Bank of Nova Scotia (BNS) 2015 Q1 法說會逐字稿

Good morning, and welcome to Scotiabank's 2015 first-quarter results presentation. My name is Jack Lawrence, Senior Vice President of Investor Relations for the Bank. Presenting to you this morning is Brian Porter, Scotiabank's President and Chief Executive Officer; Sean McGuckin, our Chief Financial Officer; and Stephen Hart, the Bank's Chief Risk Officer.

Following our comments we'll be then glad to take your questions. Also in the room with us to take questions are Scotiabank's business line Group Heads, Anatol von Hahn from Canadian Banking, Dieter Jentsch from International Banking, and Mike Durland from Global Banking and Markets. We are also joined by James O'Sullivan, Executive Vice President, Global Wealth Management.

As a reminder this is the first quarter reflecting the Bank's realignment to three business lines. Before we start I'd like to refer everyone to slide 2 of our presentation, which contains the Bank's caution regarding forward-looking statements.

I'll now turn the call over to Brian Porter.

Thank you, Jake. Good morning, everyone. I'll start on slide 4.

I am happy to report to our shareholders that we had solid results to start the year. Our results were driven by some positive business performances across Scotiabank, particularly in Canadian banking and wealth management.

We are also encouraged by the underlying trends in our key Latin American markets. Our geographic footprint and business mix allows us to generate sustainable earnings growth notwithstanding somewhat challenging conditions in various industries. We earned CAD1.7 billion of net income and delivered diluted earnings per share of CAD1.35, up 2% from the same period last year.

Our Q1 results reflect a combination of good asset growth, improved margins, and growth in non-interest revenue. We continue to manage expenses prudently while making the appropriate investments to improve our customers' experience and create greater efficiencies.

As evidenced, we delivered positive operating leverage of 1% in the quarter. The Bank's capital levels remain strong with a Common Equity Tier 1 ratio of 10.3%.

This strong capital position, and ongoing earnings growth, has allowed us to increase our quarterly dividend to shareholders by CAD0.02 to CAD0.68 per share. We are pleased with our Q1 results and remain confident that we have the right strategies in place to achieve our medium-term financial objectives.

In a few moments I'll make some additional comments about the performance and outlook for our businesses. For now, I'll pass the call to Sean.

Thanks, Brian. I will begin on slide 6, which shows our key financial performance metrics for the current quarter and comparative periods. As Brian mentioned, diluted earnings per share were CAD1.35 up 2% year over year. Revenue growth continues to be good at 4% year over year with higher net interest income from both asset growth and improved net interest margins.

Non-interest income was also higher driven by wealth management revenues, net gains on investment securities and insurance income. These gains were partly offset by a lower contribution from associated corporations as a result of our CI sale last year and also from hedging activity, primarily foreign currency hedges.

Expense growth remains contained, up 3% year over year. This increase was driven by technology costs and software amortization to support business growth. As well, volume related expenses increased primarily from wealth management businesses and loyalty program costs.

Our productivity ratio in Q1 improved by 50 basis points from last year to 53.7%. The Bank delivered positive operating leverage of 1% in the first quarter.

Moving to capital on slide 7, the Bank continues to have a strong capital position. Our Common Equity Tier 1 ratio of 10.3% puts us well above regulatory minimums and positions us well for ongoing business expansion, both organically and through acquisition.

The majority of the 50 basis point decline in our quarter-over-quarter Common Equity Tier 1 capital ratio was driven by the revaluation impact of liabilities relating to employee benefits arising from a significant drop in long-term interest rates during Q1. This reduced CET1 by approximately 30 basis points.

We manage our pension liabilities for the long term and expect to recover this revalued liability shortfall as rates move off the extreme low levels experienced in Q1. For the month of February we have seen approximately 40% of this impact reverse itself.

During Q1 we repurchased 7 million shares, which contributed about a 15 basis point decline in the ratio. In addition to buying back shares to offset dilution, the Bank also purchased shares at what we thought were opportunistic levels. As Brian mentioned, the Bank increased its quarterly dividend by 3% to CAD0.68 per share.

CET1 risk-weighted assets were up CAD23 billion, or 7% from last quarter, to CAD335 billion. The increase was due mostly to the impact of the weaker Canadian dollar on foreign currency denominated assets as well as growth in personal and business lending and growth in counterparty credit risk. Our Basel III leverage ratio is 4.1%.

