National Bank of Canada (NTIOF) CEO Louis Vachon on Q3 2020 Results – Earnings Call Transcript

National Bank of Canada (OTCPK:NTIOF) Q3 2020 Results Conference Call August 26, 2020 1:00 PM ET

Company Participants

Linda Boulanger – Vice President of Investor Relations

Louis Vachon – President and Chief Executive Officer

William Bonnell – Executive Vice-President, Risk Management

Ghislain Parent – Executive Vice-President and Chief Financial Officer

Stephane Achard – Executive Vice-President, Commercial Banking and Insurance

Lucie Blanchet – Executive Vice-President, Personal Banking and Marketing

Martin Gagnon – Executive Vice-President, Wealth Management

Laurent Ferreira – Executive Vice-President, Co-Head, Financial Markets

Denis Girouard – Executive Vice-President, Co-Head, Financial Markets

Jean Dagenais – Senior Vice-President, Finance

Conference Call Participants

Steve Theriault – Eight Capital

Meny Grauman – Scotia Capital Inc

Gabriel Dechaine – National Bank Financial

Doug Young – Desjardins Capital Markets

Sohrab Movahedi – BMO Capital Markets

Nigel D’Souza – Veritas Investment Research

Paul Holden – CIBC World Markets Inc

Operator

Good afternoon, ladies and gentlemen, and welcome to the National Bank of Canada’s Third Quarter Results Conference Call.

I would now like to turn the meeting over to Ms. Linda Boulanger, Vice President of Investor Relations. Please go ahead Ms. Boulanger.

Linda Boulanger

Thank you, operator. Good afternoon, everyone. And welcome to National Bank’s third quarter 2020 presentation. Presenting to you this afternoon are Louis Vachon, President and CEO; Bill Bonnell, Chief Risk Officer; and Ghislain Parent, Chief Financial Officer.

Following our presentation, we will open the call for questions. Also joining us for the Q&A session are Stephane Achard and Lucie Blanchet, Co-Heads of P&C Banking; Martin Gagnon, Head of Wealth Management; Laurent Ferreira and 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

Yes, Linda, and thank you everyone for joining us. Earlier today, we reported very good results for the third quarter, in the context of what continues to be a challenging environment. Our businesses performed well with pretax, pre-provision earnings up 5% from last year and the Bank delivered a return on equity of 17%. As we continue to navigate this uncertain environment, our results demonstrate the resilience of our business model and the benefits of our diversified earnings stream.

In terms of outlook, economic and market indicators are sending mixed signals. After an extraordinary plunge in the first half of the year, Canadian and Quebec economies have become climbing back with a phase of reopening. In the province of Quebec, given the strong rebound anticipate in the second half of the year, our economists are now forecasting an 8% contraction of the GDP in 2020, followed by a 5.5% recovery in 2021.

In terms of provisioning, we were very proactive last quarter and significantly increased our PCLs, primarily to reflect a deterioration in the macroeconomic cost conditions caused by COVID-19. In the third quarter, we continue to prudently build reserves, although at a much lower pace.

Our total allowances for credit losses increased to more than 1.3 billion, as we recognized that the future path to recovery and the impacts on our clients remain uncertain. At this point in time, with the information available and considering our positioning and the performance of our portfolios, we believe that we are adequately provisioned. Bill will provide further details in his remarks.

At the end of the third quarter, the Bank had strong capital levels, with a CET1 ratio of 11.4, in-line with the previous quarter. In terms of capital deployment, our long-standing strategy remains unchanged. We will invest in our businesses where returns are accretive, otherwise returning capital to our shareholders, if permissible. Consistent with all these expectations, our share buyback program remains on hold.

Turning now to quarterly performance of our business segments. In P&C pretax and pre-provision earnings are down 8% year-over-year as a result of the lower interest rate environment and softer client activity in the context of COVID. Partly offset by solid growth in retail mortgages and deposits.

Since the crisis began, we have been supporting our clients with deferred measures across a breadth of products. Since Q2, the value of retail loans on the deferrals is down 60%. In addition, the vast majority of clients are resuming payments as scheduled as they exits deferral programs. Wealth Management pretax, pre-provision earnings were up 4% year-over-year in the third quarter.

Transaction volumes remain elevated at National Bank independent network and National Bank direct brokerage. Most importantly assets under administration and under management returned to their pre-COVID levels, which should help alleviate some of the pressure on net interest income from the current rate environment.

Once again, we are pleased with the strategic and technology choices we have made in the past, and we remain committed to our client facing strategy, as we navigate these uncertain times. Financial markets delivered solid growth with pretax, pre-provision earnings up 17% on a year-over-year basis. Our performance was driven by double digit revenue growth in both global markets and corporate and investment banking, as well as an industry leading efficiency ratio.

