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Good morning. My name is Christa, and I'm going to be your conference operator today. At this time, I would like to welcome everyone to the Home Capital third quarter financial results conference call. [Operator Instructions] Thank you. I will now turn the call over to your host, Jill MacRae, Director of Investor Relations. Ms. MacRae, you may begin.
Thank you, Christa. Good morning, everyone, and thank you for joining us today. We'll begin the call with remarks on our quarter from Yousry Bissada, President and Chief Executive Officer, followed by a review of our Q3 earnings release and capital efficiency plan from Brad Kotush, Chief Financial Officer. After their presentations, we will have a question-and-answer session for analysts and investors. With us on the call to answer your questions are David Cluff, Chief Risk Officer; Benjy Katchen, Chief Digital and Strategy Officer; and Ed Karthaus, Executive Vice President of Sales.Before we begin, I'd like to caution listeners that this conference call may provide management the opportunity to discuss financial performance and conditions of Home Capital, and as such, comments may contain forward-looking information about strategies and expected financial results. Various factors could cause actual results to differ materially from results projected in forward-looking statements. Accordingly, the audience is cautioned against undue reliance on these remarks. Finally, a link to the slides accompanying this live webcast is available on our website at www.homecapital.com.With that, I'll turn it over to Yousry Bissada.
Thank you and good morning. Thank you for joining us today. We're happy to report our results for the third quarter of 2018. On our last few conference calls, we have shared with you that our top strategic priority was making the right decisions to position Home Capital for long-term success in the alternative lending market.The results of that work are clear and measurable. We have attracted top-notch talent, rebuilt our funding base, resumed our growth in lending and created a sustainable risk culture within the organization, which is a foundation of our business going forward.This took an enormous amount of attention and focus, but it was necessary work. Setting up our company to lead the alternative lending in mortgages for the long term is at the heart of every decision.Our sales, underwriting and risk management decisions are all driven by a fundamental orientation towards building the business for long-term success.The outcome of those decisions are beginning to be evident in the quarterly results we are reporting today. I'm very pleased with the progress we have made in our business.Our earnings, book value and return on equity results are all higher than in Q2. Our markets appear to be absorbing the volatility brought by lower real estate market activity and interest rate changes. We are observing some real estate activity returning to modest growth. We reported another quarter of growth in origination volumes and loans under administration. This is the fourth quarter of sequential increases in our originations.Our residential and commercial mortgages both showed healthy increases. In addition, our net interest margin has improved. Our net interest margin for the quarter has surpassed our results in Q1 and Q2.The credit quality of our loan portfolio is well within our risk parameters. Provisions are down from Q2, and net nonperforming loans are a low percentage of total loans. Oaken continues to grow as a contributor to our overall funding and liquidity needs. We are working to increase service to this customer base as part of our digital strategy.To advance our digital strategy, Home has created a new digital team, and Benjy Katchen has assumed the role of Chief Digital and Strategy Officer. Under his leadership, the digital team will advance our strategy capabilities and transformation throughout the company.We have accelerated our review of our capital position and today announced our intention to launch a substantial issuer bid, or SIB, of up to $300 million. We expect this SIB will be accretive to the book value per share, earnings per share and return on equity.Brad will speak to the details of the plan a bit later. After completing the SIB, we intend to apply for a normal course issuer bid. This will allow us to address proactively some aspects of our capital planning in a way that services value for all our shareholders, while still affording opportunities for investments and growth.Our announcements today demonstrate the confidence of management and our board in our operations. After completing the SIB, our resulting capital level will still be higher than the industry average and sufficient to allow us to take advantage of opportunities to invest for growth and expand our digital capabilities.We recognize there are still many opportunities for continued improvement in growth and profitability, and we believe that our strategy of partnering with the broker community to provide best-in-class service to our clients is the right strategy for the long term.And now I'd like to turn it over to Brad.