Turning now to the business line results beginning on slide 8. Canadian banking, which now includes the Canadian portion of wealth management and insurance businesses, had a good quarter with adjusted net income of CAD815 million up 6% year over year. Adjusted revenues were also up 6%. These results are adjusted for the CI contribution in last year's comparatives and higher taxes on certain insurance activities as a result of a tax legislation change.

Loan volumes increased 4% year over year with double-digit growth in personal loans and credit cards as well as commercial lending balances. This growth was partly offset by the Tangerine mortgage runoff. Adjusting for the mortgage runoff, loan growth was good at 6%.

Deposits were up 3% year over year. Retail checking account balances were up 8%, and savings deposits were up 4%. We saw strong deposit growth towards the end of Q1, and we have seen this momentum continue into the start of Q2.

Net interest margin rose 4 basis points year over year. Our asset spread was up 6 basis points, partly offset by deposit spread compression.

Our performance in wealth was strong. AUM and AUA levels were up 15% and 11% respectively versus the same period last year, driven by strong net sales and favorable market conditions.

Provisions for credit losses were up CAD30 million year over year to CAD165 million. The increase was primarily due to growth in higher spread, retail products partly offset by lower commercial loan provisions.

Expenses increased 4% year over year on the back of ongoing investment in growth initiatives and higher volume related expenses. Overall, Canadian banking delivered adjusted positive operating leverage of 1.7% to start the year.

Turning to the next slide on international banking, the business line now includes the international portion of our wealth management and insurance businesses. Net income was down 2% year over year.

The quarter delivered strong loan growth compared to last year, particularly in Latin America. This was offset by higher PCLs, in part due to our lower Banco Colpatria credit mark benefit this year and a lower contribution from Venezuela.

Foreign currency translation benefit was only CAD5 million, due to the mark-to-market losses on currency hedges of future quarters' earnings. We would expect a greater foreign currency translation benefit in Q2 and increases in Q3 and Q4 if currency rates stay at these levels.

Q1 saw strong volume growth year over year with loans up 10%. This was supported by strong underlying trends in Latin America, which included retail and commercial loan growth of 13% and 11% respectively. Low-cost deposit growth in international was up 8% on the year.

The margin was up 3 basis points quarter over quarter and within our range of 4.65% to 4.75%. This range reflects the realignment of the Bank's businesses announced last year.

While the tax rate was unchanged year over year, both periods benefited from tax recoveries. Expenses were up 3% year over year driven by volume related expenses and inflation, and the business delivered positive operating leverage of 1.4% year over year.

Looking at slide 10, global banking markets now includes our Asia corporate and commercial banking businesses. Net income was up 4% from last year to CAD404 million. This quarter included strong results in equities and FX businesses, while performance was softer in investment banking.

Total revenues were up 1% compared to last year with higher loan origination fees and volumes in the US and Canada driving net interest income up 3% year over year, while non-interest income was largely in line with Q1 last year. Total corporate loan volumes were up 3%. Adjusting for Asia, which is repositioning into higher-yielding assets, and the impact of FX translation, our underlying corporate loan growth was up 8%.

Provisions for credit losses increased to CAD13 million this quarter compared to CAD4 million in same quarter last year. This was primarily driven by one new provision in Canada. Credit quality remains high. Expenses were down 5% over last year due to lower business taxes and performance-based compensation.

I'll now turn to the other segment on slide 11, which is incorporates the results of group treasury, smaller operating units and certain corporate adjustments. The results include the net impact of asset and liability management activities.

The other segment reported an underlying net income of CAD43 million this quarter, up from CAD13 million in the same quarter last year. The year-over-year change was due mainly to higher net gains on investment securities, while higher expenses mostly offset by lower taxes.

This concludes my review of our financial results. I'll now turn it over to Stephen who will discuss risk.

Thanks, Sean. Good morning. The underlying credit fundamentals of the Bank's portfolios remain strong with internal ratings upgrades exceeding those of the downgrades this quarter. Quarter over quarter, the overall loan-loss ratio was down 11 basis points to 42 basis points on a reported basis and was well within our expectations. Adjusting for the Q4 2014 provision for credit losses for accelerated loan write-offs for bankrupt retail accounts from last quarter, the ratio was down 5 basis points.

Gross impaired loans were up 9% quarter over quarter, or up 4% excluding the impact of foreign currency translation. The increase was driven primarily by higher balances in our retail exposures and one account in global banking and markets. This was a Canadian E&P account that had had operational issues and had been on our watch list long before the commodity prices started to fall.