Our results this quarter highlight the agility of our financial markets franchise, which is key to delivering strong and consistent returns. This is particularly important in the context of low interest rate environment, providing the bank with a diversified earning stream. Looking forward our priority remains to support our clients in challenging and uncertain markets while maintaining a prudent risk profile.

Our international segment continues to perform well. Credigy’s results were solid this quarter, reflecting higher revenue and lower PCL as a result of a lower COVID-19 impact versus prior quarter. Investment volumes remain strong in Q3 with average assets of 29% compared to last year.

We are very comfortable with Credigy’s book, which remains diversified and well positioned to withstand the impact of COVID-19. As mentioned that Q2, in the current context, we expect Credigy’s earnings to be flat this year. Looking forward, we are confident in Credigy’s ability to generate disciplined growth in the medium term.

At ABA Bank, we saw momentum picking up starting in mid June. During the third quarter ABA delivered solid results with net income of 35% year-over-year, driven by strong growth in loans and deposits.

Over the last few months, ABA was able to grow at a faster pace than the market, with clients attracted by ABA’s industry leading digital solutions and strong brands, which have become key differentiating factors.

As a result, ABA recently surpassed the one million clients threshold in Cambodia and continues to have strong momentum. Overall, we are very satisfied with our international activities which are positioned to perform well throughout the crisis and beyond.

In the current context, we are pleased with overall strategic positioning, which we view as defensive, namely, our super regional bank model operating primarily in Canada, our overweight position in Quebec, which has strong economic fundamentals, and is showing solid momentum since the reopening of the economy.

Our lower exposure to unsecured debts, our above average exposure and fee based businesses like financial markets and wealth management, which is translating into strong earnings power, providing us with additional flexibility, our unique strategy outside of Canada and the evolution of our culture into a collaborative and adaptable organization. A key competitive advantage especially in the current environment.

In conclusion, I’m satisfied with our third quarter results, and with how we have navigated the crisis to-date. While significant uncertainty remains regarding the duration and the impact of the crisis, there are clear signs that the economy is rebounding.

I would like to take this opportunity to sincerely thank all of our people at National Bank for their continued dedication and unwavering commitment to our clients. With that, I will now turn the call over to Bill.

William Bonnell

Thank you, Louis, and good afternoon, everyone. During the third quarter, we maintained our proactive and prudent approach to provisioning in the context of an uncertain macroeconomic environment.

The progressive reopening of the economy was apparent, capital markets rebounded and were easily accessible by assures commodity prices increased materially and market volatility declined. However, the path to recovery is likely to be long and remains uncertain.

You will see this clearly in our economists updated forecasts presented in the graphs on Slide 31. Our baseline expectations are for unemployment to slowly recover, but to remain well above pre-crisis levels throughout the forecast period and risks are skewed to the downside for both employment and GDP.

In the table on the right, you’ll find our baseline forecast for several macroeconomic indicators presented on a full calendar year basis. You can note that our quarter-over-quarter updates for those economic and market indicators were mixed.

Turning to Slide 7, our total provisions for credit losses in Q3 were $143 million or 35 basis points, 70% lower than last quarter and up almost 70% from last year. Performing PCLs totaled $62 million.

This quarter the main drivers of our performing PCLs were an update to our IFRS-9 scenarios and factors, an increased weight assigned to the pessimistic scenario, credit growth and migration and an increase in the management overlay to take into account elevated uncertainties, as well as what we think was just a temporary improvement in retail credit metrics experienced this quarter. The result was 15 basis points of performing PCLs spread across the retail non retail and the international portfolios.

Impaired PCLs totaled $88 million, only 17% higher than last year. The positive impacts of support programs were evident here particularly in the retail portfolios, which saw a significant decrease in impaired PCLs. Looking ahead we expect impaired losses to trend upwards into next year, and want to remind you that these can be lumpy from quarter-to-quarter in the non-retail portfolios.

On Slide 8, the progression in our allowances for credit losses is presented. Total allowances increased to 1.3 billion in the quarter a 70% increase from the pre-COVID level. Performing allowances increased by $58 million to more than $1 billion, an increase of 76% since Q1. And non-performing allowances increased to 342 million, which represents a strong 43% coverage of gross impaired loans.

Given we remain cautious about the path to recovery, we believe we had appropriately continue proactively building performing allowances. With the information we have today and based on the geographic product and sector mix in our loan books, we are very confident that we have a proven level of allowances.

On Slide 9, we have updated some key ratios retract to demonstrate the adequacy of our provisioning. Performing allowance coverage remain very strong at 2.8 times for the last 12 months impaired PCLs, and total allowances now cover 4.7 times for last 12 month net charge-offs.

Turning to Slide 10, gross impaired loans increased moderately to $794 million or 49 basis points. Net formations declined in corporate lending and Credigy, while commercial lending has net repayments in the quarter.

