to-values that are manageable. A portfolio that's well diversified, one in $10 goes to office. And those are largely institutional. So again, it's not a concern. We've looked at this. We look at this regularly. And so far, we don't see any significant risks emerging there. And I think the world has a way of repurposing commercial real estate as consumers and businesses put new demands to use.

Okay. So sounds like there's a feeling of comfort on the credit side, and yet, PCL rates are still expected to normalize and normalize significantly higher from a very low base. Not sure about if we think about the timing of how that normalization process works. But all the same, given that you guys have provided a bit of a range for PCLs, it does look like the consensus view is that you're not going to [ grow PCLs ] this year because of an increase in rates. Now we can talk about margins in a moment, and maybe that's a swing factor. But do you think that's a fair assessment of your earnings power here in the shorter term, given a normalizing PCL?

Our goal is to improve our EPS year-over-year. We look at -- we could kind of dissect all of that. There's the revenue and margin component as well as the volume associated with it. There's how do you manage your investment pace given how you've been investing in the past, and how should we be thinking about your credit portfolio. We think we're adequately reserved for. We've been building at a more robust rate than our peer group since pre-COVID to where we are today. We've been pretty clear that we think our impaired PCLs will be in the mid-20s to 30 basis point range. We're going to -- we look at our credit book regularly. We see how it's behaving. Today, it's still quite benign given what we're seeing out there, and that's what our superintendent said broadly for the industry. So operating in that 25 to 30 basis point zone is something that we foresee will be the case for a period of time when it comes to impaired PCLs, and we think we're adequately reserved for on the performing side. Then if you want to talk about EPS, Darko, we could talk about EPS. I'm not going to give you an EPS number, but I will tell you that on the margin front, we saw some margin erosion late last year, largely a function of several factors. One is a mortgage business, which is a large part of our portfolio, as you know, where margins shrunk; paydowns decreased, which contributes to margin. Our clients benefited from moving noninterest-sensitive deposits to term deposits in a fairly robust way. We grew deposits and money in overall in terms of market share. We had a higher LCR and all of that had an impact on where our margins stood. Now we've also been very clear about how we manage our treasury function. We manage it for stability. If you looked at when how our margins behaved as interest rates were falling, they outpaced the peer group. But if you looked at it through the cycle, what you'll see is a bank that manages for much more stability through the cycle. So what does that mean for the year ahead? In the early part of the year, margins will be stable, sequentially, and they will improve as the year moves on. That is our goal. Our goal is to continue to grow volume and market share in a smart, sensible way in terms of how we deploy our RWA. And that should deliver net interest income growth. Last year, we grew [ ex trading ] revenues. Our net interest income grew by 12%. This year, we'll probably be in the upper single digits, maybe a double digit, we'll see. It depends on what happens with rate increases going forward. That helps our revenues. Then the noninterest income is very market-sensitive, and we will just live in -- live by the outcomes of all of that. When it comes to our investment pace, we've been very clear that we invested to grow. We grew. If you look at 2022, we grew our revenues by 9%. We grew our [indiscernible] by 7%. We grew at the upper end of the peer group because we invested. We invested in our bank. And those investments will continue to pay dividends going forward. But the peak of those investments are increasingly behind us. So you'll start to see our year-over-year expense growth over the course of the year head into the mid-single digits. And then you can do the math yourself. Well, do you get operating leverage, [ you're ] not out of all of that. Now you could get operating leverage if revenues kind of stay above the 5%, 6% range. That's our goal. And you add that to a PCL number that we just shared with you, and all you got to do is figure out the performing, and then you get an EPS number. Our goal is to grow that EPS number over the course of the year. And as I said to our investors, our fourth quarter does not reflect the earnings power of our bank. It was a bit of an inflection point, if you will, because of where the economy and interest rates went over a very short period of time.

And so maybe touching on some of your commentary there around margins and sort of the sequential, sort of stable, sort of improving throughout the year. What if rates fall later on this year?