Net new formations of impaired loans declined to CAD771 million in Q1 from CAD816 million last quarter, but were up from the CAD408 million reported in prior years. Our average one-day all-bank VaR was CAD11.2 million, down from the CAD23.8 million in the prior quarter with two trading loss days in the quarter.

The decline in VaR was the result of model enhancements to the treatment of credit spreads in VaR. The enhanced models improve the treatment of credit spreads in both VaR and cash VaR.

Slide 14 shows the trend in loss rates over the past five quarters in each of our businesses. The underlying loss rates in Canadian banking were up 4 basis points year over year, driven by higher retail provisions, while commercial improved. This was more than offset by a 6 basis point improvement in the asset spreads, which reflect our strategic increases into the higher risk-adjusted margin products of cards and autos.

The Canadian banking portfolio of credit quality continues to be strong. Meanwhile, international banking saw loss rates up 22 basis points year over year with increases in both retail and commercial books due to the lower Colpatria credit mark benefit. However, excluding that credit mark, the underlying PCL ratio was stable with a loss ratio of roughly 1.4%, in line with similar levels from a year ago.

While loss rates were stable, international banking provisions for credit losses on a dollar basis increased CAD68 million year over year with approximately half of that increase driven by the reduced Colpatria mark benefit. Compared to last quarter, which had had the notable items, international commercial's ratio has reverted to more normalized levels. The higher loss rate in global banking and markets was, as noted earlier, primarily driven by one new provision in Canada and continued to remain very low.

Turning to slide 15, I wanted to comment on our oil and gas exposure, which remains an area of particular market interest. Our corporate loan portfolio has drawn exposures this quarter of CAD15.4 billion up 20% versus the prior quarter. The increase was largely in our upstream and midstream exposures.

However, approximately half of the increase in our total drawn exposures was driven by foreign exchange with loans dominated in US dollars both in Canada and in the States. The remainder was related to a number of new deals, which supported our higher grade clients in the industry.

Our drawn exposures include roughly 55% in the upstream business and roughly 15% equally between each of the Bank's midstream, downstream and service exposures. Our undrawn corporate oil and gas commitments stand at approximately CAD12.7 billion.

As you know, we run stress tests often and update our market pricing assumptions regularly. At present, the effective oil price assumptions used in our borrowing base calculations remain well below the current market values.

As stated previously, we believe that our oil and gas exposure is manageable. And just to be clear, by manageable I mean that any stress losses would leave the Bank within our risk tolerances for both capital and loan loss provisions and would not affect our ongoing strategies.

With that I'll now turn the call back to Brian.

Thanks, Stephen. Before we open the call for questions, I'd like to comment briefly on each business line's performance this quarter and make some brief remarks on our outlook.

Canadian banking had a good quarter overall. Margins were higher and we had strong growth in personal loans, credit cards and commercial loan volumes. In addition, wealth management delivered strong earnings.

For the balance of the year we expect strong growth in higher-margin credit card and auto loans. With the resulting shift in asset mix, we expect higher loss rates of a few basis points. Having said that, higher asset yields more than compensate for the increase.

Expense management remains a key priority for the business. We will continue to reinvest in our platform to improve customer experience and efficiency, and we are committed to delivering positive operating leverage for the year.

Looking at international banking, in Q1 we had a good start the year, demonstrated by strong loan growth, particularly in Latin America, as well as stabilizing margin. Higher provisions for credit losses reflected a reduced benefit from the Banco Colpatria credit mark as well as strong asset growth. However, loss rates on the core portfolio are generally in line with volume growth.

Expense management again remains a key priority for the international business. Expenses remain well controlled and below local market inflation.

For the second half of this year, we would like to highlight three factors that will drive improved performance and earnings growth. Firstly, we expect to deliver low double-digit asset growth in our key Latin American markets, resulting in profitable market share gains in almost all products. Secondly, our margin is stabilizing as we earn through the impact of Central Bank rate cuts that we saw last year.

Finally, we also expect expenses and loss rates to remain stable. Further, we expect foreign currency translation to be a tailwind as the year progresses.

In our global banking and markets division, we had mixed performances in Q1 across the business. Strong performances in our equities, FX and trading businesses were offset by lower investment banking results. In Q1, credit quality remained high and the business continues to be focused on expense management.

For the balance of 2015, we believe our platform continues to be well positioned for stable earnings growth. Our corporate loan portfolio should continue to provide good volume and earnings growth partially offset by the repositioning of our balance sheet in Asia. Investment banking results are expected to improve with more favorable market conditions.

