Toronto-Dominion Bank (TD) 2015 Q3 法說會逐字稿

Good afternoon, ladies and gentlemen. Welcome to TD Bank Group's third-quarter 2015 investor presentation.

Please be advised that this call is being recorded.

I would now like to turn the meeting over to Mr. Rudy Sankovic, Head of Investor Relations. Please go ahead.

Thank you, Operator, and good afternoon, everyone.

We'll begin today's presentation with remarks from Bharat Masrani, the Bank's CEO, after which Colleen Johnston, the Bank's CFO, will present our third-quarter operating results. Mark Chauvin, Chief Risk Officer, will then offer comments on credit quality, after which we will entertain questions from pre-qualified analysts and investors on the phone. The call will last one hour and end at 4 PM.

Also present today to answer your questions are Tim Hockey; Group Head, Canadian Banking and Wealth Management; Mike Pedersen, Group Head, US Banking; Bob Dorrance, Group Head, Wholesale Banking; and Riaz Ahmed, Group Head, Insurance, Credit Cards and Enterprise Strategy. Riaz is also responsible for the capital and Treasury activities at the Bank.

Please turn to slide 2. At this time, I'd like to caution our listeners that this presentation contains forward-looking statements. There are risks that actual results could differ materially from what is discussed and that certain material factors or assumptions were applied in making these forward-looking statements. Any forward-looking statements contained in this presentation represent the views of Management and are presented for the purpose of assisting the Bank's shareholders and analysts in understanding the Bank's financial position, objectives and priorities, and anticipated financial performance. Forward-looking statements may not be appropriate for other purposes.

I'd also like to remind listeners that the Bank uses non-GAAP financial measures to arrive at adjusted results to assess each of its businesses and to measure overall Bank performance. The Bank believes that adjusted results provide readers with a better understanding of how Management views the Bank's performance.

Bharat will be referring to adjusted results in his remarks. Additional information on items of note, the Bank's reported results and factors and assumptions related to forward-looking information are all available in our Q3 2015 report to shareholders.

With that, let me turn the presentation over to Bharat.

Thank you for joining us today. As Rudy mentioned, Colleen will be up shortly to discuss our results in detail, but let me start by sharing my thoughts.

This was a strong quarter for TD. All our businesses performed well. The Bank generated EPS of CAD1.20, an increase of 4% versus an already elevated quarter in 2014. These results were driven by solid revenue growth, good credit performance, positive operating leverage, and favorable foreign exchange.

Our Canadian retail segment delivered very good adjusted earnings growth of 8%. We continued to take market share across a number of key categories and posted a strong quarter for new originations in our real estate secured lending business. Wealth management achieved double digit earnings growth, driven by strong fee-based revenues and asset growth. These results reflect the benefits of ongoing investments in this business, including the addition of new advisors. Insurance also had a very strong quarter, as favorable claims performance contributed to good earnings growth.

Before I leave Canadian retail, I'm thrilled to highlight a significant accomplishment this quarter. As you know, we pride ourselves in providing legendary service across Canada and the US. For the tenth year in a row, J.D. Power has recognized TD as the leader in customer satisfaction among Canadian banks. For as long as this award has existed, TD has won it and I want to recognize the tremendous efforts of our branch, phone, digital and ATM teams, including various groups that support these businesses. I also want to thank our customers for their tremendous loyalty and for awarding us the industry leader in this important category.

Turning back to the quarter, US retail results were up slightly from Q3 of last year and have increased 5% year to date. The business has good momentum. Loan growth is strong. We are acquiring customers significantly faster than our competitors, and we are making progress on deepening relationships.

Our focus on growing the US wealth business is also going well, as assets under management have doubled since we acquired Epic in 2013. Margins have declined this quarter, but we are increasing our net interest income and making good strides on improving our efficiency ratio.

Wholesale banking delivered a strong quarter, with earnings of CAD239 million. These results reflect higher trading revenues and investment banking fees and growth in the corporate lending portfolio. We made good progress building out our US franchise, adding high-quality corporate, institutional, and government clients and leveraging the deep relationships we have with customers at TD Bank, America's most convenient Bank.

This focus has seen strong growth in our US-dollar franchise in the last three to four years. Our TD Securities loan book south of the border has been growing at 15% annually is since 2013, mainly in high-quality investment grade loans. Our government business ranks third globally in terms of raising US-dollar funding for its clients and we continue to add franchise-building producers across all of our business lines.