Well, if rates fall based on how we manage our treasury function on a relative basis, we outperform. So I don't foresee that rate falling scenario anytime soon. I see rates stabilizing as we head into the middle of the year. And then there will be some time before you see any monetary easing after that.

So it's interesting when we have CEOs up here discussing margins and sort of how they run their businesses, and I totally get where you're coming from with respect to managing the treasury for a sort of smooth outcome. But one of the things we heard today was a couple of bank CEOs are saying, "Look, we are what we are because we have a strong deposit base. Maybe another CEO is suggesting, we need to work on deposits and grow some of those low-cost deposits going forward, and that might be a bit of a focus. Where do you sit on that spectrum with respect to your deposit base? Do you view it as there's room for improvement? And if so, what would be your focus? And what could you do to change and grow those virtually 0 cost deposits.

Yes. I mean noninterest-sensitive deposits are the lifeblood of banking, right? So we have a good position, and we'd obviously like to improve upon it across all our businesses. We see our money in market share, which factors in mutual funds, term deposits and noninterest-sensitive deposits growing. It grew over the past year. We continue to have a sort of market-leading offer when it comes to our own checking account offer in our retail bank. We have a no-fee direct bank. We see our account acquisition is growing at a multiple of our competitors in some of the most recent [indiscernible] data. So in the retail space, there's room for improvement. There's a plan to improve both on the personal side as well as on the small business side, and we're going to be investing in the payments technology platform this year with a technology called Pollinate that will help us continue to grow deposits in the business banking space. In Commercial Banking, in both Canada and the United States, we've done a good job of growing deposits. And most of our clients have treasury relationships with us, where we have those noninterest-sensitive deposits, we'll continue to grow those. I think in corporate Canada, there's an opportunity for us to step up our game in noninterest-sensitive deposits and the other areas in Wealth Management, Wealth Management in both Canada and the United States. As we build out our private banking capability in the U.S. as well as expanded in Canada, that should be a source of noninterest-sensitive deposits. This past year, we were particularly robust in offering our clients attractive rates on term deposits. Part of it was a client retention strategy, part of it was a client attraction strategy. It's paid dividends, but it's come at the cost of some margin. Now our goal is to franchise those clients going forward as we move into a more benign, maybe a more flattening of the interest rate environment going forward. So yes, always room to improve on the deposit front.

Okay. I'm going to take this opportunity now to [indiscernible] questions, one question. A couple of them have been sort of uploaded here. With the recent lawsuit provision, please describe how this impacts your operational RWA? Is this a significant capital issue for you in 2023?

Yes. So again, all of what we've -- the cases that we settled, which included the overtime action last year, the green action last year, it's all in the capital. We reported in the in the fourth quarter, right...

[indiscernible].

So the most recent one, the most recent one is the 30 basis points that's associated with the Cerberus lawsuit, which I've already said at the very beginning, is factored into our 11.5% operating range for the first quarter. An operational risk charge also happens with that. That's also factored into our forecast as we head into the back half of the year depending on where that ends. We're appealing that lawsuit. So we've already seen the damages come down in the most recent ruling, and we will appeal it, but that's all factored into the 11.5% range that I described earlier.

Okay. Another question is, how impactful is lower mortgage growth to overall bank earnings power?

Well, in the short term, it doesn't have a dramatic effect on the bank's earnings power. The bank's earnings power comes from the spectrum of our personal businesses from credit cards to mortgages to deposits to manage money and Wealth Management. So that has a small effect in the short term. It has a more notable effect over the medium term because you want to grow clients. And usually, you grow that by establishing a residential mortgage relationship with them, especially with the newcomers to Canada who are increasingly looking to buy a home.

Now maybe if I can add on to that question because it's been something that we saw last year, was we think we were seeing negative spreads and some mortgages being put on. It was pretty -- competitive funding costs went up.