On Slide 11, we provide updated insights on our exposure to those sectors most directly impacted by COVID-19. Our exposure to consumer discretionary sectors is modest and declined on a quarter-over-quarter basis.

And update on our customers loans under deferral are shown on Slide 12. The number of new retail deferral requests during the third quarter declined by almost 90% versus Q2. The value of retail loans to lender deferral declined by 60% during the quarter as more customers resumed regular payment schedules.

In the remaining 3.6 billion of RESL nearly half are insured in the LTV of the uninsured portion is 60%. Just $35 million of credit card and personal loans combined remained under deferral at the end of July. Non-retail deferral balances were stable as the vast majority of these were for a six month term.

I think these positive metrics demonstrate the effectiveness of the programs put in places to support clients, early signs of our clients increased confidence and prudent consumer behavior. However, we are monitoring payment patterns closely.

For expired RESL deferrals we have seen 98% already restart regular payments. And we have noticed that the performance unexpired deferrals in Quebec appears to be stronger than in other provinces. It is too soon to draw firm conclusions though as we are still in the very early days in the transition. We will have better insights on this at the end of next quarter.

On Slide 13, details of our RESL portfolio has provided. The wait in Quebec was stable 55% assured mortgages accounted for 38% of the portfolio. Uninsured mortgages in HELOCs in the GTA and GVA represented 10% and 2% respectively, with an average LTV of 51%. In the dependencies, you will find further details on our loan portfolios and our market risk.

In closing, while the economic recovery is underway, and we have seen signs of the positive impact to support programs, much uncertainty remains along the path of recovery. Looking forward, while we believe that peak of total PCLs is behind us, we expect impaired PCLs to trend upwards through next year while our performing PCL should be driven primarily by changes in our macro scenarios, portfolio growth and migration.

We remain confident that having maintained our defensive posture in business and geographic mix and having prudently built allowances to help offset future credit losses, we are very well positioned to continue supporting our clients through these challenging times.

On that, I will turn the call over to Ghislain.

Ghislain Parent

Thank you, Bill and good afternoon, everyone. My remarks today will focus on capital beginning on Page 15. We ended the third quarter with a strong CET1 ratio of 11.43% up four basis points from last quarter. The improvement mainly came from strong internal capital generation, which added 45 basis points excluding provisions for credit losses.

This highlights the value of our diversified and consistent earnings stream. Even during these times in which we are prudently building strong credit reserves, our resilient earnings allow us to continue growing our franchise and serving our clients when they need us the most.

As a licensed ideal earlier, we continue to prudently build allowances in the third quarter, representing 11 basis points of CET1, risk weighted assets growth for use our CET1 ratio by 25 basis points.

Turning to Page 16 on risk weighted assets. During the third quarter we stayed the course on business development while remaining prudent. Risk weighted assets growth related to credit risk includes both on and off balance sheet items. While on balance sheet low growth was moderate, as many old same clients were paid precautionary redraws they made in Q2, undrawn commitments and counterparty credit risk grew.

During the quarter, we were productive on both a top down and a bottom up approach to are-retain our wholesale borrower, which generated 8 bps of negative integration. That was partially offset by improving ratings in retail clients, due mainly to low delinquencies and lower utilization.

We were very pleased again this quarter with our – capital generation and seek continued opportunities to invest that capital across all of our businesses. We have demonstrated the resilience and diversification of earnings stream which allows us to generate capital as an industry leading ROE of 17% while productively building strong credit reserves and absorbing risk-weighted asset roles.

Now turning to Page 17. As anticipated, our liquidity coverage ratio remains strong at 161% with sustain growth in deposit across the bank. Our total capital ratio stood at strong 15.1% at the end of the quarter. We are confident with the information known at this time that even on the deteriorating economic conditions, we can maintain capital levels well in excess of regulatory minimum requirements.

For elicited purposes, in our stress test scenarios, one notch downgrade on the old playbook will negatively impact our CET1 ratio by approximately 100 basis points. In conclusion, while much uncertainty remains, the bank has a strong balance sheet, a defensive credit positioning and solid liquidity and capital ratios. All of our businesses are performing well and we remain disciplined on expense management, providing us with a resilient earnings stream.

On that, I will turn the call back to the operator for the Q&A.

Question-and-Answer Session

Operator

Thank you. We will now take questions from the telephone lines. [Operator Instructions] Our first question is from Steve Theriault from Eight Capital. Please go ahead.

Steve Theriault

Thanks so much. A couple for me. Just a quick one Bill for you to start your work your way through most, virtually all of the credit card deferrals you had on. You indicated that 98% of the RESL deferrals have restarted regular payments. Can you talk a bit about how it has gone with cards, in terms of how that has trended in terms of restarting payments are any color you can provide there, given you are a little further ahead than some of maybe others?