On the capital front, our common equity Tier 1 ratio of 10.1% remains strong and both our liquidity and leverage ratios are comfortably above our targets. As we look ahead to Q4, we expect that credit losses will remain relatively stable with Q3 and FX will be a positive driver, given the stronger US dollar. On the other hand, we expect to see higher expenses and normalization of insurance earnings. Overall, 2015 is shaping up to be a good year for TD, ahead of our expectations.

Now let me talk a little about the current operating environment and what it means for us. In recent months, we've seen further weakening in economic conditions in emerging markets and downward pressure on commodity prices, including oil. The Canadian economy likely contracted in the first half of the year and the Bank of Canada reduced interest rates twice.

We are living in uncertain times, with increased volatility and financial market turmoil having broader and longer implications. TD is not immune to these macroeconomic forces, but with our lower risk profile and a resilient business model, I'm confident we are well positioned to weather the storm. We get paid to take the right risks and manage those risks and that's exactly what we are doing.

Our exposure to oil is relatively small. Underwriting standards remain strong and to date, the oil and gas portfolio is performing within expectations and we don't expect material losses. We continue to see originations of high quality personal and commercial loans across our network, including Western Canada. We're standing by our customers and clients as they adapt to a new reality.

While the US economy also faces uncertainty, the economic outlook is more promising. The US has begun to show signs of recovery and we will benefit from any future rate increases. The housing market, it keeps improving. Consumer spending is on the rise, in part due to falling energy prices and labor markets are performing well. With this positive outlook, I like the way we are positioned in the US with a young, high-quality franchise that's growing and taking share.

I'm proud of our performance. TD continues to grow our volumes at a healthy rate and our focus on service and convenience is driving market share increases across our key markets. Our business model has proven to be resilient and we are weathering these conditions well; however, we understand that we can't rely on revenue growth alone in this environment and we continue to look for ways to make TD the better bank. Last quarter, we announced a restructuring charge that reflected the first phase of a Bank-wide focus that will help us make -- help make us more effective and reduce our rate of expense growth. We are well into the second and final phase and expect to complete most of the work by the end of the year.

As I look forward, our focus on permanently improving our processes will play an important role in enhancing our agility and positioning us for success, but the TD story remains one of growth. I'm equally focused on investing in opportunities that will position us for continued out performance in our core businesses.

Our leadership team remains resolved to increase efficiency and effectiveness. I'm confident that when we are done, TD will be an easier place to work and a better Bank for our customers to do business with. I'm excited about our prospects and I'm proud of how we are becoming fitter and faster the TD way.

To wrap up it, was a strong quarter for TD. I'm pleased with what we have achieved and I have full confidence that we are taking the right steps to preserve our track record of delivering good results and to invest and adapt for our customers, employees, and shareholders.

With that, I'll turn it over to Colleen.

Well thanks, Bharat, and good afternoon, everyone.

Please turn to slide 4. This quarter we delivered adjusted EPS of CAD1.20, up 4% year over year. The quarter reflected strong growth from retail and wholesale versus last year, up 10% and 11%, respectively. The corporate segment posted a loss of CAD161 million. We continued to benefit from the favorable currency impact of a stronger US dollar.

Adjusted total revenue increased 10% year over year net of claims, or 5.3% excluding FX, lead by strong loan deposit and wealth asset growth in addition to higher insurance, fee-based and trading revenue. Growth this quarter was partially offset by margin compression. Adjusted expense growth was 9% year over year, or 3.6% excluding FX.

Expense growth was driven by increased investment in technology modernization and new capabilities and regulatory infrastructure, partly offset by productivity gains. We were pleased to post strong operating leverage reflecting good revenue growth, positive claims experience, and prudent expense management. We remain focused on delivering sustained productivity improvement. Overall, a strong result for the Bank this quarter.

Please turn to slide 5. This slide presents our reported and adjusted earnings this quarter, with the difference due to three items of note, which you have seen before. The litigation item reflects the recovery related to certain litigation matters recognized as an item of note in prior quarters.

Please turn to slide 6. Canadian retail delivered a strong quarter, with adjusted net income of CAD1.6 billion, up 8% year over year. The increase was driven by continued good loan and deposit growth, very strong insurance earnings, and wealth asset growth, partly offset by higher expenses.

