By Andrew Willis in the Globe & Mail Streetwise blog:
What train wrecks do the bankers see coming down the tracks in 2009?
The latest recapitalization of a Canadian financial institution, Bank of Montreal's $1-billion stock sale on Monday, had analyst Sumit Malhotra at Merrill Lynch asking if “prudence or problems” were top-of-mind for BMO brass.
BMO raised $450-milllion of Tier 1 capital on Friday, and Mr. Malhotra said “we are surprised to see the bank follow-up with a common equity offering in such short order.”
At $30 a share, BMO sold stock at a discount to its book value of $32.02 a share.
“We think the willingness of BMO to issue common equity below book value will result in questions as to what lies ahead,” said the Merrill Lynch analyst. “Specifically, while we certainly expect to see an elevated level of loan loss provisioning continue in 2009, in our view the accelerated move to build capital will lead to renewed speculation as to the health of the off-balance sheet conduits sponsored by BMO.”
BMO stands out among Canadian banks for its exposure to SIVs, and been forced to recapitalize these conduits over the last year.
Banks around the world must face the fact that corporate borrowers took advantage of loose lending standards from 2002 to 2007 – remember the concept of covenant-lite loans? One problem for banks is that loans made with few covenants don't always provide warning signs for lenders. Bad loans can appear suddenly, as borrowers get close to the wall before disclosing their financial woes.
The fact that the U.S. Federal Reserve has pretty much cut overnight interst rates to nothing shows central bankers are also a tad concerned about the economic outlook in '09.
There are still three Canadian banks below the now-magical threshold of 10 per cent Tier 1 capital – Bank of Nova Scotia, National Bank and Toronto-Dominion Bank.
There's a widespread expectation that Scotiabank and National Bank will sell common stock and other forms of Tier 1 capital early in the new year. National Bank needs certainty on its own unique issue - the ABCP meltdown - before it can sell shares.
However, there are questions about just how much more equity investors can swallow. While financings done early this month sold quickly, bought deals from Great-West Lifeco and BMO took several days to fully sell.
“One has to wonder about the capacity of the Canadian market to continue to absorb the flood of common equity ($7.3-billion-plus in the past 16 days) issuances from the large-cap financial services sector,” said Mr. Malhotra. He said that glut of supply “may be embedded in the widening discounts observed since the Manulife Financial deal on Dec 2.”The gap between the closing price on stock and where bought deals are pitched has widened from 5 per cent at Manulife to more than 8 per cent at BMO.