National Bank of Canada

TSX:NA

Earnings Call Transcript 2018-Q4

[Operator]

Good afternoon, ladies and gentlemen. I would now like to turn the meeting over to Ms. Linda Boulanger, Vice President of Investor Relations of National Bank of Canada. Please go ahead, Ms. Boulanger.

[Linda Boulanger, Vice President of Investor Relations]

Good afternoon, and welcome to National Bank's 2018 Fourth Quarter Results Presentation. Presenting to you this afternoon are Louis Vachon, President and CEO; Ghislain Parent, Chief Financial Officer; and Bill Bonnell, Chief Risk Officer. Following our presentation, we will open the call for questions. Joining us in the room for the first time is Laurent Ferreira, Co-Head of Financial Markets. Also joining us for the Q&A session are Stéphane Achard and Lucie Blanchet, Co-Heads of P&C Banking; Martin Gagnon, Head of Wealth Management; Denis Girouard, Co-Head of Financial Markets; and Jean Dagenais, Senior VP Finance. Before we begin, I refer you to Slide 2 of our presentation, providing National Bank's caution regarding forward-looking statements. With that, let me now turn the call over to Louis Vachon.

[Louis Vachon, President, CEO & Director]

[Foreign Language], Linda. Thank you, everyone, for joining us today. This morning, we reported strong fourth quarter results, capping off a very successful year for National Bank. As I look back on the last year, I am very pleased with the bank's overall performance. I'm also very satisfied with the progress made in positioning the bank for long-term success through our ongoing transformation and growth plans. In 2018, the bank generated record net income of $2.2 billion, up 10% from last year. Across the bank, we achieved solid growth, while managing costs effectively and maintaining strong credit quality. This translated into a return on equity of 18.5%, among the highest in our industry globally. Credit quality remains strong in our overall portfolio, reflecting a sound economy and a prudent approach to lending. The economic backdrop in Canada was favorable, and we continue to benefit from additional tailwinds with a strong activity in our core Québec market. Through disciplined capital management, we consistently increased our Common Equity Tier 1 capital ratio to 11.7%, providing us with flexibility to invest in growth initiatives and return capital to shareholders. During the year, we raised our dividend twice for a combined increase of 7%. We returned close to $500 million to shareholders through buybacks, a significant acceleration compared to the prior year. The bank has delivered industry-leading total shareholders return of 16% and 15% over the 3- and 10-year periods ended October 31, 2018.While meeting our midterm financial objectives, we achieved solid progress on an ongoing digital transformation and cultural evolution. We are making substantial investments in technology and digital initiatives to create a unified client experience and drive efficiency. Significant milestones were achieved in the past year, which translated into improved client satisfaction and strong efficiency gains. In an environment of rapid change, people and culture are more important than ever. We strongly believe that the cornerstone of our transformation is the evolution of our culture into an agile and adaptable organization. This is in line with our bank-wide mission statement that puts people first in everything we do. Now let me share some highlights on our business segments.Our P&C segment ended 2018 with positive momentum. In Personal Banking, we completed the repositioning of our distribution model, translating to a higher levels of mortgage originations and renewals. In both Personal, Commercial Banking, our loan volumes accelerated through the year, combined with a strong increase in deposits.We remain disciplined in striking the right balance between volume growth, healthy margins and credit quality. Our objective is to position the bank to perform well through the complete cycle, and I'm very pleased with our performance in that regard. Looking forward, we will maintain our overweight position in Québec, in secured lending and in Commercial Banking, which we view as favorable in the current economic environment. In terms of our digital transformation, we delivered a constant stream of new digital services throughout the year. This includes the deployment of a new secure online portal with unique external account aggregation features and a new online origination experience for core products such as deposit accounts, mortgages and credit cards. Unassisted channels now account for over 90% of our core transactions either online, via ATMs or through our leading mobile platform. Our success has been recognized through 5 Ipsos Financial Service Excellence Awards, including ATM Banking and Mobile Banking Excellence. Turning to Wealth Management. Our strong momentum was sustained in 2018, with earnings of about $500 million, up 17% from last year. Our Wealth Management segment has grown significantly in recent years, accounting today for 24% of our revenues, exceeding those of Financial Markets for the first time. This segment is delivering double-digit growth through a differentiated business model that responds to client needs for choice and unbiased advice. Our focus on distribution, our positioning as Canada's largest manager of managers and the diversification of our business model allow us to be very confident in our future growth. Our Financial Markets segment delivered strong and consistent performance, again, in 2018, reflecting the diversification of our business mix, our focus on client-driven activities, our leadership in selecting niches and our flexible approach to balance sheet and capital allocation. In 2018, corporate and investment banking performed particularly well, as we reaped the benefits of a clear strategy and focused investments over the past few years. Our investment banking franchise had a record year in merge and acquisitions and increased its share in equity capital markets. Moving into 2019, the pipeline is solid. We will build on our solid base as the #1 investment bank in Québec and our leadership positions in government debt underwriting, ETF structuring and trading, structural product and equity derivatives across the country. Moving now to our fourth segment, we are satisfied with Credigy's performance in fiscal 2018. As communicated last quarter, in the short term, we expect a slower pace of growth based on current market conditions. Looking forward, our strategy remains for disciplined growth, with the same return objectives and risk box. ABA Bank had another very strong year of growth and became the fourth largest bank in Cambodia, in fact, #3 according to some benchmarks.ABA earnings contribution is up 38% while achieving a return on equity of 30%. The outlook is very positive for the coming years in a significantly underbanked market and a rapidly growing economy. As we pursue rapid expansion in Cambodia, we will maintain our moratorium on significant new investments in emerging markets until 2020.Overall, all our business segments are well positioned for growth. As a super-regional bank with leading market shares in Québec, we are well positioned to benefit from the strengths of the Québec economy. Unemployment has been at historical lows for several years, business confidence is high and the province has recorded 3 consecutive budget surpluses. There is good visibility on large infrastructure investments that should fuel GDP growth for at least the next 3 years, with foreign investment and immigration adding further stimulus. In addition, Québec households have higher savings rates and lower average debt than their counterparts in the rest of the Canada, due to better housing affordability, full employment of the prime-age population and a large proportion of women in its workforce. With approximately 60% of our revenues derived from Québec activities, we see our geographical positioning as a competitive advantage in the next few years. Turning now to capital deployment. Our strategy remains the same. Our first priority is to maintain strong capital ratios. Our second is to invest in business growth in our core markets. Our focus continues to be on organic growth initiatives, with the objective to enhance client experience and generate an operating leverage between 1% and 2%. And our third priority is to return capital to shareholders through sustainable dividend increases and share buybacks.On that note, this morning, we announced a 5% increase in our quarterly dividend to $0.65 per share. As usual, we will review our quarterly dividend every other quarter. On share buybacks, our plan is to complete the current program early in 2019 initiate a new one to provide flexibility. To wrap up, I am very pleased with our performance in 2018 and the momentum we are creating for the future. We delivered strong growth, continued efficiency improvement and ended the year with strong capital levels. The resilience of the Québec economy gives us comfort at the current stage of the business cycle and remain vigilant in balancing our objectives of sustainable growth and sound risk management. We are heading into the new year with prudent optimism, driven by clear strategic priorities and a highly engaged team. In times of profound change in our industry, I want to thank our more than 23,000 employees for their commitment and helping our clients and communities thrive. I also want to thank our customers and shareholders for their trust. And at this time of the year, again, I would like to wish everyone the best for the holidays and a very successful 2019. On that, I will turn things over to Ghislain for the rest of the presentation. Ghislain?