Our trading businesses are well diversified and have low earnings volatility. We expect global banking and markets to benefit from foreign currency translation assuming FX rates stay at or around current levels.

I'll now turn the call back to Sean for Q&A. Following the Q&A, I'll provide some final remarks. Thank you.

Thanks, Brian. That concludes our prepared remarks. We'll now be pleased to take your questions.

Again, please limit yourself to one question and then rejoin the queue to allow everyone the opportunity to participate. Operator, can we have the first question on the phone please?

Absolutely. Thank you. Robert Sedran, CIBC.

Over the longer term we've been accustomed to this bank having a low payout ratio and minimal activity on the buyback. If I look at, had the new dividend been in place for this quarter, it would have been a 50% payout ratio and you bought back 7 million shares in the period. Has there been a philosophical change in the way you manage those items or is this just a tactical near-term shift while you wait for growth to resume in the international markets?

This is Sean. I'll handle that. As we heard from Brian, we expect stronger performance in the second half of the year, so although we are at higher end of the payout ratio now, we would expect to continue to grow into that payout ratio. In terms of the share buybacks, we've always said, we invest our capital for the long term in our businesses. We saw an opportunistic level, this quarter, when our share price dropped to low CAD60s, and we deployed a small amount of capital towards that. There's really nothing changed in our philosophy around capital deployment.

And so, Sean, are you suggesting, then, that the 45% longer term, something toward the middle point of the range is more likely, or are you comfortable operating at the high end of the range on the payout ratio?

Yes, we were at 47%, 48% last year, and between 45% and 50% is where I think you'll see us be.

Peter Routledge, National Bank Financial.

On page 15, the oil and gas exposures, wonder if you could give us -- you may not have it, but I'll ask it. If you could give us a breakdown of investment grade versus below investment grade across those categories, or if you can't do that, just what's the breakdown of the undrawn?

Sorry, what's the -- it's Stephen. Your last question was?

The investment grade versus below investment grade?

Investment grade across the spectrum is about 66%. Probably in the upstream area, it's closer more to a 50/50 ratio. The midstream tends to be higher investment grade, as does the downstream. The undrawn sector was 12.7% fully, and that's spread across all four of the sectors. It's in that same range, sort of thing.

65%, okay. Thanks. Then just on international retail provisions, international retail provisions were pretty good, but then I looked at formations and they seem to be rising even after you correct for currency, so is there something -- can you give us some background as to what's going on in international retail?

Peter, it's Dieter Jentsch. International retail continues to grow at low double digits in our major LatAm sites. We continue to forecast that being the rate. Most of the increases that we see are volume related, predominantly out of our LatAm markets.

It looks like you're formations thought are up as a percent of loans, for the last few quarters. Is credit getting worse and in what countries, if so?

No, credit is not getting worse, Peter. We'll happy to take that off-line and get back to you with the calculation. Our credit is stable. Our delinquencies are stable, and we are not seeing credit deterioration of any significance, at all, in our major sites or in the Caribbean. We'll be happy to get you back with the calculation.

The retail numbers did go up vis-a-vis the Columbia Colpatria mark that's no longer being applied, but when you net that out there was really no movement.

Is that for formations though, the Colpatria adjustment? Would that really apply?

No, sorry. As I said we'll get back to you on the finer details. Okay?

Thanks.

Sohrab Movahedi, BMO Capital Markets.

Just a quick question for Anatol. Anatol, when you look at the quarter, you look at the results, is this indicative of the earnings power of the segment that you're running, or where do you think you should be able to get this number to? Because it looks to me like wealth in Canada, or wealth in insurance in Canada anyway, was a bit light.

Sohrab, let me divide this in to two. Let me talk to you about the Canadian bank and then maybe James can talk with respect to wealth in Canada. With respect to -- back when we had our investor day, we talked about the five initiatives that we were focusing on in the Canadian bank. I'd say we're very much living that strategy and seeing the results of that strategy in each of those five areas. The words of your question about what do we expect to see in the future? I think you're going to continue to see the type of growth that you've seen, very much focused in the retail, commercial, Tangerine, the credit card growth, and also our operating efficiencies. I think you're going to continue to see this type of growth from us.

