National Bank of Canada (NA) Earnings Call Transcript & Summary

Thank you. Record attendance, and we didn't need any U.S. bank failures to create some excitement, which is a nice change this year. Laurent, thanks again for taking the time to answer the questions from myself, and we'll see if the crowd has any to toss in there. I just want to start off with, I mean, tone. If I go back to earlier in the year at another conference you presented at, one of the comments I got from several investors was, oh, Laurent seems pretty conservative, guarded, whatever. It was at the time where there's a lot of euphoria in the markets after the Powell statements late in December. But your view was quite a bit different at that time, more conservative, which has proven to be warranted. Just wondering what you're seeing these days are thinking about the near-term business outlook.

Absolutely. So first of all, thank you very much. I think the uncertainties are still there. So one of the things, though, if you look at maybe just world economies, you have two economies in Europe that are technically in recession right now, U.K., Germany. China is not doing too well with consumer demand. The residential real estate is also an issue. I think the markets today clearly underestimate geopolitical risks and these tensions. I think you'll still have trade disruption, inflation surprises, which are difficult to control with monetary policy. You come back to North America, look, the U.S., the growth is still good, although, I mean, definitely fueled by deficits. Labor market is still strong. You have some pressure because of higher rates. You have still wage pressure. U.S. office CRE is still a bit of a question mark. Now the Fed signaled three rate cuts last week. I'm not sure what it really means. Is it proper guidance or just pure politics given that we are in an election year? But right now, I feel like it's hard to find the reasons for rate cuts in the U.S. Canada is a bit different. We have softer a labor market at this point in time. Consumers are more affected by increases in interest rates in Canada because of the nature of our mortgages. We have more variable rate. We have a renewal cycle that is much shorter than in the U.S. I think everyone knows that. Housing is an issue in Canada. We're short of homes. We're short of multi-residential units for our current population, for the growth in our population as well. So a lot of moving parts still and uncertainty around how everything settles. So in terms of growth, we're predicting for the U.S. some growth, so closer to 2%. Canada is 0. In terms of rate cuts, the Bank of Canada might need to act before the U.S. Federal Reserve, which will bring a set of other issues like currency and divergence and monetary policy and everything that comes with it. Having said that, I do believe that housing and immigration is a major conundrum for the Bank of Canada. It is not modeled. More than half of the inflation today is mortgage renewal and rents. So those things are still uncertain. So look, I said what I said at the beginning of the year in terms of I think there's still a lot of uncertainty with regards to rate, with regards to the economy, I think we're still sort of in the same zone.

I'll jump ahead to one of my questions that I was going to ask later, but it's kind of touching upon kind of the lay of the land you're presenting here. So National has got near the upper end of the industry in terms of core Tier 1 ratio, industry high at liquidity coverage ratio. And you've been one expression, I guess, of conservatism on capital as you're not buying back stock, so you're retaining capital. Are there any other type of risk management overlays that you're applying in the business, whether it's the balance sheet or just your risk appetite, anything like that?

You're right. On capital and liquidity, our ratios are strong. And we've kept that posture mainly because of the macro credit normalization. We went through a pandemic. We had 0 PCLs. We have an evolving also regulatory environment. But the main reason is that we continue to see opportunities to deploy capital at ROE levels that are on target. Now you asked about other approaches. When we think about the late cycle 2018, 2019, we messaged often that we were focusing on secured versus unsecured. And you look at the nature of our balance sheet, it's mainly secured, if you look at ABA, Credigy. Even our P&C segment is mainly secured. So that's one aspect that's, if you want to call it, a little bit more conservative. The other thing is we keep talking about, and we've repeated often, our approach in our trading books that is more defensive, not exposed to credit, and typically exposed to volatility. So when markets become a little bit more volatile, we tend to benefit from that as well. But you used the word conservative or a conservative mindset, whether you're managing capital, liquidity or making markets for clients, I think the most important thing, our strategic choice is how you deploy capital, and it's the judgment of your people, ultimately, that drives good performance. So I'm not sure if the word conservative is the right one. I mean we do take risks. I think the mindset of the bank is smart risk. That's where we are. And for the time being, we think that being a little bit more on the conservative side and being opportunistic is the right approach.

Flipping the script a little bit with more of a growthy mindset, if we do get the rate cuts and, let's say, just in Canada and we get a few of them this year, how do you expect your different businesses to respond, like the early movers where maybe it's capital markets because there's pent-up capitalization demands that the businesses haven't taken yet because they're worried about the macro or whatever, wealth management, how do you see the different businesses responding?

