Investors prefer Canadian banks to invest record excess capital in mergers and acquisitions over share buybacks

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TORONTO (Reuters) – Investors are urging Canadian banks to deploy their record levels of excess liquidity on acquisitions that will promote long-term growth before buying back shares.

FILE PHOTO: The Royal Bank of Canada (RBC) logo is seen outside a branch in Ottawa, Ontario, Canada, February 14, 2019. REUTERS / Chris Wattie

Questions about how lenders will spend the C $ 70 billion ($ 54.52 billion) they hold above the current regulatory minimum are gaining more and more attention after regulators in the United States , Europe and Australia started lifting bans on returning capital to shareholders last week.

Analysts and investors expect Canada’s Office of the Superintendent of Financial Institutions (OSFI) to lift its March moratorium on stock buybacks and dividend increases by mid to late 2021.

Global movements “tell me they think the worst is behind them,” said Allan Small, senior investment advisor at Allan Small Financial Group at HollisWealth, urging Canada to lift the freeze “as soon as possible”.

But investors are not excited about the EPS growth expected to result from a resumption of buybacks, which some investors see as artificial because it results from a smaller stock base, not organic growth.

Rather, they want banks to use the cash to bolster their fintech and pursue acquisitions, particularly in the United States, in wealth management and other recurring commission-generating businesses and those that will support organic growth.

“Acquisitions allow banks to continue to grow at a time when many people feel that growth in Canada is stalling,” Small said.

In the October quarter.

This is the highest level since the entry into force of the stricter Basel III capital requirements in 2013, despite OSFI’s reduction of the minimum requirement to 9% of risk-weighted assets based on risk-weighted assets. March.

Even below a minimum CET1 ratio of 11%, expected when the coronavirus crisis subsides, banks have nearly C $ 30 billion in excess capital, and that amount is expected to increase next year.

Returning that to shareholders would increase 2021 earnings per share from 3.1% to 8.4%, with National Bank at the bottom and TD at the top, Barclays analysts wrote in a December 10 note.

“From a visual perspective, share buybacks are useful,” said Steve Bélisle, senior portfolio manager at Manulife Investment Management. “But we don’t think this is good quality growth.”

Canadian bank valuations, close to historically high levels, also make buybacks less attractive, said Barry Schwartz, chief investment officer of Baskin Wealth Management.

The banks index is only 2% below its level a year ago, after recovering 53% from its March low.

Meanwhile, Canadian lenders are trading near a 40% premium to the book value of U.S. regional banks, making acquisitions attractive, National Bank financial analyst Gabriel Dechaine wrote last week. .

“While we are often skeptical of the value creation promise of acquisitions, timing can be a major difference factor,” he said. “In that sense, we think the current environment is probably as good as any other for making a deal.”

(This story has been passed on to remove unnecessary words in the title, correct misspellings in the 12th paragraph.)

Reporting by Nichola Saminather; Editing by Cynthia Osterman

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