Buy Canadian Banks on Home Capital’s ‘Bearish Narrative,’ TD Saysby
Home Capital risks will weigh on bank stocks in short term
No ‘rotting carcass’ of bad loans in the Canadian market
The troubles at Home Capital Group Inc. have created a "powerful bearish narrative" that will weigh on Canadian bank stocks yet creates a compelling buying opportunity for the long term, says the head of TD Asset Management’s core Canadian equity team.
"In the very short term it wouldn’t shock me if we get a bit of a pause here," said Mike O’Brien, whose firm manages C$345 billion ($253 billion) in assets. "There’s a very powerful bearish narrative that has the floor right now and that will hurt sentiment for a period of time."
The S&P/TSX commercial banks index, which includes the Big Five banks, has lost 4.4 percent since April 25, the day before Home Capital disclosed a high-interest loan to cover a run on deposits, instigating fears of contagion in the Canadian financial sector. Home Capital’s shares have tumbled 46 percent in the same period.
Finance Minister Bill Morneau and Bank of Canada Governor Stephen Poloz have both said Home Capital’s problems are unique to the company and aren’t expected to spread to the broader financial system. O’Brien agreed with their assessment that the alternative mortgage lender isn’t going to kick-start a 2008-style meltdown, when the U.S. housing crash sparked a global financial crisis.
"The difference between this situation and what we saw in 2008 is there isn’t a rotting carcass of bad loans or poor-quality credit underneath all that," he said.
Any tightening of the credit available to non-prime borrowers -- the type of home buyers that Home Capital and its competitors service -- could soften the housing sector in the short term but the economy is strong enough to avoid a full-scale housing crash, O’Brien said.
"I don’t think what we’re seeing today is going to have a dramatic impact on (banks’) earnings or earnings estimates," he said. "At the end of the day we’ll look back and say this was a good time to be buying the banks."
O’Brien said he’d recommend buying banks and insurers rather than yield-heavy defensive stocks like utilities, telecoms and REITs. He also likes defensive staples like Loblaw Cos. Ltd. and Alimentation Couche-Tard Inc., as well as late-cycle sectors like the railways.