Loan and deposit growth was good this quarter. Total loan growth was 5% year over year, with real estate secured lending volume up 4%, business lending growth up 9% and auto lending up 17%. Deposits increased by 6% due to strong growth in core checking and savings accounts, which were up 9%. Business deposits grew 7%.

Margin declined one basis point sequentially, primarily due to the impact of a credit mark release in the acquired credit card portfolio last quarter and the low rate environment, partially offset by seasonal factors. For Q4, we expect margins to remain under pressure due to mix, seasonal factors, and competitive pricing.

PCLs increased 4% year over year. Personal PCLs decreased CAD11 million, due mainly to lower credit card, personal lending and auto provisions. Business banking PCLs increased CAD20 million year over year. Adjusted expenses were up 4% year over year, primarily due to higher employee related costs, including higher revenue based variable compensation in the wealth business and business growth, partially offset by productivity savings. Canadian retail produced positive operating leverage when insurance claims are netted from revenue. Overall, a strong result from Canadian retail.

Please turn to slide 7. US retail, excluding TD Ameritrade, posted adjusted earnings of $450 million, up slightly from Q3 of 2014. Results for the quarter reflected strong volume growth and disciplined expense management, largely off set by margin compression and normalizing credit losses. Revenue increased 1% year over year, as industry-leading volume growth and broad-based fee growth were partial by offset by lower loan margins.

Loan and deposit growth remained very strong in the third quarter. Total loan growth was a strong 11% year over year, with a 4% increase in personal loans and a 17% increase in business loans. Average deposits increased by 6%.

Margin declined 12 basis points quarter over quarter. Roughly half of the decline was attributable to our US partner card programs and hedging-related items, which were offset in other income. The balance of roughly six basis points was due to lower loan margins in commercial and auto loans and the impact of the low rate environment on deposit margins. We expect margins to remain under pressure due to continued competitive pricing and the low rate environment.

PCL increased 36% year over year, mainly due to higher provisions for commercial loans as a result of an allowance build, partially offset by a decrease in personal banking PCL. Expenses declined 1% year over year due to ongoing productivity savings, partially offset by higher expenses to support growth and higher regulatory costs.

Our adjusted efficiency ratio has improved by 110 basis points year over year. Earnings from our ownership stake in TD Ameritrade in US dollars increased 7% year over year, due primarily to increased asset growth and transaction revenue, partially offset by higher operating expenses. Overall, good fundamentals from the US Bank, which has driven 5% earnings growth in US dollars on a year-to-date basis.

Please turn to slide 8. Net income for wholesale was CAD239 million, up 11% year over year, a very strong result. Revenue increased 13% year over year, due mainly to higher fixed income and equity trading, M&A fees and corporate lending, partially offset by lower equity underwriting fees compared to a strong Q3 of 14. Non-interest expenses were up 10%, driven primarily by higher initiative spend, the impact of foreign exchange translation and higher variable compensation. ROE this quarter was 17%.

Please turn to slide 9. The corporate segment posted an adjusted loss of CAD161 million in the quarter, compared to a loss of CAD53 million in the same period last year. The higher loss was the result of lower favorable tax items in the current quarter and ongoing investment in enterprise and regulatory projects and initiatives.

Please turn to slide 10. Our Basel III common equity Tier 1 ratio was 10.1% in the third quarter, versus 9.9% in Q2. The increase reflects solid organic capital generation, partly offset by increased RWA, mainly due to volume growth. Both our leverage and liquidity ratios are consistent with last quarter.

Overall, we continue to remain well positioned for the evolving regulatory and capital environment. With that, I'll turn it over to Mark.

Thank you, Colleen. Good afternoon, everyone.

Please turn to slide 11. While we've seen an increase in the provision for credit losses of CAD47 million, or 12% quarter over quarter, and CAD114 million, or 35% year over year, the increase is attributed to the normalization of loss rates in the US portfolio through a combination of increases in commercial and retail allowances to support volume growth, seasonal trends in consumer credit volumes and lower recovery levels as work-out activity continues to reduce. The Bank's loss rate was flat at 33 basis points for the quarter, with gross impaired loans stable at 57 basis points, up one basis point over the previous quarter and two basis points year over year.

The oil and gas portfolio continues to perform within expectations and we have yet to see a meaningful deterioration in consumer credit quality in the impacted regions. Oil and gas outstanding exposure remains stable, representing less than 1% of total loans and acceptances. While we continue to maintain a cautious approach across retail and non-retail exposures impacted by low oil prices, I do not currently believe that low oil prices will result in a material increase in credit losses.