[Ghislain Parent, CFO & Executive VP of Finance]

Thank you, Louis, and good afternoon, everyone. My comments today will focus on efficiency and capital, beginning with Page 8 on the slide deck. We ended the year with strong results for the quarter and the full year, with all segments contributing to our performance. We generated solid top line growth while maintaining strict discipline in managing our costs. This translated into an all-bank operating leverage of 2.5%, above our target of close to 2% for the year. For the fourth quarter, our efficiency ratio stood at 44.6% -- 54.6% rather, an improvement of 130 basis points for the year, while our operating leverage was slightly positive due mainly to seasonability and high variable compensation.For fiscal 2018, all our businesses delivered strong efficiency ratio improvements. In P&C, we reached the low end of the 3-year efficiency ratio target of 53%, set at our 2015 P&C Investor Day. The P&C segment also achieved a strong operating leverage of 3.1%. Wealth Management, Financial Markets and International segments also delivered substantial improvement on their respective efficiencies and operating leverage for fiscal 2018.Over the past few years, we have shown consistency in our ability to generate strong positive operating leverage and better efficiency. We are investing with the objective of delivering sustained benefits on a regular basis, as we are progressing in our transformation journey. Our goal is to be more efficient while keeping clients at the center of everything we do. And also positioning the bank for long-term growth. With the execution of our transformation, we are confident that we will continue to improve our annual efficiency ratio in a steady way in the coming years. We continue to be highly committed to our transformation in our disciplined approach on costs. For fiscal 2019, as we just mentioned, we are targeting an operating leverage of between 1% and 2%. Turning to Slide 9 for the capital review. We ended fiscal 2018 with a strong CET1 ratio of 11.7%, 50 basis points higher than a year ago and a 160 basis points increase in the last 24 months. Besides -- since the end of 2016, we have bought back 9.5 million shares or close to 3% of the outstanding shares. During the fourth quarter, the 21 basis points increase was driven largely by strong internal capital generation, which added 43 -- 42 basis points, partly offset by the buyback of 3 million common shares and a slight increase in risk-weighted assets. At the end of the fiscal year, our total capital ratio stood at 16.8% and our liquidity coverage ratio at 147%. We are pleased with our current capital and liquidity positions. On that, I'm turning the call to Bill for the risk review.

