Canadian bank stocks continue to trail the broader markets as interest rates remain elevated. Typically, higher interest rates lead to lower demand for loans across segments, eroding the profit margins for banking companies. Further, the rising cost of debt translates to higher delinquency rates and lower earnings, making investors nervous.
One such TSX bank stock which has underperformed in the last two years is Bank of Nova Scotia (TSX:BNS). Down 30% from all-time highs, BNS stock is feeling the heat of an uncertain and inflationary macro environment. However, the pullback has also raised its dividend yield to more than 6.4%, making the stock attractive to income investors.
Bank of Nova Scotia recently reported its quarterly earnings. Let’s see if BNS stock is a buy after first-quarter (Q1) earnings.
How did Bank of Nova Scotia perform in Q1?
The Bank of Nova Scotia has focused on disciplined capital allocation, strong deposit growth, and its ability to maintain a strong balance sheet amid a challenging macro backdrop. In fiscal Q1 of 2024, BNS reported adjusted earnings of $2.2 billion or $1.69 per share, up from $1.76 billion and $1.35 per share in the year-ago period.
The banking giant attributed strong revenue growth and disciplined cost performance across business segments to its stellar Q1 results. BNS was able to improve profit margins at a healthy pace, despite higher credit provisions. It also strengthened its balance sheet and liquidity profile, ending Q1 with a CET1 (common equity tier-one) ratio of 12.9%. The CET1 ratio showcases a banks ability to tide over economic downturns and a higher ratio is favourable.
BNS reported a liquidity coverage ratio of 132% in Q1, lowering its reliance on external funding sources. Moreover, it reduced the wholesale funding ratio to 20.3%. The TSX banking heavyweight emphasized its assets grew marginally year over year reflecting its disciplined approach in a muted residential mortgage environment.
BNS expects interest rate cuts in fiscal 2024
Bank of Nova Scotia explains the Canadian economy is quite resilient given the monetary tightening measures experienced in the past two years. According to BNS, interest rates have had the desired impact on consumer sentiment and spending, which should translate to rate cuts in the second half of 2024.
The bank’s results in Q1 reflect an increase in credit provisioning due to the financial strain that sustained higher interest rates have had on households and businesses.
During the Q1 earnings call, BNS chief executive officer Scott Thomson stated, “We expect the Canadian economy to underperform both the U.S. and our key Latin American countries early this year, which show some growth reacceleration in response to policy easing and more at the residential real estate markets in the back half of the year.”
Unlike several other Canadian banks, BNS aims to gain traction in Latin America, one of the fastest-growing regions in the world. Further, BNS expects Mexico to experience the strongest growth among larger economies in the Americas this year.
Priced at 10 times forward earnings, BNS stock is cheap, given it’s on track to expand earnings by 6.3% annually in the next five years. Analysts remain bullish and expect BNS stock to surge 5% in the next 12 months. After accounting for dividends, total returns will be closer to 11%.