Thank you, Yousry, and good morning, everyone. Our third quarter results demonstrate an improvement over the second quarter in growth, profitability and credit quality that reflect the work we've done to position the company for long-term market leadership by pricing and managing risks consistent with our growth objectives.Turning to Slide 5 of the presentation. We reported earnings of $32.6 million or $0.41 per share. This represents an improvement of 10.1% compared to the second quarter. This is the result of growth in our loan portfolio and improvement in net interest margins, while holding noninterest expenses flat for the quarter.Slide 6 shows our origination activity for the third quarter. We are pleased to report that our trended positive sequential growth in originations has continued for a fourth quarter. Overall, originations grew 16.7% to $1.44 billion composed of $1.02 billion in single-family residential mortgages and $419.8 million in commercial mortgages. Discharges fell by 12.6% to $828 million.Slide 7 shows the breakdown in mortgage advances by business line. Turning to Slide 8, we can see our progress on net interest margins. Our NIM was 2.03% this quarter, up from 1.91% in Q2. This is the highest level of net interest margin achieved since the liquidity crisis of 2017. Our Q3 NIM reflects a reduced cost associated with the replacement of the $2 billion standby credit facility with a $500 million facility at the end of Q2.Margins for the first 9 months of 2018 have been under pressure as changes in mortgage rates have not kept pace with increased funding costs resulting from increased market interest rates. Looking ahead, we expect continued competition in the near term and that mortgage rates will adjust to a higher overall level in the medium to long term.Turning to Slide 10. You can see that the quality of our loan portfolio reflects our continued emphasis on risk management. The loan-to-value ratio of our new mortgage originations as well as on our overall mortgage portfolio have stabilized at conservative levels. Our nonperforming loans represent a low percentage of our overall gross loans. Our provisions for credit losses as well as our net write-off experience are at low levels.Provisions in the quarter were $4 million or 0.1% of gross loans compared with $6.5 million or 0.17% of gross loans in Q2. Provisions in our residential mortgage book increased from Q2 to $1.4 million, or 0.04% of gross loans. Provisions on the commercial mortgage book fell from $4.7 million to $1.9 million. Provisions overall are in line with historical levels, growth in our book and reflect a high-quality mortgage book in keeping with our overall risk appetite.As to liquidity, we continue to diversify our funding mix towards fixed-term GICs. Our near-term GIC maturities are well covered by maturities of near-term assets. Oaken has grown its deposit base both on an absolute basis and as a share of total deposits. Including demand deposits, our Oaken channel represents over $2.6 billion in funding. Oaken share of total deposits has grown from 16.7% at the end of 2017 to 20.7% at the end of Q3. Over 90% of those deposits are in the form of GICs.Finally, today, we announced that our board has approved a substantial issuer bid of up to $300 million. We expect to announce the terms of the bid before the market opens on Monday November 12, 2018, and that the bid will be completed by the end of the fourth quarter 2018.Upon completing the SIB, the company intends to apply for a normal course issuer bid. These measures will help us achieve a more efficient capital structure. It should be noted that there will be no participation in the SIB from management or directors. This SIB is consistent with our conservative approach to risk management.With that, I'll turn it back to Yousry for concluding remarks.
Thank you, Brad. The results of this quarter and our announcements today demonstrate our commitment to value creation. Our strategic efforts are starting to show through in our results. We are driving the business forward by striking the right balance between quantity, quality and profitability to create sustainable shareholder value.We appreciate the hard work of our employees and partners, the confidence shown in us by our clients, and the support of our shareholders in achieving these results. And we look forward to your continued participation in our long-term success.With that, I'll turn it over to the operator to take questions
[Operator Instructions] Your first question comes from the line of Nik Priebe from BMO Capital Markets.
Headline numbers for net interest margin look pretty stable in the quarter after adjusting for the replacement of the backstop facility. I'm just wondering if you could give us some color, I know there's a little bit of additional commentary provided in the outlook section, but just a bit of color on your expectations for the evolution of spreads going forward. And whether you're outlook has shifted since the last quarter at all.
Nick, on our last call, we talked about some increasing competition in the market as well as that we had some excess liquidity -- or liquidity over what we expect to operate for future periods. So I think we're reasonably confident that we'll compete at this level, and we're not anticipating any significant changes in what the market's doing right now.