On the wealth side of the equation, let me start with global wealth. Global wealth results, as you can see, were very strong up 17% year over year. We saw that strength geographically across Canada and internationally. So in Canada, our earnings were up 13% year over year. Globally on the AUM/AUA side, assets up 13%. Very strong in Canada, AUM in Canada was up 15% year over year. We've seen strength, very good strength in earnings and in business performance generally in Canadian wealth and, frankly, across all of global wealth.

James, it looks to me like the expense to revenue ratio in Canadian wealth was worse. Maybe I'm looking at it wrong. You don't really disclose it that way anymore, but were you comfortable with the expense to revenue ratio? Did you get the right operating leverage out of wealth?

This was one of our best quarters ever for operating leverage in global wealth.

What about Canadian wealth?

In Canadian wealth, I don't have that number. Let me give you -- revenue was up 7%. Expenses were up 5% year over year, so it was north of 200 basis points in Canadian wealth, north of 300 basis points in global wealth. This quarter, we've got a story of good revenue growth and, frankly, very good expense control.

And I think that's absolutely true across the Canadian bank. When you look at the operating leverage at 1.7%, it's a reflection of both wealth and the rest of the Canadian bank.

Okay. Thank you.

Mario Mendonca, TD Securities.

Could you help us benchmark your stress tests in oil and gas against what we've heard from some of the other banks? First, if you could describe what your stress tests entailed in terms of unemployment in Canada and the decline in housing prices, a recession in Alberta, anything you can help us to benchmark you against your peers?

We had a range of tests that we did, unemployment ranged from increases of 1% to 5%. We had house prices dropping between 10% to 40%. We had oil prices at 50% for this year, 45% for next year, and 55% for the following year. We ran a multiple number of stress tests, so I can't really relate to an individual one. All of them, obviously, the more you push, the bigger the number. On a reasonable going back over the last three or four recessions that we've had, all of them came up that we were, as I said, well within our risk tolerance.

In all of these scenarios, including the really extreme ones, you're within your risk tolerance. Now, just to help understand that, the other banks provided some measure of credit losses to help us understand what the risk tolerance means, so what would that level be for you in terms of credit losses?

I did see that a couple of the other banks provided some ranges. Obviously, we're running in the 40% range right now. We can easily run higher than that and still well within -- be within our capital levels.

Your credit loss risk tolerance, would that be 70 basis points, 60 basis points? The upper end of it?

We don't provide that information.

Okay. One other question, then. You referred to FX being a tailwind in international. This is probably for Dieter or maybe for Sean. A tailwind in international in the second half. Now, first, I think the reason for this, of course, is that you hedge, but you don't hedge the entire year. Is that the right way to characterize it, Sean?

That's correct, yes. We put on some hedges for the first quarter and part of the second quarter. For one currency we hedged the whole year, but we've left open the second half of the year and then part of the second quarter. As we then put on hedges to cover off those periods, we will be putting them on at the higher levels we see today. So, we'll see a marginal improvement in Q2 from what you saw in Q1, but then even more so in Q3 and Q4.

What I'm trying to get at here now is -- like there are so many moving parts, so many currencies and it's hard to tell how important this tailwind is. Is there anything you could refer to that would help us understand how important this is?

Ballpark, an extra CAD10 million to CAD20 million per quarter, if it stays at these levels, for IB.

Right, in Q3 and Q4?

Yes.

And that's net earnings?

Yes. I think it's net earnings. Yes.

Okay. Thank you.

Meny Grauman, Cormark Securities.

There was an article about a week ago talking about Scotia being among lenders boosting loan volumes to condominium developers as regulators become less vocal about housing market risk. That was the words of the article. I'm wondering whether you would agree with that assessment? Has there been a change in your perspective of the risk, particularly in the condo market?

I'll ask Stephen to answer that one.

Sure. No, our lending guidelines have not changed, and I think we are comfortable with our exposure. We've held to our current levels for about the last three or four quarters. We have a good relationship with a number of the top developers, both here in Toronto and in Vancouver. We do support them in well structured deals, but we have not opened up the books to the extent that we're loosening our credit standards.

Thank you.

Gabriel Dechaine, Canaccord Genuity.

First, on the capital situation, I get the reason for the pension hit and the subsequent recovery you're seeing so far this quarter. I'm just wondering, Brian, if at current capital levels, you're still open to acquisitions and other forms of capital deployment because it's still an issue to offset some of the dilution that are dealing with on the CI sale last year?

Sure, Gabriel. We're still open to acquisitions, as we're looking forward to the Cencosud transaction closing next month, we believe. The Citibank Peru transaction will be later this spring or this summer. As you've heard me say a number of times, the Bank has a history of being opportunistic. We're always looking at acquisitions, and we have capital to deploy.