William Bonnell

Sure. Thanks for the question, Steve. And I will start and Lucie may have some additions. We didn’t give color on credit cards, because the similar to the RESL it was very positive the performance that we have seen. But given the billing cycle the sample size is small, and we are a little shy we would like another couple of months before we draw some conclusions on it. But I can say it was similar to the RESL and quite positive with the same characteristics of kind of geographical differences between provinces. Lucie, is there something to add?

Lucie Blanchet

I would say that basically on the credit card, we see prudently there is more than half of the clients that were on before have reduced their limit utilization also. And the vast majority of them have made payment during the deferral period.

Steve Theriault

Okay, thanks for that. And then secondly, I want to ask a question on trading revenues. They didn’t show quite as much upside as what we saw from some of the other banks that have reported this quarter. So in particular, equities was a given a bit below recent run-rates. So maybe it would be helpful just to have a little color: A, on sort of the equity trading line. And B, maybe refresh us or give us a bit of context of say why Q2 was a bigger quarter for you guys at National on the capital markets side versus Q3, any sort of color would be helpful there.

Lucie Blanchet

Yes. Steve, this is Luice to answer your question. I will start with equity. So, in Q3, we had a significant drop in volatility levels specifically July, August versus Q2. Our activity also on the equity side is concentrated on ETF trading. ETF trading, there was a significant boost in trading volumes in Q2, that subsided in Q3. You also saw tightening of spreads bid offer spreads, I think in most equity products throughout Q3, and more specifically towards the end.

So, I think, you made the point, I think it is important to look at Q2 transition to Q3 in the context of the crisis. Look, we are really satisfied, I think the overall performance of our equity segment, having navigated through very large movements in volatility, volatility levels throughout Q2 and Q3, spikes in markets, obviously record loaves and you highs now. So I think overall, we are very comfortable there.

We also saw a shift in Q3 in terms of market opportunity from equity finance towards more fixed income. So, you are seeing that in our results, and I think that is a good example of the agility in our trading team. So, our trading revenues, our revenues on the equity finance side have gone down significantly throughout the quarter. But we saw the upside in our fixed income. So, we saw spreads go down, demand go down on the equity side, but we definitely saw a pickup on the fixed income side.

There is also a difference, if you look at our capital markets model versus our peers. We are Canadian. Our platform is Canadian. We are concentrated and we are focused on generating clients. And so, we are not active in the U.S. and I think you have seen a very large upswing in U.S. credit throughout Q3. So, we didn’t participate in that. So, I don’t know if that gives you a bit more color on results.

Steve Theriault

That is great color. Thanks a lot guys.

Operator

Thank you. Our following question is from Meny Grauman from Scotiabank. Please go ahead.

Meny Grauman

Hi, good afternoon. Just following up on the couple of markets side. In appendix 11, the trading VaR trend got more negative. Just wondering what the explanation is for that, and if you can provide some insight into Q4 and whether you are contemplating making changes to get to where you want to be in Q4.

Laurent Ferreira

Sorry Meny, it is Laurent. You think that our VaR levels are higher or-.

Meny Grauman

Higher. Yes.

Laurent Ferreira

Okay. So, we didn’t change our strategy. I think you have heard us in the past, we are typically defensive. We like being long haul in general. And so, we didn’t change that strategy. I think the big change here is data. We went through a stress period and that stress is in our numbers. So, we didn’t reduce or change really our strategy or our risk profile. It is really, having gone through a stress period and that stays with us for a period of time.

Meny Grauman

Okay. And then just, if I look at the appendix 13, and the economic forecasts, one number stands out to me is just the change in the home price index forecast for 2021. And I’m just wondering, what is driving that and then bigger negative, I mean, you are going from basically forecasting flat to negative 8% to Q4-over-Q4 and 2021. And I’m wondering the implications of that forecast for your mortgage business and your just your overall view of credit in the mortgage business in particular?

Stephane Achard

Yes, I will start off and then I will let Lucy talk about the mortgage business. Thanks for the question Meny. but the change really was pushing it wasn’t a significant change in the total from quarter-to-quarter, it was really pushing it out later, what our economists expect will be a decline in house prices.

So, if you look at the Q2, it was more front loaded in 2020. And then some again in 2021, based on the experience that we actually see in the, in the market and updating, for real numbers in the quarter, it certainly has been more positive. The home price index and the third quarter than we estimated it would be last three months ago. So, it is really more of a bit of a push forward of -. And Lucy on the mortgages?

Lucie Blanchet

Yes. So, on the mortgages, what we see right now is really the result of the confinement and I think we will have excluding fact of that in 2021 like said but I think there are still going to remain lots of differences across the country and in different regions and also in different types of dwellings. With probably less of an impact on single dwelling and maybe more of an impact on condos that still have to be seen.