Okay. And then with respect to the funding mix, the level of demand deposits seems fairly stable quarter-over-quarter. Is $400 million sort of the level that you'd be comfortable maintaining given the revised capacity of the backstop facility?
I think we're comfortable at that level. It may rise or fall depending on the circumstances, but we, overall, don't have a high demand for -- or, sorry, high appetite for demand deposits.
Okay. And then maybe one last one for me. Just on the noninterest expenses front, how should we think about the evolution of that going forward? I know there was a bit of a step-up in salaries and benefits expense earlier this year. Is there a normalized level of FTE growth that we should think about? Or anything you might point to us -- point us to on that front?
Yes. In previous quarters, we talked about having higher levels of salary and benefit expense, and we are still in hiring, and as part of our digital strategy, we're going to be hiring some more people. So we expect that to increase over the next quarters, and that may be approximately in the range of $23 million to $24 million. So we do expect to see some increases in some of those, but we'll manage those according to how the market moves. The other thing that we expect to happen as we start to commence some of our digital investments and strategies that, that other line will grow, and some of those expenses will be noncash, where we may be accelerating amortization depending on the execution of contracts that is part of our digital strategy. So we think those will increase, and it's going to depend on when we're able to move forward and sign contracts. So we talked about having increases before, and it may be in the range of -- like, get up to [ $60 million ]. But those are things that are per quarter overall. So that's what we're thinking right now. Of course, that's going to change in the event that we can accelerate. There could be some further changes, but anything that we may start talking about reporting some adjusted earnings as well because of these -- if there are any noncash charges or accelerated amortization.
Your next question comes from the line of Geoff Kwan from RBC Capital Markets.
Before I get to my questions, can you just clarify, Brad, on your comment on the comps. You were talking about $23 million, $24 million. Was that, like, the quarterly amount that you think that will go through with your hiring plans over the next year? Or were you referencing something else?
That's what I was referencing.
Okay, okay. And then just in terms of the questions I had was you guys -- it looks like it's a new -- this $150 million uncommitted repo facility. And is that -- the pool of mortgages, is it $125 million? Or is it some higher amount? And what are the types of mortgages that are being secured for that facility?
Those are residential mortgages, Geoff, and the carrying value is $124.5 million.
Okay. And like, what's the origin? Like why you went down this route to get this facility? And like what are the types of loans that are being used to fund it? Is it also residential mortgages?
They're uninsured residential mortgages. And sorry, go ahead.
Sorry. Just in terms of the origins, why you decided to set up this facility?
Well, we talked previously about working on getting diversified sources of funding. So to the extent that we can have alternative facilities to lengthen time horizons for GIC maturities and to be able to manage our liquidity, it seemed like the prudent thing to do to have alternative sources of financing.
Okay. And just the other question I had was, I think you've got it's roughly about $700 million of the residential commercial loans. I'm just wondering if you're able to say how much of that amount would be uninsured loans to condo developers' unsold inventory.
I don't have that stat right now, Geoff, but we can report back.
Your next question comes from the line of Marco Giurleo from CIBC.
My first question is on the NIM. I just wanted to follow up, just with respect to liquidity and Bank of Canada rate hikes. So just first on the liquidity, your liquidity levels were down 25% on a sequential basis, and yet you had good growth in the mortgage book, about 3% and -- but you also saw a contraction in deposits of around 1%. So I'm just wondering, are you comfortable operating at current liquidity levels? And why are we seeing such volatility in the liquidity? I just thought that -- the way I saw it or what I was expecting was deposits to grow in line with your asset growth, and instead, we're seeing a contraction. So maybe you could just help me understand what's going on there.
First, we're very comfortable with our levels of liquidity. Second, we were carrying excess liquidity into last quarter, and that had an impact on our NIM. We did have discussions around that and said that we would be tightening that up. And that's what we did this quarter, so we're comfortable with our current position.
All right. So should we anticipate stable liquidity going forward and deposit growth to be more in line with loan growth?
Yes.
Great. And then just on the Bank of Canada rate hikes, what type of impact should we expect from the Bank of Canada rate hikes? Are you going to pass through the rate hikes on the -- both on the mortgage and GIC side? Or will we see some impact on the NIM there?