In summary, credit quality remains strong across the Bank as we head into the fourth quarter. With that, Operator, we were ready to begin the question-and-answer session.

(Operator Instructions)

The first question is from John Aiken from Barclays Capital.

Good afternoon. Bharat, in his opening comments, talked about TD being a growth bank and I immediately then flipped to the indirect auto growth that you've had on both sides of the border. I found that very interesting based on commentary that one of your competitors had that they were actually tapping the brake in terms of that loan growth. Tim, can you let us know what your philosophy is in terms of this portfolio and importantly, what you're seeing in terms of some of the longer-term lending practices that are going on in the marketplace?

Sure, John. We are actually quite comfortable with this portfolio. We've had great growth through the years. The dynamic, of course, is that the auto sales continue to be strong. Just so you know, we made some investments in that particular business and we introduced a new system this past spring and so we're seeing some of the results of that.

The overall trends, if you're worried about it at this point of the cycle, we continue to see the, call it, average credit score in that business essentially being flat through the years. We're actually a little bit below industry average when it comes to loan to value on the prime book. We're basically on market in the non-prime book, but we're still very comfortable with this particular business. We think that it's an important growth area for us.

John, it's Mike. Maybe I'll comment from a US perspective. This is obviously a category where we continue to see good growth and our new dealer strategy is paying off. We're focused mostly on super prime and prime, a little bit of near prime and we've reduced our expense base and both our credit and profitability metrics are improving. As was the case with Tim's comments on Canada, all of the key risk metrics, the stuff we're writing is better than our portfolio, so we're improving our risk posture in this business as things stand and comfortable with it.

That's great. From a competitive standpoint, though, are you guys being forced to chase the terms that are being pushed out?

No. Nor is that the case in the US. In fact, as I alluded to, including on term the originating terms are lower than the portfolio terms and they're well within normal risk parameters. We aren't chasing the stretchy stuff.

Great, thanks guys.

Thank you. The next question is from Meny Grauman from Cormark.

Hi, good afternoon. First question, I wanted to follow-up on commentary you made. You talked about you haven't seen any meaningful deterioration in consumer credit quality in affected regions, in the oil-producing regions and I'm wondering why you think that is. Are there some reasons that you think that this is -- that, that's causing this?

It's Mark. I'll answer that. I think it's that we still feel that it's probably early and it's probably still to come. You can certainly see in those markets that unemployment is going up. We're just not seeing it translated to our delinquencies yet, but I still think in the next quarter or two that we will see it come in to the levels that we kind of expected when we kind of went down this road.

To put it maybe into context, we feel that at a $35 oil price, it gradually recovers into the $40s and then into maybe $50 over a four-year period, that you might look for an increase on the direct and indirect, which would cover the consumer area of about 5% to10% per year. We think that, that's probably likely to come. We just haven't seen it yet, but we're watching it closely.

Thanks for that. Then just wanted to switch gears and I think this one is for Tim. I just wanted to ask about the Canadian mortgage market and there are definitely headlines over the past few months about fraud and I'm wondering, from your perspective, how big a problem do you think fraud is in Canada and do you think there's more fraud going on now in the system than, say, five years ago?

It's Mark again. I'll take that from maybe a risk perspective. We follow, in our underwriting standards, verification of income and the down payment is very important and central to the process, so we will do that through several means and we'll do it until we're satisfied that we have it right. It can be tax returns. It could be if they're a customer of the Bank, it would be through automatic deposits to their accounts or it would be verification from employers that we would even reach out and call to them, call an employer if necessary.

But in addition to that, we do have fraud analytics that looks to assess the reasonableness of a declared income to make sure that it makes sense and my comfort that it's working effectively is that we do have a quality assurance program that follows up behind that and we even do that for mortgages that we buy from other institutions, like from other the second tier areas. When we buy them, we do go in and look at it and it's effective in detecting those fraud situations and picking them up. I'm quite comfortable that we're effectively managing it and we have the proper risk mitigation in place. I don't think necessarily that its gone up over time, though, to tell you the truth.

Meny, if I can just add if you look back, to your point, 5 years ago, the heightened level of scrutiny on this market, both by all of us as lenders, as well as the regulators, as well as tightened -- the Ministry of Finance basically in terms of the tightening, my sense is that if anything, it would have gone down a little bit and there's certainly a higher degree of scrutiny on that type of activity.