I do see a lift in lending. So commercial, corporate, I do see more financing activity. ECM, DCM, it's positive as well. And where that comes more trading activity, hedging activity from our clients. If rates do come down, obviously, I see a pickup in our mortgages as well. Some relief for our clients as well because 1/3 of our book is variable rate mortgages. And so they were all hit with increases in payments. So that's going to bring some relief to them and probably bring some more activity. A bit of a headwinds on NII, P&C, wealth, but I think it's strongly offset by the rest. In terms of momentum, we talked about Credigy in this cycle but also with U.S. banking consolidation. I think that continues in '24. It continues in '25 as well. So I think that momentum, regardless of where rates go and do we come into a more positive cycle, I think that, that continues. And the other area that we've gathered some good momentum is expanding energy project finance in the U.S. I think that continues as well. And if we're into a positive cycle, I think that is another good opportunity for us to deploy capital.

Okay. And then I guess, the credit cycle is always top of mind. I've heard, or at least the impression I get from some banks, is they expect the peak losses to take place in Q4 and start to temper in 2025, which seems kind of optimistic to me because the timing between when the rates are cut and the transmission of the benefit, there's always a lag in both directions, so I'm just wondering how you view the credit cycle over the next 2 years.

I think directionally, we're going towards a peak. If you look at our mortgage book, more than 50% has been renewed. By the end of this year, it's going to be 60% in the new rate world. If you look at that book, delinquencies are up depending on the product, type of clients, regions as well. So that keeps on evolving, and we still have half of our book that has to renew. When you look at commercial corporate, our gross impaired loans are pretty stable at this point in time year-over-year, and delinquencies are still below pre-pandemic level. So that's going to evolve, again, over the next couple of quarters. So to answer your question, I think it's a bit early to call a peak on credit losses at this point in time. And you're right, if you have economic deterioration or rate cuts, the transmission towards delinquencies or actual losses, there's a lag. So I think we're definitely a little bit too early. I think we need another 12 to 18 months before we can see clearer here and call a peak on credit losses.

Okay. As mentioned earlier, we will have the regulator sitting here at lunch, or not here, in a different room. Well, I just have one regulatory question. And I always say unintended consequences. When regulation gets tighter and tighter and tighter, you have unexpected outcomes. I think about the nonregulated lending space, if there's growth there that can't be supervised. And I also think about consumers and choice being restricted. I mean it's still fairly small in terms of activity, but one of your peers exited auto lending last year in Canada and the U.S. So not a huge player in history, but it's restricting choice.

You always have to look at the unintended consequences. And on that, I mean, there's a very good relationship between our regulator and the industry. And if you look at all the stakeholders in that space, government, Bank of Canada and OSFI, I feel very comfortable with the types of conversations that we're having. Now timing versus other jurisdictions, how are they implemented here, are we going faster than others, that is definitely a topic that we always bring up with our regulator. And I have a very good feeling that our regulator understands like resiliency and competitiveness. In the thriving banking sectors, everything goes hand in hand, so you can't have one without the other. So the conversations are definitely ongoing. When you think about exiting certain businesses, I don't know why BMO exited auto loan. But if I look at our current businesses, there's not one business that I want to get out of regardless of new regulations or floors that's coming up. I mean, does it change behavior? Do you have to structure things differently? Do you have to find partners and redistribute some of yours? Possibly. When you have new regulation, you've got to look at your whole business plan, capital-light businesses, capital-heavy businesses, how do you price them and how do you position yourself. So if I look at really what we do at the bank, there's nothing that we would change in terms of our capital allocation. And you have to go back to what are the economic decisions that drive good performance and premium ROE. But at this point in time, I feel you always have to look at those consequences, and I feel very comfortable with the relationship with our regulator.

And I guess that's very relevant to National as well. Maybe it wasn't OSFI, it was the Feds and changes to the tax code. And you were pretty adamant that you're not changing anything in terms of what you're doing in the trading business. Has the adjustment been made as far as pricing and structure?

I don't know if there was a lot of adjustment towards on the pricing itself. We've been investing for many years in our Financial Markets business. And we felt very comfortable with this change coming up that we had. And maybe it's a coincidence that a lot of the things are working for us right now in terms of diversified revenue streams coming from our trading businesses. We've built up our corporate and investment banking over the past couple of years. So we're actually very comfortable even with the change. So we had a really good quarter in Q1. It would have been a really, really good quarter if it wasn't for the tax change. But no, we're still very confident that we're going to be able to deliver growth this year even with this change.

I'll pause now my questions and see if there's anything from the crowd. There we go.

Maybe just taking on the regulation, right? I think that [ Basel's been implemented and OSFI hang on to that increase ] against the stability buffer. But how do you make sure you're able to compete globally when you talk about premium ROEs? [ If you have cash, I'm sure you'll have as much cash, how do you balance both of these ]?

I have to put it into the question, I'm paraphrasing, it's kind of like level of the playing field, Canada versus your global peers, how do you deal with that challenge?