Meny Grauman

Thanks for that.

Operator

Thank you. Our following question is from Gabriel Dechaine from National Bank Financial. Please go ahead.

Gabriel Dechaine

Good afternoon. My first question is for Bill. You comment and it is on the slide there the PCL, the impaired PCL reflect the benefits of the government programs. So, what I understand from that, is that perhaps some loans that would have gone impaired didn’t because there was some government program that prevented that outcome. Is that correct? And is there any way to quantify that because a lot of people wonder, what happens after some of these things and?

William Bonnell

Hi, Gabrielle, thanks for the question. So, I say it is more than just government programs. It is also the deferral programs that the banks have put in place. And you are right, I pointed I think specifically on the retail side.

In Q3, we saw retail impaired losses, about $14 million lower than last quarter. That is because the metrics and retail you had the roll forwards into delinquencies wasn’t happening for those that were under a deferral program at lower utilization.

A lot of the indicators and into the, the models that attribute scores for the retail clients were showing great benefits. And so it ended up that we took lower impaired losses and I think that is pretty consistent across the sector and credit cards and others.

Given that we think that it is temporary, right. We used our IFRS-9 and our forward-looking management overlay to offset that. So you saw build in performing PCL to $17 million, in personal, $18 million, including wealth. So I don’t know whether that answers your question. But was there a second one coming?

Gabriel Dechaine

It does. And I do have a second and it is for you and/or Lucie, I guess both haven’t put on. It is on the deferrals and some of the trends in the numbers. Within your book, but also relative to peers. Within your book, big drop in the number of value of mortgages, deferring payments, but much bigger than what we have seen from the other banks. Is that a geographic thing? How are you managing it? And then versus the non-retail portfolio, a big drop in retail, not so big, as well as flat in non-retail? I just want to know what is going on there. Are these six month deferral programs? Are we going to the rubber meets the road and October kind of thing or something else going on?

Stephane Achard

Yes Gabriel, I will start and then on retail and I will pass to Lucie and we will share insights on the retail. So on the non-retail, you had it exactly right. The vast majority of the deferrals were four to six months. So it is really in Q4 that we will see those rolling out of deferrals. The small number that have come off out of deferral so far, the performance has been positive, but again, I will caution it is early days. Lucie, on the retail?

Lucie Blanchet

Yes. So Gabriel, it is really see the reflect of the approach that we took. So back in March, I’d say a couple of days into the shutdown. We had to make quick decisions on how to proceed with deferrals, knowing also that this was a lead uncertainty looking forward.

So in the unsecured credit, we offered three months. And it is important to know that we have stopped offering default on unsecured credit as of June 30th. And on mortgages and actually what we did is we offered up to six months, but we approached it to work proactively with our customers for a first three month period, and then proceed with another three months at their request based on each individual need for hardship.

So there were a couple of reasons why we did that. First, we wanted to be proactive and work with our customers quicker than in six months to better understand their situation and find proactive solution.

But we also understood that there was a cost for them to defer their payments. And we wanted to limit that impact as much as possible. And obviously, it gave us some insights on the restraints before six months.

Gabriel Dechaine

Okay. Alright that is very thorough answer. Thank you.

Operator

Thank you. Following question is from Doug Young from Desjardins Capital Markets. Please go ahead.

Doug Young

Bill, the impaired PCL share 20 basis points, obviously quite low. And as you have indicated, you do expect that to trend higher as we move through Q4 and into next year. And I guess, is there any way to size this like, I know you have given guidance on PCLs in the past, and I guess I get that we are in more uncertain times. But is there any way to kind of your models can give us a sense of what that impaired PCL could look like as we go through fiscal 2021?

William Bonnell

Thanks for the question Doug. I’m going to give you a two part answer and you may not like it. But the first part is, I’m not comfortable to give you a basis point guidance on it. The main reason is the uncertainty is very, very high.

We are only six months into this global pandemic. I have been through a lot of different downturns and in the past in my career, but never a global pandemic. So I think it is better to be prudent and have a few more months before we think about giving guidance.

But the second part because I’m happy to share with you how I think about what our total PCLs will be looking forward. And the first point is, like in any downturn, the migration to impairment losses doesn’t happen all at once in one or two quarters, it happens over time.

And I think in this specific downturn, the nature of the pandemic and the nature of the programs that were put in place, that it may be longer for that to happen then in some of the other financial downturns I have seen before.

The second is a firm belief that what is going to drive the total aggregate of our realized losses through this cycle are really going to be the decisions we took over the last two or three years on our business mix on not stretching for growth during the late stage of the cycle. So I think in the end, I think I mentioned that before it is going to be what is the aggregate impaired losses that we take.