Well, our intention is to recapture all those rate hikes. And certainly, the GIC market we participate in has some pretty transparent pricing. So you can see the effects of that. And on our mortgage rates, we expect to recapture those.
Great. And lastly, just on your volume growth, very strong growth on the commercial side as well as the residential side. Do you anticipate that will be sustained through Q4?
It's Yousry speaking, we do, subject to seasonality. We always measure by getting our piece of the pie, and so we are getting -- we're very happy with what we're getting. But seasonality adjusted, we expect to have the same proportions.
Your next question comes from the line of Stephen Boland with INFOR Financial.
A couple of quick questions. First, maybe on your SIB. I mean, there has been public shareholders, some activism there to do an SIB. So was this something that you, the management and the board, had contemplated before that activism happened? That would be, I guess, the first part of that question.
No. We thought this would be the appropriate time to execute our significant issuer bid, and that's why we're announcing it at this time.
Have your largest shareholders given any indication whether they're supportive of this? Or they will be tendering? Or have you even had discussions with your largest shareholders about this?
Well, we understand there will be a lot of interest in what our major shareholders will do. We don't currently know their intentions and couldn't speculate on them. Like any other shareholder, they'll have to make their decision on whether to tender their holdings based on their own considerations. And we have had previous discussions with a number of shareholders in terms of what our plans would be to return capital.
Okay. And just a last question, maybe this is more for Yousry. I mean, the growth in your residential book seems pretty strong. Can you confirm that this is on the back of improved measures that you've put in, in terms of, like, income verification, that basically you are winning market share or you're keeping market share, depending on how the market looks, based on, I guess, the new procedures and stuff that you've probably put in over the last year?
Yes. We have much stricter risk guidelines to meet B-20 and beyond, and all that growth is included in that. We're meeting the new stricter guidelines, if you will. As far as market share, I don't know. The reporting doesn't happen for some time yet. We always find out approximately 2 months after a quarter what our market share is, but more important to us is that we just keep building with our new risk culture, with our new service levels, with our brokers we choose to deal with. And as I've said in the past, it's not a quarter-by-quarter fight; it's a much longer term fight, and we're very pleased with the progress we're making.
Would you say that you're close to what industry standards are in terms of turnaround time for approvals with your new procedures?
Yes, I -- within our segment. Those who deal in the Alternative A, cannot respond as fast as those who deal in A. A is much quicker, 15 things to check really quick, and you can give an approval. But within our segment, yes, I'd say we're very competitive.
And you're next question comes from the line of Graham Ryding with TD Securities.
Just -- you gave some color in the MD&A around your cash and securities. This quarter represents 10.6% of your nonsecuritized assets. That's down from last quarter. Is this an optimal level? Or where would you like to see that number operate going into 2019?
I think that's a good level.
Okay. And the SIB up to $300 million, how do you plan to fund that? Is that -- if that comes directly out of your cash on your balance sheet, I assume, that liquidity level drops. How should we be thinking about how you're funding this SIB?
Well, we will be funding it. But the way to think of it is we fund to our department. So we've been able to raise GICs depending on the rates that we would put out to the market. So we will be funding -- we'll get some more liquidity on our balance sheet. And we've been able to accomplish that. As you recall, we still had questions as to why our balance were so high in Q2. So we've shown the capability of rising and falling in accordance with our demands, and we're very capable of managing our liquidity. And we don't foresee any issues at all with doing that.
Okay, that's helpful. And then just my last question. You made a comment no significant change in the market is sort of your expectation when you're thinking about the competitive dynamics. Should we interpret that as you think net interest margins should sort of maintain around this 200 basis point level?
Yes.
Your next question comes from the line of Jaeme Gloyn with National Bank Financial.
My first question is related to capital. Now with the announcement of the SIB and then a follow on NCIB, are you in a position now to disclose what your capital targets are for CET1 ratio? I would estimate that they kind of came down from about 23% to around the 19% level. Is that your 2019 capital target? Or should we expect it to drift lower into where it was previously, prior to the liquidity event, in the high 16s?
