The Toronto-Dominion Bank (TD) Earnings Call Transcript & Summary

Thank you for joining us today.

Great to be here, Darko, as usual.

So before we begin, I'm just going to remind everybody that Bharat'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 TD Bank Group.

So with that out of the way, the topic of the day has been capital with the changes in the [ DSP ] regime. And in your situation, we have the closing of a couple of acquisitions coming up. So maybe we can talk about how that might impact your capital position and whether or not you see the need for raising equity here, or maybe potentially if the [ DSP ] is raised later on this summer?

So we -- I think -- I'm trying to remember the exact number, but we closed off our year at what 16.2%, 16.2% Tier 1 capital. And when we talked about post acquisitions, we said we expect to be comfortably above 11% after closing both the transactions. Feel that we have enough capital levers. Some of it is well known, things like the -- invoking the DRIP discount. We've also talk about optimizing RWAs, through our investment portfolio. We have structures out there like our Evergreen credit card, ABS. And the Cowen acquisition, we prefunded it essentially through equity by selling a bit of our Schwab stake. So when you look at it, those are some of the examples of capital levers that we have. We feel pretty comfortable still on our capital position. And traditionally, the bank's history is prudent capital management that's been part of our brand, part of our hallmark at TD. So I feel comfortable where we are on capital. We generate good excess capital, 15 to 20 basis points a quarter. So if you kind of do all the math, puts and takes here or there, feel comfortable as the way TD is placed with respect to capital.

And that's irrespective of whether we go to the upper end of the [ DSP ] this summer or...?

DSB is interesting. DSB obviously has an influence on -- as one of the inputs is how we think about it, but not the only input. We talked about being comfortably over 11 before DSB was moved. So that's how we thought about at the time. I think with the DSB, if things turn out to be worse than what people are forecasting and we get into a major slowdown than the -- and [indiscernible] signaled this that the way they look at DSB is they would drop it at that point, if things turn out to be from an economic perspective. So we'll see how things turn out. But I think overall, we feel comfortable based on our own situation, how we are forecasting the next year to play out. I think, last quarter end, I talked about as to where we feel earnings will come out for the current fiscal year. If you add the 2 acquisitions, the profitability from those, if you look at interest rate tailwind because if you annualize some of the rate increases as to what it does to TD given the type of businesses we are in, look at some of the volume growth, particularly in areas such as credit cards, where we are geared more towards luxury and travel, which has come back quite smartly post the pandemic. Now things could change quite dramatically. If things go sideways in the economy, then of course, it might be more difficult. But with all those things working out, we feel comfortable that we could be well within our earnings target growth of 7% to 10%, and there's a chance we might exceed it. So if you kind of add all those numbers up, and you say, well where the DSB goes? Well, wherever it goes, it will go, but we think we have a lot of levers to manage around it.

And one of the levers that you mentioned, you mentioned the DRIP, your organic capital. You didn't mention the Basel reforms, Basel IV. How is that going to affect the year for TD? Is that a factor we should think about as well?

I'll say the headline on Basel IV is a manageable situation for us, but let's -- there are various moving parts on that. So an operational risk under Basel III and now Basel IV, I don't know, whatever we call it, that's going to be probably a negative item for us because retail revenues would be viewed similarly to other types of revenues. So we have a large retail base, so that will be a negative. There will be a positive on the credit risk side because a lot of the advanced approaches would apply. Probably slightly negative on the market risk side depending on the fundamental review of trading books as to how exactly when that gets invoked. But on the other hand, there might be a positive on our Schwab stake. And then the somewhat unknown, and we are doing a lot of modeling on this, is the variability that will come from First Horizon. But the reason I give you all those headlines is, it tells you how many moving parts there are, as to how that would work out. But overall, we've done a lot of work on this. We think it's a very manageable situation for us.

So in the end, it doesn't sound like much has changed, sort of business as usual over at TD. And managing capital going forward now with a wide [ DSP ] range, does it necessarily say to us that from an acquisition point of view, future acquisitions are facing a higher hurdle rate now with a higher capital requirement? Does it change your appetite for what you would look at given that you're getting Cowen, would you, for example, say, we don't need to acquire any more in capital markets because of the capital constraint or so on and so forth. So just trying to dig into whether or not this sort of change in regime, so to speak, on the capital front changes anything for your capital deployment going forward?