Okay. Just to follow up on the question on the stress tests and peak loan losses, you don't want to quantify it. But Stephen, just looking at the Canadian P&C segment where, I guess it was Q2 2009, you had your peak financial crisis loan losses of around 40 basis points. Because of the change in mix, especially in credit cards and auto lending, would you expect, in a very stressed scenario, for that number to be exceeded by a material amount, 40 basis points, or not a big difference?

I wouldn't say a material amount, Gabriel, but yes, obviously the mix has changed from seven years ago, so you would expect a higher elevated level.

Okay. My last question for Anatol, just to sneak that one in. Your comments or answer to a previous question on the growth that you're seeing in Canada and expect more of the same, I see Canadian earnings growth of 1.5%, 2% this quarter, just the P&C business. I would have thought you would want more than that?

Mario, this is Sean.

Gabriel.

Gabriel, my apologies.

We look the same, I guess.

We mentioned earlier about the additional taxes that we are now having on certain of the insurance businesses. That's a reality; we've got to pay that. If you reverse that for an underlying performance, the Canadian banking was up 5% without the wealth.

Okay.

So pretty good results. Anatol, did you want to give any follow on that?

In terms of as we look at the different businesses, we undertook to grow between 4% at 8%. We will continue to do that. That's what we're seeing into the future, so this quarter was right in that range.

Okay. Thanks for that clarification.

John Aiken, Barclays Capital.

Stephen, can you let us know what the undrawn corporate oil and gas commitments were as of Q4?

Sure, CAD10.8 billion, and now they are at CAD12.7 billion, with most of that being foreign exchange.

Okay. Great. The uptick really is both FX as well as new loans?

Yes. We've actually been very active. This is good news/bad news at this part of the cycle. Our good clients are looking for opportunistic positions and are creating war chests, so this is quite an interesting time period. And we have seen some very good opportunities to assist our clients set those up.

Great. Thanks, Stephen. Dieter, if I may? In terms of the contribution that we saw into Mexico was an increase this quarter. Are we starting to see the reforms take hold and a little bit more optimism in terms of what the outlook is going to be for economic growth in the region?

We see some very positive things happening in Mexico. The energy reform is only one of those packages, but the other factors of the labor reform, the financial services reform, they are starting to take hold. The biggest benefactor here, though, has been the increased economic activity in the US and the trade flows, and so that's resulted in continued economic activity by both the businesses and of course employment numbers.

Great. Thank you.

Darko Mihelic, RBC Capital Markets.

A question for Stephen. If I'm looking at your supplemental pack on page 18, and I see the new classifications in the quarter in global banking and markets, that CAD88 million, is that all entirely due to that one account?

Probably about 80% of it is due to that account.

Okay. Maybe just to clarify a few things, because one of the things I'm really interested in is the decision to classify it as impaired this quarter rather than last quarter, is it a less senior position? Or what --?

No, it's senior debt. It's just -- now, I can't get into the specifics on the account, obviously, but it was through negotiation. Obviously, aspects of trying to restructure in the declining commodity market made it a little bit tougher, so we decided to be conservative and take it now.

And how long was it on the watch list, just curious?

I'd say probably two, three quarters.

And has your watch list actually changed quarter over quarter?

No, actually as indicated, other than for a foreign exchange effect, the watch list and number of accounts has remained stable across all three divisions.

Then just lastly, Stephen, with respect to the growth that we are seeing in balances in foreign currency, some would tell me that foreign-based oil and gas companies are more levered. What would your response be to that?

I think it varies on a country-by-country basis, but that's a general statement. All I can tell you is that how we structure our loan deals, whether it be in the US, Canada, or elsewhere, is that they're all structured on a very conservative basis. There's lots of equity going into these deals. Certainly in the US, which maybe has a little bit higher leverage, there is the advantage down there of a very strong high-yield market, so there's a lot of unsecured debt that underlies what is the senior bank portion.

Okay. Thank you. If I can just sneak one last question in for Anatol von Hahn? If I look at the changing mix in the Canadian banking business and I make an adjustment for CI earnings, I still get year-over-year lower return on assets. So you might be getting some incremental NIM and some better revenue, but I think the PCL is outpacing that improvement, or am I not looking at that correctly?