I think 2019, we'll be in around, oh, on a pro forma basis, probably 20% after taking into account the completion of the SIB. In terms of the NCIB, we're not going to be able to set that until the completion of the SIB.
Okay. And again, still on capital. SIB, NCIB, but no discussion around a dividend policy. What is the thinking at this point on that front?
We'll be providing some more information when we release our Q4 results in early March.
Okay. And just a last one on this topic. Why not set the terms of the SIB today? Why the delay until next week?
We're going to be doing the SIB on a modified adoption basis, and the thinking was that this transaction is material information that the market wouldn't know. So we wanted to make sure that there's an appropriate seasoning to get an appropriate market price so that we can execute the SIB.
Okay. So sorry, so that is a regulatory issue that you have to just sort of hold up? Or sorry, I'm just...
Well, I think it's just in general, Jaeme, overall. The market would expect us to have clear disclosure and if we were to set a price now without the market being informed of it then if we were -- we might be too high; we might be too low. So we still have the option to set the range of price under what we're doing. And we'll see where the market takes us. But if we came out with a price that was too low, for example, today, then no one would tender, and we wouldn't achieve our goal. So it's a balance between providing the market with enough information and time to absorb the information and then for us to appropriately price it based on that feedback.
Great, that's fair. Moving back to the liquidity conversation. You mentioned that you're quite comfortable today where you are now, and you don't expect to see too much changes. If we go back into the history of Home Capital, and I, again, look at this on a variety of measures, whether that's liquidity as a -- or cash balances as a percentage of total nonsecuritized type assets or cash balances as a percentage of demand deposits. You're still well above pre-liquidity event levels on both those fronts. So is this just a new way to manage Home Capital's liquidity going forward? Or are there potential opportunities to continue to reduce liquidity as the normalization of the business continues?
Jaeme, we will -- we're working on a sustainable risk culture for the long term, and to the extent that we see opportunities or an appropriate measure, we'll take advantage of it. But we're very comfortable with our current levels of liquidity.
Okay. And shifting to the portfolio mix then. Seeing still very strong growth from British Columbia. Obviously, it's not a huge chunk of the pie, but still very strong growth in British Columbia, and expanding loan-to-value ratios on those new originated mortgages in BC. Can you talk about your thoughts around lending into that province, especially with the housing market that we're seeing today? And how this may impact your credit provisions going forward under the IFRS 9 as that market continues to deteriorate, how that will impact credit?
It's Yousry speaking, Jaeme, so we are, as you pointed out, lending in BC. We are cautious. We do it one deal at a time. We look at the loan-to-value and the covenants of the individual very carefully, including testing some shocks when we do that. And the loans that we have been making have been cautious with all that in mind, and we think it's a market that is experiencing some volatility, for sure. But our LTV in BC is around 63%. So we're lending relatively low, and we'll continue to look at it that way.
Okay. So -- and maybe just a quick refresh then. Well, I guess, one follow-up and then a quick refresh. The follow-up is where in BC are you specifically lending into for these newly originated mortgages? And I guess, what does the portfolio look like on an aggregate basis today in terms of exposure? And then just a quick refresh on IFRS 9, how does housing market performance in terms of sales and average prices, how does that flow into either model estimates, or what have you, to drive the IFRS 9 credit and Stage 1, 2, 3 movements?
Jaeme, I'll answer the first part and then turn it over to Brad to answer the IFRS question. The first part is we only will loan in core GTA, Vancouver. That's all. That's the only place we lend in BC. And IFRS, I'll turn it over to Brad.
Yes, Jaeme, our model incorporates unemployment rate, housing price and interest rates, one of the primary drivers being unemployment rate. Our forward-looking was overall good news. We do provide higher levels of provisioning on areas outside of the GTA. So we are and will continue to do some geographic diversity in our lending book -- and as Yousry said on a prudent loan by loan basis, but we think, overall, that's a benefit to the company.
[Operator Instructions] Your next question comes from the line of Brenna Phelan from Raymond James.