And finally, the way you think about it too, is in an IFRS-9 world, if we built adequate performing allowances, at some point, looking forward, that those allowances are going to bleed back into to income to offset the impact of the impaired losses. So with that context, and how I think about it, I’m comfortable to say that now I believe we saw the peak in total PCLs in Q2.

I think the Q3 2020 basis points of impaired PCLs is low and it is going to trend up. And I’m really think that the level of our performing allowances 2.8 times coverage of last 12-months impaired and 4.7 times net charge off. And I think that it is prudent to level given our mix and the cautious decisions we took over the last few years.

Doug Young

And just still on the allowance side that you talk about management overlay, ensure there was something Q2, Q3, can you size like what that was? I know you didn’t want to factor in too much of the benefits of retail, because it is too soon, and there is going to be some deterioration, but is there any way to size like, how much that that overlay factored in?

William Bonnell

I think in the past, I think I’m comfortable getting a direction, but I don’t think we have talked about size. So it is, our performance PCLs were a lot lower this quarter than last quarter and I gave you the really the key drivers of it in my text.

And I thought it was important to mention that, given the uncertainties in the like we talked about the temporary impacts on the retail impairs, we thought it prudent to address that through our forward-looking as one overlay. But no, I wouldn’t want to size it for you.

Doug Young

Okay. And then just second question — the CET1 ratio is a bit different than what we saw from others, you did have a negative impact from RWA this quarter. And just trying to get a sense of maybe can unpack what really drove that? And then same idea, so how do you see that some of your peers have kind of talked a bit of how they think the CET1 ratio could unfold over the next two to three quarters? And obviously, with negative migration coming through, like how do you first see that occurring migration flowing through and impacting the CET1 ratio over the next year?

William Bonnell

Maybe I can start on the migration and then and then test it out for the other but in terms of migration, as you know, in the retail book, it is very much input into the model driven as opposed to commercial and corporate, where it is file-by-file assessment.

For our commercial and corporate, we have both the top-down and the bottom up. And typically, we focus on getting the rerating done quickly for the higher risk files. So, oil and gas is the sector that – oil and gas and the retail sector are the sectors that have seen the highest downgrades or migration from our reviews.

For oil and gas, the spring review was pretty well done by the end of the quarter. For some of the other sectors in commercial it takes a little longer. So we were more productive on the top-down approach of reducing or decreasing the risk rating on those files, which had not yet been reviewed individually. And we did that for retail and for commercial real estate, the retail segment.

And then on the commercial, the file-by-file approach. Again, we focused on risk-based approach and also on the larger files. And so far for commercial reviews, we are 45% done in value. And that will continue on over the next couple of quarters. So that it is for migration.

And one last comment on migration is there are many sectors which we didn’t see much negative migration. Saw some sectors or food and pharmacy and gold mining portfolios and such. We saw very little migration in many other sectors and those touched directly by COVID. Ghislain.

Ghislain Parent

Well, as Bill mentioned, we expect some negative integration in the next quarters, but it is going to come gradually the quarters. And it will be manageable, manageable within our CET1 ratio.

Laurent Ferreira

And to add to that truly. So generally, in terms of position because of CET1 what you should expect over the next few quarters, you should expect that ratio to creep up over time. Given I think we have been generating good organic capital generation. And at the same time though, I think the where risk weighted asset team, this quarter the increase came from a capital markets and off-balance sheet items.

And generally, I think we are comfortable given where we are in terms of performance that we can slowly creep up in terms of CET1. And still use additional risk weighted assets to grow the business and, frankly generate revenue growth for 2021 and 2022. So I think that is what you should expect going forward.

Doug Young

Good. Thank you very much.

Operator

Thank you. The following question is from Sohrab Movahedi from BMO Capital Markets. Please go ahead.

Sohrab Movahedi

Thank you. Hey, Louis, I just thought maybe I can go to you. When you finished your remarks you said you was satisfied with the quarter’s results. What would have made you ecstatic?

Louis Vachon

Do you have a part time job as a psychologist? I will give you the more substantive answer. I think it is obviously, what we called it a very good quarter. It is tough to be ecstatic in an environment where you have a pandemic that affects an important segment of the population in a very negative way.

Sohrab Movahedi

So, six months into a global pandemic, your EPS back to pre-pandemic levels, your ROE back to pre-pandemic levels. And so, away from the wording that we used to prescribe and things being get better.

Louis Vachon

Sorry. I missed the last part of your, the last part of your question.

Sohrab Movahedi

I apologize. I just wanted to find that, how can things get better from here regardless of the words we used to characterize the quarter.

Louis Vachon

Points of improvement that we are looking at, obviously is a sanitary conditions, which is still impacting a segment of our population and a segment of our economy, particularly the discretionary economy in urban centers is still suffering quite a bit from the side effects of the pandemic.

