Bank of Nova Scotia (TSX:BNS), commonly known as Scotiabank, surprised investors last month with an unexpected surge. It gained nearly 12.1% in August, second only to Royal Bank of Canada, which edged slightly higher at 12.5%. For a stock that’s long underperformed its Big Six Canadian bank peers, this rally raises an important question: Is now the time to buy, sell, or hold?
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A history of underperformance
Scotiabank has consistently lagged behind its peers over the last decade. While the average compound annual growth rate (CAGR) among the other Big Six Canadian banks was 10.1%, BNS delivered just 4.2%. To put that in perspective, a $10,000 investment in BNS a decade ago would now be worth about $15,100, compared to its peer average of about $26,256.
The underperformance was related to large drops in earnings. The bank saw steep drops in adjusted earnings per share (EPS) in both fiscal 2020 (down roughly 25%) and fiscal 2023 (down approximately 23%). In 2020, the global COVID-19 shutdowns were largely to blame. In 2023, the issues were more internal and economic in nature.
Despite a modest 2.8% revenue increase to $32.3 billion in fiscal 2023, the bank ramped up loan-loss provisions to $3.4 billion — 2.5 times the previous year’s level — due to concerns over potential defaults. At the same time, non-interest expenses jumped nearly 12% to $19.1 billion, further pressuring earnings. Diluted EPS dropped 28% year over year.
The comeback: Is it sustainable?
Fast forward to today, and BNS stock appears to be turning a corner. It’s up 29% over the past 12 months, and total returns climb to 36% when dividends are factored in. This is impressive for a blue-chip name.
As of the latest results (the fiscal year to date that ended in July), revenue is up a strong 11% to $27.9 billion. However, there are still signs of caution. Loan-loss provisions rose 19% to $3.6 billion, and non-interest expenses increased 16% to $16.7 billion. Net income dropped 10% to $5.6 billion, resulting in a 14% decline in diluted EPS.
Still, adjusted figures tell a more optimistic story. Adjusted EPS is up 5% to $5.16, and the third quarter alone saw a robust 15% year-over-year increase. If that momentum continues, it could justify the current valuation.
Valuation and the verdict
At around $88 per share, BNS is trading at a price-to-earnings (P/E) ratio of about 12.7. That’s about 19% above its long-term average, suggesting much of the optimism is already priced in. If earnings growth stalls, the stock could be due for a pullback.
So, what’s the move?
- Buy? Investors bullish on the Canadian economy or seeking high income may consider shares, as the dividend yield is hovering near 5%.
- Hold? Those who bought in at lower levels may want to continue collecting passive income, especially if they believe in the earnings recovery.
- Sell? If the recent run-up has led to an overweight position in Canadian banks, it may be wise to trim and re-balance toward sectors with better value.
The Foolish investor takeaway
After a decade of lagging, Scotiabank is showing signs of life — but with this full valuation, investors should generally exercise caution and rebalance as needed to ensure proper portfolio diversification.