You mentioned raising the domestic stability buffer. I think the OSFI stopping back in December at 3.5 is a signal of understanding the global competitiveness of banks and making sure that the Canadian banks will remain competitive. And look, we all see what's going on in the U.S. and the discussions. Our regulator is looking at that very closely. So far, I don't feel like we are being treated unfairly. But I do believe that if we go ahead and implement everything Basel III and the U.S. doesn't, then it's not going to be fair. But I have full confidence that we'll adjust, whether it's timing or a different approach, different measures.

Any other from the crowd? I'll switch to the wealth business. When you assumed your CEO role, I remember on list of priorities, one of the businesses that you were singling out for future growth and whatnot was the wealth business. I know a couple of years ago, the commercial banking and wealth distribution were combined. I'm wondering what other sort of changes have taken place in that business that you believe are going to happen?

There's two things that we did. So you just mentioned one of them is getting our commercial and wealth businesses to work more closely together and bringing a cohesive approach to our clients' business and wealth needs. If we just look at our clients, just our clients, there's tons of opportunity there. And we noticed also that when we approach our clients in a cohesive manner, it's a better client acquisition and satisfaction goes up. So that's one thing that we did. The second thing is get our financial markets and our wealth to work on two things, two areas: product manufacturing, so think about ETF structured products, deposits and really get better products, better services faster to our investment advisers to better serve our clients; and the other thing is technology, a lot of the technology that's being used in financial markets, whether it's trading technology, risk management tools, settlements. Look, it's the same asset class, the metrics you use for decision-making are, by and large, the same. So one of the things I told Étienne Dubuc, who's our Head of Financial Markets, is on the technology front, you've got to grow your franchise and you have to take technology decisions. But the priorities of wealth come before you. And so we've combined essentially the decisions of what do we prioritize in wealth and financial markets because they are often the same tools. And so those things are providing us with a bit of a lift. If you take a step back, though, we have not changed our strategy at the highest level, which is distribution first, not asset management, and focusing on open architecture for our investment advisers. So we get the best product out there for an investment adviser regardless of who's manufacturing the product.

Is there a geographic angle to it as well? Because if I overlaid your commercial lending business in a pie graph versus your wealth AUM, it's probably much more Western Canada than commercial. So there's got to be some...

Absolutely. So wealth has grown faster outside of Quebec over the years versus our wealth business. So there's definitely something. And you bring a good point here. One of the things that we are doing is putting everyone together, especially outside of Quebec, in one place. So you want centers where wealth, commercial banking, is offered. And so we're accelerating that outside of the province. But you're right, our commercial book is not as prevalent or as big as our wealth business.

Let's switch to ABA. You get asked about ABA a lot, I guess. And it was in the news recently. We can touch upon that, if you like. But I just think it's been a smashing success of an investment, growing from 0 to 10% of the bank's earnings in a pretty short time frame. How does this bank look in 5 years from now, if we can look out that far ahead?

Yes. Our focus continues to be on execution. What's great about ABA is really that the entrepreneurial culture, the execution and the risk mindset is very similar to National Bank. I speak to the team there at least twice a month to go over performance, what they're doing, what they're focused on. And they're very tactical on what's the next move, what's the next profitable move, what drives accretive ROE. So our focus is to keep on that path of making sure that we grow this bank the same way, with the same philosophy, that we've done with National Bank. Longer term, we'll see. It will depend on the paths, the types of investment, do we need a partner or not at the table. But for now, we're extremely happy with, obviously, the performance and the level of risk also that we're taking where we have on the Board, ex National Bank employees, we have compliance officers involved in growing the bank as well. So we're actually very happy now.

And the loan origination strategy hasn't really changed.

The loan origination hasn't changed. It's still economy, micro lending. We do more commercial as well. So we do have some more commercial, between $3 million and $10 million. But the nature of the bank is still very much micro lending, small businesses. Absolutely.

And you talked about the China slowdown earlier after the first question. That's still holding back a bit at the growth, I guess.

I think it's holding back a little bit of the growth. And if there is a turnaround in China, it's going to be positive for ABA.

Yes. I'm going to ask you one of these tired-old questions, and it's probably been a couple of years since I've asked this. It has nothing to do with ABA, it's the opposite. Canada growth opportunities are more limited. So you got to expand in the U.S., and that's a problem for National Bank. Those aren't my words. But how do you respond to that?