So, I think over time how is that evolving and how is the pandemic from a sanitary and economic standpoint improving. So, there is room for improvement, just on that basis. And, I’m not a medical expert, I don’t know what the timing is in terms of finding a cure or a vaccine for this.

But there is still on that Sohrab, I think they will continue to be, would reverse a negative headwind on the credit front at the very least, and hopefully one day on the interest rate front. So, that is one clear path for me of improvement.

The other one is, I think the last thing we want to do in the context of a pandemic that we have never seen in a context of a globalized and digitized economy, I think you want to remain humble and on your toes and down environment. So, the last thing we want to signal is, you bristle arrogance in this kind of environment.

That being said, I think if you know our organization quite well, National Bank is a combination of regional and sectorial niches. So, either, as I said, the highly specialized or highly knowledgeable and on a regional basis.

And we feel that, that high level of specialty should help us going forward in growing, even in quite complex environment and very uncertain environment that I think that positioning has served us well and in the past and it should continue to serve as well in different possible environments. Does that answer your questions?

Sohrab Movahedi

Yes. That is very helpful. Maybe just to kind of tie back into one direction, the direction given everything you said about the uniqueness and the nature of the business and the composition of the activities and your future ROE is heading higher, staying flat or heading lower from here?

Louis Vachon

I think we will do the right thing over the long-term. I think we are satisfied with the strategic choices we have made, I think in our risk positioning. But, our objective overtime is to have a balanced core for our stakeholders, will be shareholders, our clients, our employees. So we are not managing the Bank on one number.

We are managing the Bank on a number of KPIs and ways of measuring ourselves, which include, the three main stakeholders that I just mentioned – they do end up producing is are we all the better, but it is not – I can assure you we are not managing the bank on one number.

Sohrab Movahedi

I appreciate that. Thank you.

Operator

Thank you. The following question is from Nigel D’Souza from Veritas Investment Research. Please go ahead.

Nigel D’Souza

Thank you. Good afternoon. I have two quick clarification questions for you. The first is on the non-retail loans in deferral. You mentioned that within your presentation that less than 10% is non-investment grade unsecured. And I was wondering as to give us a sense of what the total exposure to or mix of non-investment grade credit is, and maybe some more color on the spectrum mix of those non-retail loans in default.

William Bonnell

Hi. Nigel, I will start off and Stephane or so something to add to so he will jump in. What I can tell you about the non-retail in terms of sectors, the two sectors in our portfolio that have got the highest percentage that are in deferral. Its retail trade is, is the first and that shouldn’t be a surprise.

When we dig a little deeper into retail, which is a pretty broad sector. The auto dealerships or auto dealership clients are the highest there. And while we wouldn’t have thought it, at the beginning of the pandemic, what we have seen recently is the businesses actually rebounded very, very strongly for her clients in that sector to where they think their July sales were just about back at or maybe even a little more than year-over-year numbers.

So, the other sector that the second sector was manufacturing. And we have seen with the reopening of the economy, some positive news, positive signals there. And conversations with clients are positive, but I will caution you on all of these numbers. We are still early. And I don’t want to draw too many conclusions. But what we have seen so far has been has been good. Stephane do you have anything to add?

Stephane Achard

No, as to the percentage of investment grade versus non-investment grade as you know, the reality is that, Nigel that the commercial market is largely non investment grade. So, I don’t have a number offhand. But the vast majority of any commercial markets business is typically non-investment grade.

William Bonnell

Yes, typically not as high levels, our corporate book, it is no more than sum of three quarters the investment grade. And the commercial book is more than 90% secured. 90%, 92% security. So, it is kind of two buckets. And of course the deferrals are primarily in the corporate and commercial sector.

Nigel D’Souza

That is really helpful commentary. And I just have a quick follow-up. Second question here, just on risk weighted assets for retail, for my understanding is that typically these assumptions that feed into risk weighted assets are through the cycle estimates, and not so much point in time estimates. So, could you provide us some colors and insight into how sensitive your inputs off for retail RWAs to the delinquency terms in real time, or what we see on delinquencies once in the past or deferral period?

William Bonnell

So, Nigel I will start. But I think that may be a question that we can go into, we could spend a lot of time on and we could do something offline, but clearly, you are right, the models for retail, for RWA, they are different than the IFRS-9 models and they are more through the cycle. However, the drivers of them in terms of the equivalent of borrow risk rating are impacted by things like utilization on delinquencies and such. So there is some sensitivity there. And maybe we can follow-up offline.

Nigel D’Souza

Okay, that is really helpful. Thank you.

Operator

Thank you. Our following question is from Paul Holden from CIBC. Please go ahead.

Paul Holden

Thank you. Wanted to get a better sense of your plans to manage the loan deferrals or specifically residential mortgage deferrals as they roll off and as a quick question kind of in the context of your own economic assumptions, which suggest home prices are going to be trending down next year. So really trying to get a sense of like, how aggressive we are going to be trying to get ahead of that curve and manage through these loans sooner than later.