Can you talk about a little bit about your renewal process and if that's now where you want it to be? And maybe some of the debt servicing ratios that you're -- I know you don't have to officially re-review for a renewal, but are you getting to a point where rates have moved such that you think there is going to be a bit of a squeeze on your borrowers?
So our renewals, if the client has been in good standing throughout the term, they will get a renewal offer from us at current rates. If the client has had any issues of arrears or otherwise, they may get re-underwritten or not renewed at all. We continue to experience a high renewal rate, partially because of efforts and marketing and sales skills that we've deployed to improve our renewal rates and also partially because of B-20 and some peoples' inability to go elsewhere. But that portfolio -- our renewal portfolio is -- arrears are very, very low. So we have no concerns. Our LTV on the renewals are quite low. We've got a -- our book on average is around 60% LTV. So we're quite comfortable with the renewal book.
So are your renewal percentages at where you want them to be? Or is there more room to improve here?
Yes. No, it's where we want them to be, and it's been consistently higher than last year by about 10% to 12% higher than last year. So we're pleased with it.
So is there an internal kind of threshold at which your rates that you're renewing these mortgages at increase such that you think it might be prudent to go through a re-review of the debt servicing? Or you feel comfortable given the loan-to-values? How should I think about that?
Yes. It's a combination of the loan-to-values and the behavior of the client. If there are arrears, then we look at it. If there are none, then we continue to renew it. I'm not saying all, but many people's situations improve from year to year. They get a raise. They get a second job. Their -- a spouse is working. While we don't review it, there's an implied assumption that their situation is getting better unless there is some behavior showing us otherwise.
Okay. And then can you talk a little bit about the competitive dynamic from some of the private mortgage lenders, what you're seeing. Are they being aggressive? Do you think their rates are commensurately reflecting Bank of Canada rate increases? What's that behavior trending like?
So definitely, they're getting a lot of business. There are dozens if not hundreds of private lenders in Ontario and BC. So it's difficult to sort of just generalize about what you're doing in rates. But -- so having said that, I'll just say, overall, their rates would be significantly higher than ours or our competitors, 9%, 10%, 12% kind of rates. Plus some, not all, would have additional fees of 1%, 2%, 3%, 4% on top of that. And they are lending to people who either don't pass the stress test or choose not to go through the rigorous income verification that a company like ours would have to do. So again, they are definitely getting large volumes. What we don't know is how much capital they collectively have and how long they can sustain that. That's to be determined in the future.
Your next question comes from the line of Jaeme Gloyn from National Bank Financial.
Two quick follow-ups, actually. And forgive me if this is explained in the MD&A. I was just wondering if you could describe what were the drivers of the increase in the securitization net interest margin.
Yes, Jaeme, we'll get back to you. We'll look.
Okay. And then the second follow-up is just around the net interest margin for nonsecuritized assets and the interplay between the standby credit facility and lower average liquidity and net interest spread dynamic. Are you able to quantify for us the basis points that you would attribute to each of those 3 factors in driving the 13 basis points quarter-over-quarter increase?
Roughly, 10 basis points on the facility and 2 basis points on the asset mix and loan price.
Okay. So sorry, 10 basis points for the credit facility? And then 2 ...
Three, call it 3. We're looking for 13, so.
Three for asset mix, and what was the impact of net interest spread? Nothing?
It's incorporated. There's a mix between the changes we made in our liquidity profile and what we were able to recapture on the rates on mortgages.
Your next question comes from the line of Graham Ryding from TD Securities.
Just the question is the growth of your on balance sheet mortgage portfolio is this year higher than your total loans under administration. The question is, are some of these mortgages that were off balance sheet previously being renewed and brought back on balance sheet? Or how should we think about the difference in growth rates between those 2 portfolio metrics?
Yes. I think we're going to be focused more on that on balance sheet growth in the near term. So we are -- as those renew, we're bringing them back on the balance sheet.
We have no further questions in this -- at this time. I will turn the call back over to Jill MacRae for closing remarks.
I just want to thank you all for participating in our call today. A replay of the call will be available on our website later today. And as always, you have my contact information if you have any follow-up questions. Thanks very much, and have a great day.
This concludes today's conference call. Thank you for your participation, and you may now disconnect.