Thanks for that.

Thank you. The next question is from Steve Theriault from Bank of America Merrill Lynch.

Thanks very much. If I could start with a couple quick questions for Mark. Mark, so I'm referring to slides 20, 21 and 22 in the deck and maybe it's obvious but I'll ask anyway. When I look at TD versus Canadian peers versus US peers, you have those three tables there. On gross impaireds, TD screens quite favorably, on credit provisions quite favorably as well. But I look at the formations, and maybe topical given all of the questions around credit these days, I notice TD's formation in terms of basis points is higher than Canadian peers, which maybe isn't too surprising, but higher than US peers as well. I'm wondering -- hopefully my question has been long winded enough to give you a chance to take a look at those and if you could provide some insight as to why that is it, that would be helpful.

Yes, the increase in gross impaired loan formations really is focused in the US primarily, relatively constant in Canada, period over period. In US, what we're working through is, in the HELOC portfolio, we have two legacy effectively interest-only products. One is an evergreen, so the individual in the HELOC portfolio can stay on interest-only products for an extended period of time when the product was originally sold, and then we refer to a 5-5-10 product, which means it's got a five-year interest-only period, followed by another five-year then amortization over ten. These are legacy products that over the years, with the tightening of the underwriting standards, these are products that we don't offer any longer and so as we go through the portfolio, we're renewing these customers and so if it's an interest-only or we're looking to qualify them under the current standards, and the standards are higher and they're more rigid, appropriately so.

So if a customer does not qualify, then we're required to designate them impaired. It is a regulatory requirement, their called TDRs, and they go into the impaired although they are still making their payments. If you look at the formations for the quarter, 90% of those were customers that were making payments. It's just that they couldn't qualify under the current standards. If you look at the overall impaireds for HELOC, it's about 60% that are currently making their payments themselves.

We've been experience -- we are about a year or so into this process. We feel that we've reserved appropriately for those based upon our experience going forward. As the US economy continues to strengthen, we think that these will get better and probably the risk of loss is not, we don't really see it as the high expected loss portfolio, but it will have an impact on our impaired formations and gross impaired loans for a period of time. I'd say for the next three or four years.

Okay, that makes sense. It's probably a much bigger part of your mix than it would be for some of the US comps on the table.

Yes, true. I guess I don't study the others as well.

And then a quick one for Colleen. Colleen, in Q2, when you announced the restructuring charge, you hinted at a Q4 charge but the work was still being done and may still very well be ongoing, but wondering if you can give us a sense for whether, in terms of order of magnitude, it will be in a similar range or not when we roll around to Q4 in December.

Hi Steve, so the work is still ongoing and I don't have a solid number at this point in the process, but I think we're probably looking at an order of magnitude that's is somewhat similar to the Q2 charge, although I would expect at the moment that it will be smaller than what you saw in Q2, but more to come in the fourth quarter.

Okay, that's helpful. Thanks so much.

Thank you. The next question is from Robert Sedran from CIBC.

Hi. Good afternoon. I just wanted to come back, Colleen, to your comments around the US margin to make sure I understood them. I guess half of it was related to loan and deposit spreads. Was any of that mix, or is all that just competition?

I'll start out and then maybe hand it over to Mike to embellish a little bit. If you look at about half the margin decline, and we have in the past we've called out the US card partner programs and that can have an effect on the margin and in particular there was some accretion last quarter, which didn't recur. And then also we had -- and I'm sorry to cite accounting movements, but I must do so. We did have a shift between NII and other income related to our fair value hedges, so that -- and you can see that sequentially that our other income in the in-source currency increased quite a bit. I'd say I'd call about half of the margin decline was related to those two items and then I'll turn it over to Mike to talk about the relative growth rates in our various portfolios and how that's affected the margin.

Yes, so I think the answer to the question is that it was partly mix, so the margin did decline a bit more than we expected this quarter, but mostly because we grew faster than we expected and that was especially in larger commercial loans and in super-prime auto lending. In this environment, with origination margins lower than portfolio margins, if you're outgrowing the market in lending, you're subject to more margin pressure but it's still good NII business. So because we had larger-than-expected growth in larger commercial loans and in super prime, we saw a little bit of this. You could call that mix, but I would just say that these represent good NII business with good credit quality but lower margins, but you'd want us to do this business and you can see it in our NII. We grew our lending and our revenues increased by CAD60 million quarter over quarter, so our focus was on growing our revenues and profits more than just managing to the NIM target and in the last couple of years we've grown our net interest income faster than our -- both our big bank and regional bank competitors.

