RBC’s Rising Margins Push Canadian Banking Profit to Record

(Bloomberg) -- Royal Bank of Canada posted its highest domestic net interest margin in five years, pushing quarterly earnings past analysts’ estimates and boosting annual profit from its Canadian banking division to a record.

Canadian banks have been benefiting from rising interest rates, which increase NIM -- the difference between what a bank charges for loans and pays for deposits -- as well as net interest income. In Royal Bank’s case, margins in Canadian banking jumped to 2.77 percent, the Toronto-based lender said Wednesday in a statement. That’s the highest since the third quarter of 2013.

“You have central banks raising interest rates but deposit rates aren’t going up -- so you have really a sweet spot,” said Bryden Teich, a partner and portfolio manager with Avenue Investment Management in Toronto, which manages about C$350 million ($263 million). “This is where the banks should be hitting it out of the park in terms of their NIM, and it looks like Royal from that perspective is doing it.”

Canadian banking is Royal Bank’s biggest division, accounting for almost half of overall profit. Earnings from that business for the three months ended Oct. 31 rose 7.6 percent from a year earlier to C$1.46 billion, helping drive the division to record annual profit of C$5.86 billion. The company predicted further margin expansion in Canada in coming quarters.

“We would expect to see continued improvement next year,” Chief Financial Officer Rod Bolger said in a phone interview, adding that he expects “1 to 2 basis points per quarter, with quarterly volatility that could increase or decrease.”

RBC’s Rising Margins Push Canadian Banking Profit to Record

John Aiken, an analyst at Barclays Plc, said the results weren’t as robust as the headline numbers suggest.

“Several unusual factors led to material benefits to the bottom line, including higher than expected insurance earnings, a low effective tax rate and provision reversals in the Caribbean,” Aiken said in a note. “Factoring these items in would take earnings much closer to consensus, below if investors would prefer to take a conservative stance.”

Key Insights

  • Margin expansion is getting help from Canada’s central bank, which has boosted its benchmark interest rate five times since July 2017. The latest move in September brought the overnight rate to 1.75 percent.
  • Bolger said in August that he expected margins to widen as much as 3 basis points over two quarters -- barring any mortgage pricing wars. Royal Bank partly blamed heightened competition on mortgages to explain why it was the only Canadian lender that didn’t see margin expansion between the second and third quarter, when it was unchanged at 2.74 percent.
  • Don’t underestimate the impact of margins on performance. Royal Bank has among the best margins of its Canadian peers, topped only by Toronto-Dominion Bank. As CIBC bank analyst Robert Sedran said of RBC’s margins in a Nov. 18 note, “margin expansion has helped the bank outperform the group on revenue growth this year.”

Market Reaction

  • Royal Bank shares rose 2 percent to C$97.40 at 9:54 a.m. trading in Toronto. The stock has fallen 5.1 percent this year, compared with the 5.2 percent decline of the eight-company S&P/TSX Commercial Banks Index.

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  • Overall net income for the quarter rose 15 percent to C$3.25 billion, or C$2.20 a share, from C$2.84 billion, or C$1.88, a year earlier. Adjusted earnings, which exclude some items, were C$2.24 a share, beating the C$2.12-a-share estimate of 14 analysts surveyed by Bloomberg.
  • Royal Bank saw improvements in four of its five main business divisions, led by a 20 percent profit jump from insurance to C$318 million. Earnings from RBC Capital Markets rose 14 percent to C$666 million, while wealth management -- which includes Los Angeles-based City National Bank -- climbed 13 percent to C$553 million.
  • Read the quarterly statement here.

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