[William Bonnell, Executive Vice]

[Foreign Language], Ghislain, and good afternoon. Please turn to Slide 11. Before I begin a review of the fourth quarter, I'll make a few comments on the full year of 2018. We finished 2018 with full year total PCLs of 23 basis points, which was at the lower range of our guidance as a result of continued benign credit conditions and the solid quality of our loan portfolios. Our Credigy portfolio performed well and right along expectations. Excluding Credigy, our PCLs on impaired loans were 15 basis points, remaining close to cyclical lows. And finally, we had 2 basis points of PCLs on performing loans during the year. Overall, we were very pleased with credit performance. Looking now at the fourth quarter. PCLs on impaired loans were $83 million or 23 basis points, with the quarter-over-quarter improvement driven by lower provisions in Commercial Banking and Credigy. Stage 3 provisions in the other business lines remained pretty stable. Total PCLs declined by 1 basis point to $73 million or 20 basis points, primarily due to a $15 million recovery of POCI at Credigy, reflecting better collections performance. Looking ahead to expectations for credit performance in 2019, there are a few factors, which we balance. First, we recognize that we are late in this economic cycle and see several macroeconomic uncertainties from geopolitics, rising interest rates and volatile energy prices. A disciplined approach to lending remains warranted. Second, many macro indicators are still quite positive, unemployment rates remain very low and GDP growth remains good, which indicate that benign credit conditions could last a while longer. And finally, our overweight in the province of Québec and underweight in unsecured consumer debt feels like the right defensive position to have in this economy at this point in time. Weighing those factors, we've maintained our 20- to 30-basis-point guidance for the full year ahead and expect to be close to the middle of that range. Turning now to Slide 12. Our gross impaired loans ratio improved 1 basis point quarter-over-quarter to 43 bps. Formations declined by $43 million from last quarter to $89 million, driven by net repayments in commercial lending. I would note that year-over-year numbers here are not comparable since IFRS 9 requires recognition of impaired much faster for government-insured loans even though credit losses are not expected. On Slide 13, details of our retail mortgage and HELOC portfolio are provided. PCLs were stable at 1 basis point. Insured mortgages accounted for the larger share of the portfolio at 42%, followed by HELOC and uninsured mortgages at 33% and 25%, respectively. The distribution across provinces remained fairly stable, with Québec representing 54% of the total. Uninsured mortgages and HELOCs in GTA and GVA represent 9% and 2% of the total portfolio and had LTVs of 52% and 47%, respectively. Given the recent volatility in oil prices, we've added a couple of slides in the appendix to provide updates on our direct and indirect exposures. Three points I would draw your attention to are: First, the portfolios have been meaningfully rebalanced since 2015. Drawn loans to clients in the oil and gas producers and services sector have been brought down significantly since the peak in early 2015 and now represent 1.7% of total loans versus about 3.6% at that time. Second, aligned with our overall corporate lending strategy, relationships in this area have been refocused on larger, well-capitalized oil and gas producers and deepened with large investment-grade pipeline clients. And finally, our exposure to consumer lending in the oil regions remains very modest. For example, unsecured retail loans in Albert amount to only 0.1% of total loans. We are very comfortable with the size and quality of our loan portfolios in this region. With that, I'll turn the call back to the operator for the Q&A.

[Operator]

[Operator Instructions] The first question is from Nigel D'Souza of Veritas Investment.

[Nigel R. D'Souza, Investment Analyst]

I just wanted to follow up on the last comment you made regarding your oil and gas exposure. So I notice on Slide 25 of your presentation there, thanks for that disclosure. There's about $2.5 billion of O&G loans outstanding. When I look at the average balance in your Personal Commercial segments, it's about $1.6 billion for Q4. So that difference there, is that balance sitting in your Financial Markets segment? How should we think about it?

[William Bonnell, Executive Vice]

Okay. Just to review, what slide were you looking at?