Yes. So it's not a problem for us. We still have a lot of room to grow in Canada. So that's one thing. So organically, focus on P&C, wealth. There's still tons for us to do. If I look at the past 3 years, we've increased the amount of commercial bankers outside of Quebec by 40%. If you look at the loan growth over the same period, 13% growth in commercial lending over a 3-year period, that was 18% outside of Quebec. And when you look at our client acquisition, it's twice as fast. So there's still a lot of room for us to grow. North America and in the U.S., tactically, we've got Credigy, Financial Markets. So when we deploy capital outside of Canada, we want it to be accretive. That's #1 rule, and we're going to keep on going with that. And you want to control also that capital allocation. Often people ask me, "Well, Credigy, it's not a bank, so it's harder to model predict." Yes, but you're also getting over 20% ROE on capital allocation versus low single digit for banks in the U.S. So we're going to remain focused on growing the bank in Canada and tactical capital allocation outside of Canada.

Well, Credigy certainly falls into that umbrella. Last year, I believe you exceeded your loan growth targets. And this year, you're expecting the same?

First quarter, it was more than what we expected, so that trend is definitely still there. So we do expect double-digit growth in our origination at Credigy. Given that it's an election year, it's a little bit slower. I thought there was going to be an explosion this year. But banking consolidation is taking a little bit longer in the U.S. So I think that's going to extend. That's why I said before, it's still there in '24, but it's going to extend to '25. If it's a Biden Administration, it's going to slowly pick up. If it's a Trump Administration, it's going to pick up faster.

Okay. The consolidation thing.

Yes.

Now the financial markets business, you're picking your spots outside of Canada, clearly. Do you still have a lot of runway there without having to think about any changes to the efficiency ratio? It is one of the hallmarks of the bank's success over the years is a really nice efficiency ratio.

There are a lot of people from Financial Markets here that are going to hit me in the head after. But we love our efficiency ratio in our Financial Markets business, but it's not just a question of where you've invested and how you did the cost of your business. It's also about the revenue mix going after businesses that we understand well, that are very profitable. So that won't change. In 5 to 10 years from now, I do see us more active outside of Canada. But I do think that our philosophy of deploying tactically and not building out platforms or buying a U.S. broker-dealer, I don't see that happening at all.

Which would probably be a relief for people here. I mentioned efficiency ratio, but the broader expense management theme, the bank had positive operating leverage in Q1. And I guess, simplification is one of the buzzwords around your expense management strategy at the moment. Can you delve into that a bit?

Absolutely. So back in December, we went back to the Board. Given the macro backdrop, we reviewed our business plan over the next 3 years. We have a couple of priorities. One of them is cost management and simplification. You called it a buzzword, but it's real. When you look at the buzzwords of the past, everyone talked about automation. And that's a bit of a mistake as you launch people and you say, "Let's automate everything." Banks are complex. An example of that is you have the same product, 3 or 4 different channels, 3 or 4 different processes, and then you launch people and you start automating everything. But what you should really be doing is looking into the future and what will be the channel and what are the tools needed for distribution of this product. And so first of all, let's kill two or three of these processes. Let's kill two or three of this approach. And let's work on optimizing this channel, this process. So that's what we're doing. When I came in, we brought operations, IT together. And I feel very good about our execution capabilities for now with our new Head of Technology and Operations. And it's been taken very seriously. And we have Julie Levesque, who's head of that department; and our CFO, Marie Chantal Gingras, who are leading this. So stay tuned.

Any particular areas of the bank getting extra attention.

I think P&C is definitely our main focus, some areas in wealth that we think we can optimize as well. But P&C is the main focus.

Yes. Okay. Any questions from the crowd as we get the 2-minute warning ahead of us here. Yes. Let's see if I got something else here. ABA, we already asked about that. The expense management, I'll stick with that, I guess. When I go back to 2015, 2016, every bank took a couple of restructuring charges. And then we had a little wave of that in the latter part of 2023. Should we be anticipating another round in 2024? I know National didn't really take a big restructuring charge, it did a few little things, but not to the same degree as others, not really on the...

Cost management is in our blood. And that's the approach I want to have with the team. So more than a year ago, when we started seeing rates go up and thinking about revenue growth that was going to be a little bit more difficult, we said we want to protect our talent. And so that's what we've done. So being very disciplined about making sure that we keep time. When someone leaves, just natural attrition, do we rethink ways of doing things? And it's a lot of hard work. It's a lot of work for the teams in place. But in the end, it's very positive for culture, for the people that are at the bank. And so if you look at what we've done throughout 2023 and at the beginning, also in Q1, we've reduced our full-time employees at the bank just by natural attrition. We're still hiring. We're hiring every quarter, but it's just managing differently. Simplification is part of that as well. So when you're at the top, when you think about risk management at the top, the first thing should be cost management, how do you manage your costs, what kind of businesses are you getting in. And it's good for, obviously, performance, but it's also very good for the people and the culture of the bank.

Yes. I'd agree with that. And I think that's it for our first presentation.

Well, thank you very much.

You bet.

Thank you for having us.