I don't think so. In terms of looking at the PCLs, our asset margins are going up, in the retail bank, are going up 6 basis points and the PCL ratio is going up by 4 basis points. So, we are actually net-net gaining. If you look at the commercial bank, in the commercial bank, we've had very record type low PCLs.

Okay. Thanks. Maybe I'll come back with a clarification after the call. Thanks very much.

Stefan Nedialkov, Citigroup.

First question on the efficiency ratio in the Canadian business, during the investor day you had guided to high 40%s in the medium term. Just want to make sure that you are still keeping that guidance? The second question on Mexico, some of the peers in Mexico have become somewhat weaker over the past 6 to 12 months and some of them may be up for sale. What are your thoughts on potential availabilities for M&A? And what is your criteria for that?

Let me take the first question with respect to the productivity ratio. We have continued to reduce the productivity ratio. We are now around 54.4%. We also, and I think as we discussed at the investor day, our mid-office, in the branches, has been very successful and continues to be. We will see the final portions of it towards the latter part of this year, so I think we will continue to see efficiencies. Plus, we have a number of other initiatives that are underway towards continuing to bring our productivity ratio down. So yes, in the medium term we are heading towards the high 40%s.

Stefan, it's Brian Porter. With regards to Mexico, Mexico is a market that we are very interested in. As I said on the Q4 call, we believe there's another round of bank consolidation in Mexico. We would definitely like to be a player, across the board. Whether it's a commercial bank or retail bank, we'd have an interest. As usual, we'll go about it in our usual thoughtful, disciplined way.

Okay. Thank you, guys.

Sumit Malhotra, Scotiabank.

First question is for Sean on the pension impact on the CET1 ratio. Sean from your disclosure it sounds like about 30 basis points sequentially as a result of the revaluation. And if I got your comment right, it sounds like 10 to 15 basis points has come back as a result of market movements in February. So first off, at least from my seat, this seems like relatively large changes as a result of one month of market movements, albeit exaggerated movements in the market. Can you talk about, first off, your comfort level on the fact that the CET1 can swing as sizeably as it has over these last few months? Secondly, is there something specific to Scotia that is causing these movements to be what seems to be larger than some of your peers?

If you take a step back, we manage our pension obligations for the long term, and we saw some variability this quarter in the discount rate, which increased the pension obligation. We would expect -- this is not so much a capital usage, but a capital variability. We would expect this to come back off these low rates.

We would have a bit more variability than our peers. I think our pension assets are skewed a bit more to equities, but we believe in the longer term that having a bit more equities than debt reduces the economic cost of our pension liability. The 30 basis points we saw this quarter would be towards the outer edge of our capital variability risk appetite on pensions. Again, we would expect this, not so much a long-term capital uses, but a capital variability. We do keep excess capital for some of these elements that show up in OCI that we don't necessarily have exact control over how the market may react in a short-term manner.

The fact that your pension obligations are skewed more towards equities, does that suggest that it's more equity market movements that can have an impact on how the capital impact swings as opposed to long-term interest rates, or is it still the rate factor that's most dominant?

It is both factors. The rate factor, we have less debt. That's less opportunity to immunize the rate change, so a rate change on its own can give us a bit more variability. So it's not just the asset side, it's mostly the discount rate.

All right. Lastly is for Dieter in the international net interest margin. I know in Anatol's segment the mix change and adding more credit card exposures is certainly having a beneficial impact on NIM as well as the ING runoff. In your business we have seen another rate cut in Peru, yet margins were able to move higher. Would you attribute mix change in the portfolio as being a factor that can help keep NIM more stable here despite the rate environment, or is your business mix more status quo?

You're absolutely right, Sumit. This quarter our range of NIM stayed where it is, largely because of asset mix changes. As Brian mentioned in his opening comments, that our move going forward, and we have about CAD30 million in this quarter of earnings that are impacted through NIM, which was still a result of those central bank rate reductions we had over the prior quarters in Mexico and Chile and whatnot. We see, going forward, that impact, working ourselves through that with the tail end of that. As we gave out in the last call at year end, we saw working through that in the second half of this year, and worked through the impact we had in Q1.

Steve Theriault, Bank of America Merrill Lynch.

I'd like to come back to Anatol, if I could, on credit cards. Anatol, at your investor day last year you talked about improving penetration, thought you could get to 40% to 50% in the medium term. I think you had gone from 20% to 25% over a couple years. It would be great to get an update on if you're still enjoying the kind of success you've been expecting? Have you continued to see momentum there? Has that metric risen to over 25% in the last year or so?