[Nigel R. D'Souza, Investment Analyst]

I believe its appendix 11. So it's Page 25 of your presentation.

[William Bonnell, Executive Vice]

Okay. Jean?

[Jean Dagenais, Senior Vice]

Yes, exactly. Sorry, I'm seeing it now. Yes, the remainder would be in the corporate book.

[Nigel R. D'Souza, Investment Analyst]

Okay. So should we expect the PCLs in the relative segments then to move higher because the Financial Market segment seems essentially no buildup of credit losses, at least in the last few quarters? Or how should we think about the loans that are not in your P&C segment related to oil and gas?

[Jean Dagenais, Senior Vice]

Well, overall, the loan -- if you look at, I think, it's the slide before, our geographical breakdown, you can see we give quite a few details on our loans in both on the retail, secured and unsecured as well as the split between commercial and corporate. Overall, I think it's pretty clear that we're underweight in that region, given our geographical focus in Québec. And I think overall at the bank then, the -- our future-looking estimates of credit losses aren't impacted as much because the position in that region is smaller.

[Nigel R. D'Souza, Investment Analyst]

Okay. I appreciate the color. And just a last quick question for me is on appendix 9, it's Page 23. I appreciate the breakdown between amortizing, nonamortizing HELOCs. Could you just provide any commentary on what's driving the substantially higher year-over-year growth rates on the amortizing HELOC book versus your res mortgages or nonamortizing HELOCs?

[William Bonnell, Executive Vice]

Maybe I'll start it off and Lucie may have some comments on it, but I think our overweight position in Québec is probably what's driving that. The savings rate in Québec is the highest in the country, and we're seeing consumer behavior -- very good consumer behavior, pay downs on debt and switches from variable to fixed. So I think that's -- if there's a difference with our peers, I'm sure that the situation of consumers in our home province probably are driving that. Lucie, do you have any...

[Lucie Blanchet]

Yes, and the amortizing portion has increased over the past year, in 2018 we have seen that as consumer prefer to lock their rates, with the rising rate environment.

[Operator]

The next question is from Steve Theriault of Eight Capital.

[Stephen Gordon Theriault, Principal & Co]

Couple for me this afternoon, maybe starting with Bill. Just on Credigy, Bill, how should we think about the losses for next year? I guess it's 2 parts. It's the Stage 1 losses and how that progresses as the Lending Club portfolio seasons and runs off? And then -- and the POCI line, it was a pretty big number this quarter. It's jumped around. It's been anywhere from 0 to $15 million. What's the outlook for that, in particular? And if you could also layer in -- I don't think you've been doing the impaired purchases for a while, so maybe just remind us of the duration and the size of that book?

[William Bonnell, Executive Vice]

Okay. Thanks for the question. I'll start off. As you pointed out, the Stage 3 PCLs from Credigy have come down. So as we talked about, 2018 was an unusual year in Credigy, given the Lending Club purchase agreement peaked at around $1.3 billion at the beginning of the year and as we had guided too and as actually the portfolios performed, we saw Stage 3 peak in about the middle part of second half of the year and Stage 1 and 2 start to decline. So looking forward, we expect the amortization of that portfolio -- the lending loan portfolio to continue, that will drive Stage 3 losses to continue to decrease slowly. Stage 1 and 2 losses, we expect to follow the amortization as well and have some declines, offset a bit by new activity, new purchases of portfolios and the -- in Credigy. So that's -- that covers the Stage I, 2 and 3. On the POCIs, it's hard to give guidance for that. I think, as you said there, it's been a pretty recurring fact over the last number of quarters, typically it's driven by performance and collections being better than what was initially estimated when the portfolio was purchased. I think there have been continued purchases though of POCI, maybe not sizable enough to see and probably offset by the decline in the Lending Club, but it's been an ongoing activity for everyone.

[Louis Vachon, President, CEO & Director]

I think -- Steve, it's Louis. I think they've always remained active in nonperforming, but it was clearly overshadowed from a P&L standpoint from the large portfolio purchases in the performing space, but they've always been active and remain active in that space. Now depending on what occurs in the U.S. economy in the next few quarters, they may actually be more involved in the nonperforming space, which again would lead to deadline remaining active from an accounting standpoint.

[Stephen Gordon Theriault, Principal & Co]

Okay. And if we think of your -- Bill, of your guidance or your sense for what credit losses, I think you said, the mid-ish point of that 20 to 30 basis points, but the midpoint is sort of where you where this year. And so to wrap Credigy all up, would you -- is it reasonable to go forward thinking that the Credigy losses are sort of be in the same ballpark then?