Stephane Achard

Yes. Paul, we were having problems hearing you. I think, I captured it. But if, Lucie, I don’t answer, let me go, just repeat the question, because your voice was soft. But on the, a couple of points I will make on the deferrals for residential mortgages. As I think the slide shows the LTV is 60%.

So the credit scores are quite high for those that are in deferral as well. So we think that as we transition out, there is even for those that may be having ongoing, temporary difficulties with income loss or disruption or others, there will be good possibilities and working with the clients to find a solution that fits.

As we dig down into the portfolio as well, and we look at how many of the population is what we consider vulnerable or higher risk. And those would be, those with a lower credit score to mid 600 and worse and high LTVs or 75% and higher.

The numbers is pretty small, it is less than $50 million. So the approach of how to work with the clients that stigma transition will differ depending on the situation. But the vast, vast, vast majority in that population, we think we will be able to work with. And Lucie, do you want to talk about strategy?

Lucie Blanchet

Yes. And overall when we look at the default, the longest default that our list. In terms of relationship with the bank, the average duration is 15-years of those customers. So obviously, we will definitely work with them on a case-by-case basis. And making sure that we offer them the different options that we have in our playbook in those cases.

Paul Holden

And hopefully my voice is more clear now. So I do have a second question, because a lot of what we focus on across the banks are sort of some more defensive actions taking place and some of the risks, but I think it is interesting to kind of turn a little bit to growth, potential growth opportunities here, how you are thinking about that, like, Are there pockets of opportunities you are seeing that are arising as a result of the dislocations, whether that is better opportunities to grow in loans or maybe allocate capital, different fee income related businesses sort of curious on your thoughts there?

Louis Vachon

Hi Paul. It is Louis. Welcome to the bank beat, by the way. I think I gave part of the answer when I was talking to Sohrab, but clearly that starts with the more obvious part in terms of growth. I think our international division remains very well positioned.

Cambodia, ABA has very good momentum, we should carry us into 2021, 2022 and credit Credigy we are quite happy with how they are performing. And so we think we can generate double-digit growth with that division too. So international I think we are well positioned.

We continue to like the real estate market in Quebec, particularly residential market. Louis and her team are working very hard on that particular segment with very good success. I think our strategy in terms of specialized commercial, both in Quebec and outside of Quebec, which Stephane is doing giving – I think there is room to grow.

I think generally we will have some tailwinds as we move out of this pandemic, both in retail and commercial levels of activity should go up in Canada in a recovery. So that should help us and help the industry generally.

And lastly, I think we are very, very satisfied with the way we are positioned both in wealth management and in capital markets. We are quite differentiated from our peers. And I think we like our strategic positioning. You should probably not expect acquisitions. In the short-term from us, I think we are very, very, very focused on organic growth versus acquisition.

Paul Holden

Got it. Thank you for your time.

Louis Vachon

Yes.

Operator

Thank you. [Operator Instructions] The following question is from Gabriel Dechaine from National Bank Financial.

Gabriel Dechaine

Okay, I didn’t think I would get a follow-up, but alright. Just wanted to circle back with on the bar and market risk RWA issue and it sounds to me like that might be something that could reverse, volatility levels are back down. And if they are continue on that trajectory. Could we see some of the that RWA inflation come back in Q4 and Q1 next year, all else equal? And then on Credigy, I just wondering if your outlook for growth there has changed, I’m sure it is still a good one but, what the fed and buying everything out there and liquidity ample to say the least, and maybe the distressed opportunities we are just trying to aren’t as big as maybe they looked like a few months ago?

Louis Vachon

I will start with a Credigy perhaps, then Laurent will answer on RWA. You are right that the very aggressive quantitative easing as helped market recover, and has helped the securitization market which, in some ways is a direct competitor to Credigy. That being said, I think there is still sufficient dislocation and disruption in the credit markets in the U.S. that will still allow us to generate growth.

That is what we hear from the team. And so I think we will see – I think there is still a lot of episodes to be written on how the Fed will manage the pandemic in the U.S. and how the U.S. economy will recover. So that is on that and on the RWA Laurent.

Laurent Ferreira

Sure, I think, Gabriel you could see a trend down. But we didn’t change anything to our strategy. We haven’t reduced our activities with clients, servicing our clients. And so from that standpoint, we don’t think that there is going to be any reduction from the way we have been operating. So the issue is we have been through a very volatile period. And so that is going to stay with us for a bit of time. But it will trend down at some point Gabriel.

Gabriel Dechaine

Okay. Thank you.

Operator

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

Louis Vachon

Thank you, everyone. And we will talk to you next quarter. Thank you. Have a good day.

Operator

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

Credit: SeekingAlpha

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