Canadian banks prove envy of the world

By Christopher Mason in Ottawa and Bernard Simon in Toronto

Published: February 19 2009 22:37 | Last updated: February 20 2009 00:31

Banks are usually not on the agenda when US presidents visit Canada. But before setting off on

his first foreign trip as president, Barack Obama said the performance of Canadian banks -

alone among those of the Group of Seven nations in not receiving a government bail-out - was

"striking".

"Canada has shown itself to be a pretty good manager of the financial system in ways that we

haven't always been here in the United States," Mr Obama told a Canadian broadcaster.

The president spent Thursday in Ottawa meeting Stephen Harper, Canada's prime minister, to

discuss the economy, trade and the environment, in addition to any talk surrounding the

strength of Canada's banks.

In large part because of their conservative culture, one that depends heavily on a vast and

stable retail branch network, and a clubby working relationship, Canada's banks have remained

the strongest in the G7 and, according to an October report by the World Economic Forum, the

soundest in the world.

"In Canada they do it the old-fashioned way, where when you need money you go to the bank

and they review your file and they will lend you no more than 75 per cent of the value of your

house," said Laurence Booth, a finance professor at the University of Toronto. "Canada is a

more conservative place and, as much as it limits growth in good times, that approach pays off

when others begin a race to the bottom."

The Bank of Canada broke a long tradition of appointing public policy experts when it named

Mark Carney, a veteran of Goldman Sachs, governor early last year, writes Christopher Mason

In Canada, five banks - the Royal Bank of Canada, Toronto-Dominion Bank, Bank of Nova, Canadian Imperial Bank of Commerce and the Bank of Montreal - largely control

Scotia

the market through thousands of branches across the country, forcing geographic diversification

and efficiencies of scale generally not found in the US.

Canadian investment banks, as part of commercial banks, are more tightly regulated and kept in

check by the main institutions, which would pay a price for unwise investing. Canada's

independent stockbrokers were bought by the big banks in the late 1980s, thus putting

investment banking under the same regulatory umbrella as commercial banking.

In the US recently, investment banking companies such as Merrill Lynch have been brought

under the wing of commercial banks. With moves such as this, the US is moving towards a

Canadian model.

Meanwhile, the government re-regulates its banks every eight to 12 years, compared with the

US system of decentralised regulation.

Canadian banks have not been immune from the turmoil, but their value has fallen less than that

of their US counterparts. The banks have all taken hefty writedowns on their exposure to toxic

securities and analysts expect the slowing Canadian economy to push up loan losses. But

among North American banks, all five big Canadian banks rank in the top 15 in market value.

One, Toronto-Dominion, has risen from 30th two years ago to sixth today.

Toronto-Dominion and RBC are among only seven banks worldwide that still carry a Moody's

triple-A credit rating. Since October, Canada's five biggest banks have bolstered their balance

sheets by raising C$9bn (US$7.2bn, €5.7bn, £5bn) in common equity and preferred shares.

These distinctions have cast growing attention on Canada's system, especially from the US.

Paul Volcker, the former US Federal Reserve chairman and a close adviser to Mr Obama, is

pushing for a regulatory regime similar to Canada's model. "It's interesting that what I'm arguing

for looks more like the Canadian system than the American system," Mr Volcker said last week.

Canada's banks have not escaped the downturn entirely. A debate has erupted on whether the

banks might be forced to cut dividends - something not done since the 1930s.

Their dividend yields are currently about 7 per cent, their highest level in 24 years, suggesting

that investors are braced for dividend cuts. The banks paid out 76 per cent of their earnings in

dividends last year, compared with an average of 42 per cent over the previous decade. The

picture may become clearer next week when the banks begin reporting earnings for the quarter

ended January 31.

Peter Rozenberg, an analyst at UBS in Toronto, said last week the risk was "not zero". "An

extended period of very low earnings and/or unexpected government intrusion could negatively

impact dividends."

Government support has so far consisted mainly of providing liquidity through regular auctions

for high-quality mortgages held by the banks and other mortgage lenders. The authorities have

also raised the limit for preferred shares qualifying as tier one capital.

But the government is amending banking legislation to allow it to inject capital into troubled

institutions, if necessary. The banks have so far resisted help.

Copyright The Financial Times Limited 2009

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