[William Bonnell, Executive Vice]

I would say that for 2018, we expect to be around the midpoint of the guidance. We ended up being a little bit below that for 2019 because of the factors I described, Credigy losses probably would be a little over. And I think the performance -- hopefully, we could have a performance like last year.

[Stephen Gordon Theriault, Principal & Co]

Okay. One more for me, if I could, on expenses. The overall operating leverage in Q4 was close to breakeven, but in the P&C division, still very strong at 2.4%. So maybe it would be helpful to have a little bit of an outlook. You have your new 1% to 2% operating leverage target. Would you expect the P&C division to migrate into that range? Or is there still gas in the tank to keep the operating leverage above that level?

[Stéphane Achard]

I think as revenues -- it's Stéphane here. I think as we see revenues probably not being as strong in an uncertain or more uncertain economic environment, we should see the operating revenue leverage fall closer to what the bank has been doing over the 2019.

[Ghislain Parent, CFO & Executive VP of Finance]

This is Ghislain. So we don't unnecessarily give guidance by segment. But of course, the P&C will continue to do very well. And of course, it's included in our 1% to 2% guidance.

[Operator]

The next question is from Meny Grauman of Cormark Securities.

[Meny Grauman, MD & Head of Institutional Equity Research]

Wondering what you're assuming for energy in your PCL ratio guidance for 2019? And on a related question, I know that oil and gas sectoral from 2015, 2016 experience, that disappeared under IFRS 9, but I'm wondering if losses were to start to increase in that book, is that relevant at all? Or is it ancient history and not relevant to the way you will recognize provisions in 2019 in a scenario where energy becomes a bigger issue?

[William Bonnell, Executive Vice]

Okay. It's Bill. Thanks for the question. On the first, in terms of looking forward, I think there has been a lot of volatility in prices recently. A lot of that was after the quarter. I think we'll probably talk more next quarter about how the market view is on energy prices for the remainder of the year. For the -- just on your comment on the sectoral, upon -- and John probably can jump in and help you, but upon transition to IFRS 9, the sectoral and the collective allowances, they don't exist anymore, but they formed, and now we have the allowance for credit losses under IFRS 9. At the time we, of course, develop new models in IFRS 9 to generate the expected credit losses, and we have -- we established management overlays as well based on our assumptions for the -- the forward-looking assumptions for the portfolio. So the sectoral, while it doesn't exist anymore in IFRS 9, the concept is the same, and we feel that we were conservative in assessing our allowance for credit losses in our IFRS 9 allowances and continue to think that our allowances are conservative.

[Ghislain Parent, CFO & Executive VP of Finance]

Exactly, and you can see now that the general and the sectoral allowance have been replaced by a Stage 1 and Stage 2 allowance that you see in our financial report.

[Operator]

The next question is from Meny Grauman, Cormark Securities. I'm sorry, Gabriel Dechaine from NBF.

[Gabriel Dechaine, Analyst]

Few on the segments here. First, on Credigy, I hear there's a bit more of a toned-down outlook for growth but on a sequential basis, we saw the balances up for the first time since the last year. I'm wondering if we've hit like kind of a trough in where you expect the loan balances to be at Credigy and maybe there is some growth that we're maybe underestimating next year?

[Louis Vachon, President, CEO & Director]

From your lips to God's ears. So I think the -- Ghislain may add some points, but I think there'll be some volatility in markets and creates a more positive environment for Credigy, I think that's how I would describe it. Ghislain, anything else that you'd add on that?

[Ghislain Parent, CFO & Executive VP of Finance]

No, no.

[Gabriel Dechaine, Analyst]

Okay. Then on -- I mean, for either Denis or Laurent in the trading business. I think I must have heard equity derivatives about 20x this earnings season, implying that the other banks are shifting away from FICC as that flows down and doing a lot more on the derivatives side. How is that affecting your business, and that's been a big growth driver for you, historically, in trading? You see other alternatives developing or opportunities, I mean? As the -- or how are you positioning yourselves vis-à-vis that potentially intensifying competition?

[Denis Girouard, Executive VP & Co]

Well, we're always looking at opportunities in the market. That's the first thing. We're always looking at niches. And equity derivative is one of them, and we're not -- yes, the competition is stronger, but we're still very involved in all of the FICC group. And even if there is slowdown in some areas, there's other areas in the FICC group that are doing well, and we're very pleased with the mix that we have right now, and we'll see what happened this year. But last year, it was obvious that some others did very well, and some others didn't do well and that's a well-balanced business that we have, and we continue to have in the year to come. And we're not too concerned about the competition here. We're just concerned about what we can find as opportunity, and we'll be very, very closely watching the market and be sure that we act when we can act in the opportunities. So that's it.