I think, of course, regime matters, but it is importantly for us is -- I think I've been saying this for a few years, is we think of capital deployment in a particular way, which has been consistent, and I don't think changes. Do we -- it starts with, do we have enough capital to support our organic strategy? It's critically important to us. And the answer is yes. Do we have any capability gaps that we may have to use capital either to invest or to buy because we want to fill that gap, that capability gap out? Do we have enough capital from an opportunistic perspective should the compelling opportunity come up? I think Aeroplan is a good example in our sort of history here where there was a bit of a surprise, and it came up and we were there because we had not only the capability, but the capital to take advantage of that. It's turned out to be a terrific situation for TD given where we've come along in that business. And so we go through that framework and say at the end, if we have -- and do we have any major acquisition aspiration in the market because we might have to grow certain sectors or not? And if all those turn out to be, there's no opportunity, would we buy back our shares? So that's how we've been thinking about it. Has that changed in a dramatic fashion? Of course, and I don't want to underestimate the capital regime. Of course, the economy and the state of the environment, there's a lot of influence in each of those components. So yes, the capital environment has an influence. But generally, we've been talking about how we manage the bank through any cycle and capital discipline, capital prudency has been a core part of how we think of the bank. And so that has not changed. Now regarding future acquisitions, both the acquisitions that we announced and I said it when we announced them, they met our 4 criteria we look at. Number one, was it strategically compelling? Both in First Horizon and Cowen, I can say yes. Was it financially attractive? Both these transactions were financially attractive. Were they within our risk appetite? I think time has shown that, yes, they were within our risk -- they have continued to be in our risk appetite. And #4, critically important to us, are they culturally aligned? So Darko, even with all the clouds regarding the economy and capital regime, if another situation were to come up that hit all those 4 criteria, of course, we would look at it seriously. So does this make sense? Because those don't happen very frequently that you meet all your criteria. So I'm not saying we -- unlikely we do anything until we close these transactions and feel comfortable, but never is a long time.

Okay. Fair enough. You mentioned it, so we're all curious, closing. Is there any update you can give us on these -- on Cowen or First Horizon, on your expectations on closing? Or any other update you can provide given the environment that we're in?

See on First Horizon, there were certain aspects that needed to be done. So the shareholder vote, the First Horizon shareholders had to vote on the transaction. And that did take place. And folks who decided to vote, 99% of them decided to vote in favor. That was great. There was a public meeting organized by the regulators and that went pretty well. I think there's a lot of support among the community groups with TD's application as to how TD is viewed in the markets in which we operate in the United States. So that was very good. Another aspect in the U.S. that has become pretty common is agreeing on a community benefit agreement and that we are negotiating with the various groups that are stakeholders in that part of our arrangements. And that's going pretty well. We haven't signed one yet, but it's going pretty well, and I expect us to get there on that. And the final one is the regulatory approvals by the major agencies in the United States. Now that is an unknown, the U.S., it's -- the latest deals seem to take longer than what it used to. One deal that was approved took, I don't know, 14 or 15 months or something like that, another deal that was announced approximately 2.5, 3 months ago before our deal got announced. So we are into about or 9 or 10 months into our -- I think end of February is when we announced First Horizon with the deal that was announced a couple of months, 2 or 3 months before ours has not yet been approved. So given all that, we -- last quarter, I said that instead of our original expectation of closing within the first fiscal quarter of this year, it will be the first fiscal half, which seems to be appropriate given all the other stuff that's been going on. So that's our expectation on when that gets done. On Cowen, again, the shareholder approval -- Cowen shareholders approved it, overwhelming. Again, it was 99% of people who voted. A couple of approvals that are already in hand. And so that we are expecting, I think it's the first calendar quarter of this year to close. And so that's our expectation on both these transactions.

Okay. That's helpful. Maybe switching gears a little bit, talking about Canada's situation with housing, price declines, large increases in mortgage payments for a cohort. You have a large mortgage book in Canada. So maybe you can walk us through how you view the vulnerability in the sense, how much of your book faces increased trigger payments? How many of them will be facing a significantly higher payment this year and next? And are we worried about -- like how big of a part of that of your mortgage book is facing what I would consider a difficult situation of 30% or higher increase in mortgage payment?