We're very proud of what we've done. In fact, I think what we undertook to do at the time when we were together at the investor day in terms of doubling our portfolio, we are on track and in a number of categories I'd say even ahead of track. We've had asset growth year over year over 20%. The NIATs also had very good growth. As you probably saw we were named as best suite of reward cards. That was just announced about two weeks ago.

The results have been very strong. The penetration has gone up. When we talked, we were close to around 24% of our existing portfolio was penetrated with our own credit cards. We're now much closer to the 30% mark. We are going at a very fast pace, in the right direction. I think one of the big things that we discussed when we were together was the fact that we have much greater comfort in offering credit cards to our own customers, and that has proven to be the right strategy.

It sounds like still lots of runway. So, did you say the card growth year on year was over 20%?

Yes.

Okay. Just to --.

Sorry, to be clear, it's 20% in terms of asset growth.

Just to be clear, a couple comments on the margin. Are you comfortable to say that the improved mix on the asset side is enough to overwhelm the deposit margin compression you'd expect over the rest of the year, so flat to up NIM like we saw this quarter or not necessarily?

We're expecting margin to stay flat. I think one of the things that we have seen, however, on the deposit side is that the margins there have been squeezed, particularly in the term and the GIC market. That's a difficult call to make as we look forward, because much of it will depend on market forces and competitive forces, but we are expecting our margin to stay stable.

Okay. Thanks. That's it for me.

Gabriel Duchaine, Canaccord Genuity.

Just to follow up on the cards questions there. We've got the interchange coming down, and I know Scotia has a few fairly attractive cards from a customer standpoint on the cash-back front. To offset interchange are you planning on adjusting the value proposition to customers, or is it more on the cost side, or some other levers? Then I've got a follow up.

Okay. Gabriel, let me start with, here, your first question. As you know, we look at the credit cards as part of our payment strategy. That, in turn, is part of how we anchor the relationship with our retail customers. Very specifically with respect to your point on the interchange, as you know, we are the smallest bank in terms of credit cards in the Canadian market, so the effect on us is much less than it is and might be on anybody else. Having said that, we've been able to grow this business such that we don't have to make any changes to our rewards program or other elements. It's a very profitable business and will continue to be so, but it's part of an overall strategy towards anchoring the relationship with our customers as part of the payment side.

Okay. Thanks for that. Just a quick follow up for Sean or Dieter, can you just give me a sense for the profit contribution of the combined Citibank Peru acquisition and the Cencosud?

The profit contribution on an annualized basis would be about CAD25 million per annum.

So, both -- two of those?

Yes, combined.

Thank you.

Sohrab Movahedi, BMO Capital Markets.

Dieter, maybe last question for you on international then. You took some actions, you've been taking some actions to right size the cost base over there. There's been some restructuring charges. I know we've talked about the second half of the year being more the, where we see much more of that benefit than the first half of the year. Are we seeing some of that benefit come through even in the first quarter?

You're seeing the benefit in the first quarter on our expense line. Our expenses were down Q over Q, as you can see. Our operating leverage, on a year-over-year basis, is positive. You've seen impact of some of our expenses and aligning what I would say our expenses to our revenue opportunity, so we have an ongoing program. We're halfway through, in our branch consolidation that we announced in Q4, we're halfway through that. As well as we're making good headway on our other consolidation of major platforms and businesses. So I would say the answer is clearly yes and more to come.

The second half impact largely stems from us being able to work through the tail end of the margin, continue to record low double-digit asset growth in LatAm and having that fall to the bottom line with stable PCLs and delinquencies. You put together the flat expense numbers with flat, stable PCLs, with good asset growth, and the margin the core margin holding its own, we continue to be very confident of earnings momentum in the second half of this year.

Very good. Thank you very much.

I'll turn it to Brian for some brief closing remarks.

Thanks, Sean. Just to summarize, we're encouraged on how we delivered our Q1 operating results with good performances from several of our core businesses, most notably good asset growth and margin expansion in the Canadian bank, strong AUA and AUM growth in wealth management, and double-digit asset growth in international banking with the strongest growth coming from our key Latin American markets.

I'd just reiterate, the Pacific alliance countries are expected to grow on average above 3% this year. So we are confident that we are on track to deliver improving financial and operating results to our shareholders over the balance of the year. I'd like to thank everyone for participating on our call today.

Ladies and gentlemen, that does conclude our conference call for today. We thank you for your participation. You may now disconnect your lines, and have a great day.