[Gabriel Dechaine, Analyst]

Great. And then my last one would be for Martin, wealth. I think the -- it is really about the rate outlook, noninterest income in your business was up almost 20% during the year, I think largely attributable to the rate hikes we saw over the past year, plus. If it wouldn't -- BOC didn't hike today obviously, if we see a more subdued pace of rate increases, how do you think that revenue line looks going forward?

[Martin Gagnon, Executive VP of Wealth Management & Co]

So I would say that Q3, Gabriel, was really an interest rate quarter. The last one for Q4 is more of a volume quarter overall, and if we look at our net interest income, it was 50-50 due to rate and due to volume. We -- if -- in terms of outlook, I don't call interest rates, obviously. I don't control that, but we do have some interest rate beta that -- and we have different levers to play for 2019, but now we have 30% of our revenues coming from net interest income. So it is significant, and we have different levers to play in order to capture that going forward.

[Gabriel Dechaine, Analyst]

So in short, even if rates stay flat, assuming volume both on the lending and deposit side are -- you've got upward trajectory there that can keep us in positive territory?

[Martin Gagnon, Executive VP of Wealth Management & Co]

Yes, absolutely.

[Operator]

[Operator Instructions] We have a question from Sumit Malhotra from Scotia Capital.

[Sumit Malhotra, Managing Director of Canadian Financial Services]

Just a question, first, in the Financial Market segment and more specifically, in investment banking revenue. Most of the Canadian dealers seem to have had a weaker investment banking backdrop as far as Q4 was concerned, although your numbers continue to look quite strong. Just specifically, I always think of your franchise in the investment bank is being more domestic focused. Anything that was out of the ordinary in terms of an advisory mandate that contributed to that number? And maybe bigger picture, we're hearing the words "late cycle" a lot as far as credit is concerned. Late cycle often also involve some uptick in M&A activity. Just curious as to your outlook for that particular part of the Financial Market segment in 2019.

[Denis Girouard, Executive VP & Co]

Yes, you're right, Sumit. For 2018, all these investments that we made in the last 2 years paid off. And remember that for few quarters, I keep saying that the overall portfolio alumni was quite big and some of them materialized nicely at the end of the year, and we're quite pleased with that. I will tell you that for 2019, as we mentioned earlier, what we're seeing so far is very stronger, right? And the other cycle, we can see a lot of those M&A activities, but again, it's related to the climb we're going to see at the stock market and things are getting volatile right now. How those deals will materialize, we don't know, but we're very well positioned if things are stabilizing and maybe we're going to see those transaction materialize in the course of the year. But we are very active right now and in some -- many, many case file that we are working on and positive, but cautiously positive depending what the market will do.

[Louis Vachon, President, CEO & Director]

And, Sumit, just to add to. I think it was, as Denis mentioned, it's -- our general franchise, as you know, has grown in all aspect in investment banking, but on the geographical side, it was all U.S. related, sorry...

[Denis Girouard, Executive VP & Co]

Canadian.

[Louis Vachon, President, CEO & Director]

Canadian related. It was no U.S. involved for us, as you know we're very domestically focused. So when U.S. slows down, we don't have the impact that some of our peers have in terms of their results.

[Sumit Malhotra, Managing Director of Canadian Financial Services]

And then somewhat relatedly, I mean, it could just be the time a lot of us have been in this job, but you think back to the last real downturn that we had 10, 11 years ago, the conditions certainly felt a lot different, at least to me, in terms of the level of frothiness, particularly in credit markets. When I look at getting your Financial Market segment, there's been some differentiation between the sector and the level of corporate loan growth. If the numbers at least in my model here are right, you've got about $16 billion of corporate loans at the end of the year, and that is up 15%. How would you categorize the lending conditions or the credit conditions when it comes to the capital markets business? Are you seeing, I'm not going to -- I don't think you'd say that about your 15% growth, but are you seeing counterparts starting to reach for deals in terms of the covenants we're seeing? Or is the growth that your business and others have exhibited more in line with the level of activity that's in the market?

[Louis Vachon, President, CEO & Director]

I'll take a first crack at it, and then if you want to Denis, Laurent or Bill want to add anything. So our growth has been essentially all Canada, most of it, very close to all of it, in the corporate book has been investment grade and as you know that's been the focus, and I think we've been quite transparent on that. The one areas we've seen deals getting more aggressive have been certainly on the leverage finance side, some deals brought by private equity sponsors are getting probably a little bit more aggressive. Is it as bad as '06? I don't think so. I don't think we got to the same levels of '06, but certainly, it's been -- we've seen some levels of more and more aggressive covenants and people trying to gain market share on that front. But that's why not being a significant player in the U.S. market has been, I think, a plus for us, because we don't have to play in those games. And if -- in those deals if we don't feel comfortable. And our mission in the U.S. market has been to accompany our Canadian clients in deals after the border which we have done, but we don't feel the need to participate in all of them if we feel that the covenant package and the pricing and the risk structure is not appropriate. So that's why we like our -- frankly, from a risk standpoint, we like our strategic positioning very well. Anything else to add...