Yes. I know there's lots of discussion on this. I think few people before me talked about this as well. So it's a common theme, and to be expected, given the environment we are in. We've not seen rates go up at this space and so much over the recent past. So obviously, it's the right topic to be focused on. But I think it's important to keep it in perspective. When you look back many, many years as to what's been the experience on Canadian mortgages through very difficult periods. And you look back -- at least from a TD perspective, if you look at our historical situation on Canadian mortgages, I'm not even talking of losses, I'm talking of impaired formations. It's been in the low single-digit basis points perspective. Historically, if I'm looking at multiple years here, and say, why is that? Why does this asset class behave so well through circumstances? And it starts with the basic problem that we have in Canada. This year, I think everybody saw that nearly 0.5 million new immigrants entered Canada. In Canada, we build homes, new homes to the tune of 200,000 to 250,000 a year. So every year, there's a chronic supply problem that gets worse. So even if magically, we flick a switch and all of a sudden, supply of new homes goes up to 0.5 million, think of the backlog that has to be cleared. So you start with the premise as to what are the fundamentals of this business? And then from a TD perspective, we are a huge scale player, but a vanilla player. We are not an alternative mortgage player. We don't play on the margins. We are not a subprime mortgage provider, and that's what we do. Thirdly, less than 1% of TD's mortgages are uninsured, have a bureau score of less than 650, and where loan-to-value is over 75%. So let's talk -- I mean, from a basic quality perspective is the quality of the book. Then you say from a macro perspective, so our estimate is through this rate cycle and probably have more to come that approximately there have been an increase in mortgage payments of $200 to $600 per month like if you look at from a modeling perspective. And against that you have these excess savings that have been built up through the pandemic to the tune of 30% of excess deposits still compared to pre-pandemic levels. So you're looking at a long period before all those things get exhausted when you say, oh my God, there might be a big problem. And even when you get there, you have to think about that somebody has lost their job and loan-to-value is over 100% before you start seeing major problems. So you say, all right, what scenario can you see where loan-to-value is over 100% for a bank like TD that is not in the subprime mortgage business or alternative mortgage business, where somebody has lost the job and excess deposits have been run off and they don't have other levers to pull back on expenses. So there are a lot of scenarios at play, but -- so I'm just trying to give you a perspective as to how I'm thinking about this business. Of course, can there be a bump? Of course, we are in that business and we manage that. And that's why every quarter, you ask Ajai and he says, oh, yes, yes, of course, Darko, I am building this, and as he should. But historically, this is how this asset class has behaved. And do I see a dramatic shift in the behavior? I don't. Do I see a bump? Of course, I do. We would not -- I shouldn't be paid what I'm paid if we can't manage through bumps. And that's how we are looking at it. It's a great business to be in. It's a great asset class. And final point is that, in our case, we've taken lots of questions from a lot of our analysts, including you, Darko, that I think it was 6 months ago, 8 months ago, how come we are not growing as much as the others? So where we are consistent underwriters through a cycle. That's how we kind of manage this business, and that's been the historical sort of record for us in that business. So feel comfortable with the quality of our mortgage book, how the asset class has behaved historically, how we see the future playing out, the support that there is there against this asset with excess savings, et cetera. So feel comfortable as to where we are.

So asset -- so the mortgage asset class, we've covered that. So the next sort of segue where this takes me is, when I look at what you guys use for your forward-looking indicators, it doesn't look that bad. Your unemployment rate base case scenario goes up a little bit in 2023. And yet what I'm hearing is mortgage payments have risen, they might dip into their excess deposits. It sounds like there could be a drag in the economy. So, okay, we won't have any defaults in mortgages. But we'll have a drag on the economy. So how do I think about your forward-looking indicators not necessarily showing a recession, not necessarily showing any sort of bumps or bruises? And how do I think then about your reserves that are on balance sheet relative to what I view as a relatively okay forward-looking indicators and many people in this crowd think there's a recession coming? Can you...

I'm not suggesting there's a 100% chance there's no recession. When rates go up so much, is there a slowdown to be expected? Yes. But on the other hand, the job market has been remarkably strong and continues to be strong. And I think one aspect that I'm sure history will write a lot of books on this is impact on the economy post pandemic. With such an event and the level of fiscal stimulus that took place, the level of monetary easing that took place as to how long does it take for that to play out? I think time will tell. So am I saying for sure that this is going to be just a benign environment? No, absolutely not. And that's why everybody is looking at what happens. But the part to watch is employment. And if you want to look at losses, if you want to look at what happens is, that's the indicator as to what's going to go on. Now each of these asset classes has nuances like I talked about supply of housing, et cetera. And even if we don't get into a recession, much slower growth is going to feel like a recession. I'm sure there are a lot of sectors right now, I talk to a lot of clients, they are feeling they're already in a recession. So I don't want to undermine the environment here. And -- but is it going to be a deep recession like what we had post the global financial crisis for a while? Around the world, I'm talking. Perhaps Canada, we did not feel it as much. Or what folks were feeling in March of 2020 as to what because it's the pandemic, when there's a forced lockdown. It'd be more of an interest rate caused recession. And if you want to look at what modeling is out there, would there be a slowdown? Of course, there's going to be a slowdown. And all of us are prepared for that and managing through it. And frankly, our modeling is showing that's how we will manage the bank through it. But are we seeing a depression here with some of the questions you are asking me? You say, oh my God, the world is coming to an end. We don't see that.

And so one of the tailwinds you've had at your bank has been net interest margin expansion, fairly strong NII growth. And in fact, when I look at consensus estimates, you -- looks like you've got very high growth expectations for this year in a year where PCLs are normalizing, in other words, rising. So in that environment, are we getting carried away with net interest income growth for TD? What's your view on that? Is that going to be the big swing factor that -- on EPS this year? Is it -- are NIMs peaking? How should I think about your net interest income growth? And I'm going to say, excluding the acquisitions?