Canada's 'Bank of No Surprises' Turns Heads With Risk Surge

Scotiabank, the Bank of No Surprises, Surprises
  • Scotiabank on rating review for consumer-credit growth
  • Debtholders discount lender's bonds for Latin America ties

Bank of Nova Scotia may need a new nickname.

Dubbed by some investors "Bank of No Surprises" for its consistency and low-risk profile, Scotiabank -- Canada’s second-highest rated lender -- was put on review for downgrade on Nov. 2 by Moody’s Investors Service. The rater said the review was prompted by additional risk the bank has taken on by expanding in credit cards and auto loans, while pursuing more growth abroad.

Debtholders already weighed in on the Toronto-based bank: Scotiabank’s Canadian dollar bonds are the worst performing among Canada’s six largest lenders this year.

Chief Executive Officer Brian Porter has expanded Scotiabank’s consumer-credit business and focused more on Latin America to help lift profit as the Canadian banking industry faces slowing growth. Scotiabank is Canada’s most international bank with operations in more than 55 countries, including sizable consumer-lending businesses in Mexico, Chile, Colombia and Peru -- countries Porter targeted for growth.

“They have had a challenging environment to operate in, given their exposures outside of Canada, largely in Latin America and markets where other Canadian banks just don’t operate,” Altaf Nanji, who helps oversee C$35 billion ($27 billion) for Manulife Asset Management, said by phone from Toronto. "To the extent they’ve underperformed, I’d expect that’s really the reason."

‘Greater Losses’

Scotiabank’s focus on expanding in cards and auto loans -- unsecured lending that’s riskier than mortgages -- concerns Moody’s credit analysts, who see this as a shift away from the bank’s "traditionally low risk appetite." Moving into higher growth but less stable countries also puts the credit rating of Canada’s third-largest lender at risk, Moody’s said.

"They’ve put strategies in place, and have taken actions against those strategies, that will tend to improve their profitability immediately but could give rise to higher asset risk that would cause, in the event of an economic shock, significantly greater losses,” David Beattie, a senior vice president at Moody’s, said in a Nov. 3 interview in Toronto.

Scotiabank is rated Aa2 by Moody’s, surpassed only by Toronto-Dominion Bank’s Aa1 grade. Royal Bank of Canada, Bank of Montreal, Canadian Imperial Bank of Commerce and National Bank of Canada carry Aa3 ratings. Moody’s last downgraded Scotiabank in January 2013.

‘Asset Quality’

"The bank maintains a prudent risk appetite and growth in products such as credit cards, reflecting a deepening of existing customer relationships," bank spokeswoman Diane Flanagan said. “We look forward to engaging Moody’s on the strength of our businesses, balance sheet and asset quality."

She said all the Canadian banks’ funding programs have performed "relatively the same" over the past year, adding that rising government-bond yields affected the return of various securities in that period.

Canadian consumers, already saddled with record household debt, have pushed the ratio of debt to disposable income to almost double that of the nation’s last severe recession in 1992, when unemployment hit 11.7 percent. Canadian card losses typically average around 3 percent of overall balances and soar to 7.5 percent in troubled times, whereas losses from mortgages are about 0.02 percent and have reached 0.1 percent in recessions, Moody’s said.

Scotiabank agreed Oct. 15 to buy C$1.7 billion in Canadian credit-card receivables from JPMorgan Chase & Co. That follows deals announced in 2014 that included buying a 20 percent stake in Canadian Tire Corp.’s financial-services business, which included cards, and Cencosud SA’s card and consumer loans business in Chile.

Overseas Growth

In July, Scotiabank agreed to buy Citigroup Inc.’s consumer banking operations in Panama and Costa Rica, after a deal in December to buy retail operations in Peru from Citibank.

These ties to emerging markets are the reason behind the underperformance of Scotiabank bonds, Kathleen Shanley, an analyst with Gimme Credit LLC, said in a Nov. 5 phone interview from Chicago. "That’s an area that’s been hit this year," Shanley said.

Scotiabank’s Canadian dollar bonds had a year-to-date total return of 1.5 percent as of Nov. 6, trailing the returns of Canada’s other so-called Big 6 lenders.

While Manulife’s Nanji said it’s worth being “mindful” of the push for more unsecured lending, he cited the bank’s "healthy appetite for risk."

“They’re probably a little bit up the risk curve, but no more so than their peers in an environment where growth is challenging,” he said.

Moody’s said it’ll spend up to 90 days reviewing Scotiabank’s recent moves and strategic direction. "There’s been a change in the risk tolerance of the organization," said Beattie.

(An earlier version of this article corrected the name of the company in the 14th paragraph.)

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