[William Bonnell, Executive Vice]

The only thing else I'll grad -- I'll add is the growth in the corporate book has been diversified. So it's been broader across the country and across industries. So I think that's something to recognize in the portfolio.

[Louis Vachon, President, CEO & Director]

Got it.

[Sumit Malhotra, Managing Director of Canadian Financial Services]

And frankly, your energy slide does indicate, even in the last few years, I think your level of investment grade in that portfolio is a lot better than it was in 2015, so that speaks to some of it. Last one for me, in and around the operating leverage outlook, Louis we had a couple of conversations of late on the trade-off, if you will, between the investments and the business and the efficiency that the market wants to see, I'm not going to put too fine a point on it. Your operating leverage is on an all-bank level somewhat lower as a target although, I mean, your numbers there have been amongst the best in the industry. Am I correct to say this has more to do with just your comparisons for revenue growth get more challenging than it does that you have a big step up in investment spend coming and so just that's maybe the gist of it. Is there any change in what you communicated to the market in terms of the investments required in the business? Or is the operating leverage at a less robust pace, just revenue numbers on math?

[Louis Vachon, President, CEO & Director]

I think that's -- your second part of your sentence is the right one. I think we're remaining very focused on expense discipline. We've been -- we feel we've been at a level of expenses and investments in our core franchises from a technology and marketing standpoint, which is long-term sustainable for the last few years. So it's not acceleration in that level. It's more -- a more conservative outlook on revenues for 2019.

[Operator]

The next question is from Mario Mendonca from TD Securities.

[Mario Mendonca, MD & Research Analyst]

Bill, could we go to one of your comments early on when you suggested that we are sort of late cycle? Without asking about timing, because I don't know that anyone can offer us anything convincing on when the cycle turns, could you speak to, from your vantage point, where you think the losses will materialize? Do you see this as consumer-led because of an overleveraged Canadian consumer? Or do you see this is more commercial as in commercial real estate or something else?

[William Bonnell, Executive Vice]

Well, thanks for the question, Mario. I would agree with you that I have no ability to predict when, and I would say it's difficult to say exactly where the loss will materialize first, because it depends on the events that happen. What I can say is the -- as I said in my prepared script, it certainly feels like our positioning is defensive with an overweight Québec, underweight unsecured consumer, and it feels defensive with a Canadian focus in commercial and corporate. I don't know if that answers your question, but...

[Mario Mendonca, MD & Research Analyst]

Maybe -- can I just take it one further? You sort of answered the second part of my question, because I was going to ask why National could -- why National might be an outperformer in the next cycle? But let me ask maybe more specifically within commercial, you said, you think it's an advantage to be overweight commercial. Given where the level of losses are in commercial and this year, 2018, just for argument's sake, your commercial loan losses average about 11 basis points, given where we sit today in commercial, why would a commercial overweight be advantageous, given where the losses have been in the past?

[William Bonnell, Executive Vice]

And I think my comment was at overweight Canadian commercial and corporate, so I think the Canadian focus is important in that. But the indications, again, could the commercial -- the corporate book is diversified across the country. The commercial book still is -- has a strong Québec focus. What we're seeing in the Québec economy is quite encouraging and it's -- I'm a credit guy. I don't like to talk positively, see lots of things to worry about, but it is impressive, the indicators in Québec that give lots of signals that the good performance could continue in commercial Québec.

[Mario Mendonca, MD & Research Analyst]

And the 11 basis point. I was just going to say 11 basis points make sense for you then for commercial book in Canada, with the overweight at Québec. That feels like about the right number?

[William Bonnell, Executive Vice]

I don't think we've given indications of PCLs down at each of the segment levels, but overall -- and I think about overall bank, ex Credigy up 15 basis points, that is cyclical lows. Could it continue in the range of cyclical lows? It could continue for a little while longer.

[Operator]

[Operator Instructions] We have a question from Sohrab Movahedi from BMO Capital Markets.

[Sohrab Movahedi, Analyst]

I just wanted to pick up where Mario left off here. If we looked at -- Bill, you've got a chart, I think -- or Ghislain, you guys have a chart in here on Page 22 that gives a regional breakdown of your loans, and I think about 57-or-so percent of your loans are in Québec. If we were going to fast-forward a year, is Québec going to be a higher proportion than it is this year?

[Louis Vachon, President, CEO & Director]

I think we should ask the question to Mr. Achard. I think it's -- go ahead, Stéphane. He's in charge of business development for commercial across the country, so...

[Stéphane Achard]

No, we shouldn't expect that proportion to change substantially. A, the economy is really good here; the public finances are healthy, there's plenty of infrastructure projects, so we will continue to invest here. If you look at our growth in commercial outside of the province, it does project a higher percentages and it has in 2018. But I mean, the math that we have out there is not sufficient to unbalance the portfolio substantially. So you should expect that positioning to be relatively the same way.

[Sohrab Movahedi, Analyst]

Yes, I was, actually, more trying to figure out if it's going to become more skewed towards Québec? And you're saying not necessarily.

[Louis Vachon, President, CEO & Director]

No. It shouldn't.

[Stéphane Achard]

No. Not necessarily.

[Louis Vachon, President, CEO & Director]

It should actually stay the same.

[Sohrab Movahedi, Analyst]

Okay. And, Bill, I mean, when every one of your counterparts talks about their IFRS 9 provisioning and they talk about the macro drivers, I mean, given the Québec focus that you have, I assume you have slightly more fine-tuned the macro drivers than the peer group? Like, is yours more sensitive to the Québec unemployment rate or to you still take stuff at the national level?

[William Bonnell, Executive Vice]

The -- I don't know whether I would be able to answer at that granular level. Certainly, what I could say in terms of the scenario, certainly, what I could say is when looking at the output of the models, the portfolios' concentrations in product and geography certainly do have an impact, and we would expect that to play through if the scenario -- the actual economy turned more pessimistic.

[Sohrab Movahedi, Analyst]

Okay. And then last one. Just, Louis, you I think once upon a time had said that we need to be at least at 10.75% CET1 before we do buybacks. Obviously, you're well clear of that. You've done the buybacks. Ghislain noted that you're up over the last couple of years in CET1, I think, 160 basis points. I think just as importantly, your ROE has been up. Just want to get a reminder as to where you see the ROE going and where you see the capital levels kind of settling in at over the next, call it, 12 to 18 months maybe?

[Louis Vachon, President, CEO & Director]

So in terms of the ROE, I think I'll stick to the guidance of -- that we've provided. I think we've been, I think in the last -- since the last recession, we've pretty much been within that guidance. So -- and we're still operating at a pretty high level. So as long as we don't have any kind of recession, I think we should be operating at 15% plus certainly. In terms of capital, we're doing our best to bring down level of capital but very unsuccessfully as you could see. So we've accelerated the buyback. We've increased the dividend, but I think at the same time, you'll notice, we're being very prudent in terms of balance sheet deployment. You see that on the LCR, we hadn't planned for the LCR to stay that high, but given that the balance sheet is pretty flat and we're not going to deploy liquidity just for the sake of deploying liquidity if we're not meeting our target margins or target RAROCs for business, we're not deploying the capital. So we're giving ourselves some dry powder because we are hopeful that either good economic conditions or volatile market conditions will provide us with the ability to deploy more capital, will that be through Financial Markets, Commercial or Credigy. So that's why we're keeping at a comfortable level of capital, because -- not because we're looking at -- we're not very active right now looking at acquisitions, as you know. So it's more for us to keep some dry powder for organic growth opportunities if -- should they arise. But then we'll see where we -- how the year evolves in 2019.

[Sohrab Movahedi, Analyst]

So is this at all a byproduct of the decisions you've made not to pursue growth basically at dilutive rates, is that fair?

[Louis Vachon, President, CEO & Director]

To some extent, yes. I think that's where -- I think we're in -- certainly, I would say in Q3 and Q4, and I'm looking at Ghislain for visual validation, but I think our risk weights have been growing not as quickly as we thought we would because we saw that there were less opportunity to deploy capital. We certainly saw that in Credigy. I think we've been -- Sohrab, I think we've been very vocal on that. And that's how we saw a little bit of the same phenomenon with Financial Markets. So let's just see what kind of opportunities the market will provide us in 2019.

[Operator]

Thank you. There are no further questions registered at this time. I would like to turn back the meeting over to Mr. Vachon.

[Louis Vachon, President, CEO & Director]

So thank you, everyone, for your time, and we'll talk to you for next quarter. Thank you very much.

[Operator]

Thank you. The conference has now ended. Please disconnect your lines at this time, and we thank you for your participation.