If I can tie that back to Colleen's comments about the pressure to be ongoing, presumably far less than what was shown this quarter.

Yes, I think we're hesitant to put precision around this, but on balance, I would expect that it's most likely that we'll see some continued downward pressure and that's especially if we continue to see good loan growth or better than market loan growth. I would just add that rate increases would obviously mitigate this.

Thank you.

Thank you. The next question is from Mario Mendonca from TD Securities.

Good afternoon. Mark, first could you just explain what you meant by the 5% to10% increase? When you were describing the expected increase in credit losses, did you mean 5% to10%?

(Multiple Speakers) Okay, so we run many stress tests and looking at the impact of low oil prices, but if you look at the one that I think is probably the most appropriate, that's the $35 gradually increasing as I indicated earlier. When you look at that, the incremental increase due to low oil prices in the direct, so that would be the oil and gas sector, the services sector, and the indirect would be largely consumer credit in those regions that are most impacted by low oil prices, we would expect, versus current PCL levels, an increase in the 5% to 10% per year range.

Annually. So call it for the next three years, if that's the way --

I'm not sure I would go three years, but say per year. My thinking is two.

That's fair. Colleen, with the next question I'm going to ask, I've had some varying degrees of success on the calls, but given what Mark's just offered about what seems like a modest increase in PCLs, the question I have is, in that environment, do you think the Bank would be capable of growing earnings even just modestly year over year?

Mario, maybe --

We'll start with Mark. Mark is responsible for all of the stress testing and all of the moving parts and comments specifically on oil and then I'll wrap it up, Mario.

Okay.

Yes, so in looking at the view of, what is the impact of low oil prices to the Bank effectively, I mentioned the credit element. There's pluses and negatives. The most obvious negative is the credit element, which I mentioned, but also, in that scenario we would look for reductions in interest rates and we've seen two from the Bank of Canada already that are factored into the analysis itself. Then we would also look for just revenue reductions due to a lower GDP growth. But on the other side, looking at the positives, the reality is, with low energy prices, we would expect higher consumer spending in our largest markets, being central Canada and Northeastern US and we would expect those to have stronger growth. Also, in that scenario it's really you certainly see a low Canadian dollar, which we're seeing today and that would have a positive impact on FX translation on our US earnings.

So the net impact of the positives and negatives of our stress testing is a neutral position, so we feel we're pretty well positioned to weather this situation, given our relatively lower exposure to oil and gas itself plus our kind of where our larger markets are and coupled with the US operations to arrive at, it's kind of a neutral impact over that two-year period. I'll pass it over to Colleen.

Mario, just to conclude, talking about 2016, it's still -- our planning process is still under way. It's probably a little early to comment on specifics, but I think if you take Mark's comments and then what I would say is that absent any other shocks, we don't necessarily see low oil prices impacting our growth trajectory. Obviously, we are working on productivity improvement, which should help us in 2016, so net-net, as they say, we would still see some growth.

That's what I was looking for. Thank you.

Thank you. The next question is from Gabriel Dechaine from Canaccord Genuity.

Hi. Good afternoon. Just a two prong on the expense question here. The seasonal increase we -- I think you guided to it last quarter that we would still see it in Q4 this year. I'm just wondering if we're going to see a similar magnitude of quarter-over-quarter spike as we did last year, which was on the high side? Then also on the restructuring charge, help me understand the benefit for investors. If it's not a tangible EPS figure that's going to come out of the cost cutting that's in this program, what's -- will TD be able to deliver sub-3% growth in perpetuity, something along those lines? I think that could be helpful.

Okay, Gabriel, let me start with your first question, regarding our Q4 expense increase. I'm going to give you some numbers here and I'm going to express them on an adjusted basis and I'm going to exclude foreign exchange.

Sure.

Over the past couple of years, we've had an average quarter-over-quarter growth in the fourth quarter of just over 6%. This year I do still expect an increase, but I'd be surprised if the rate of increase isn't substantially lower, again in percentage terms, than the last two years. I will caution off the top that based on where foreign exchange rates are going, I think on the headline number quarter over quarter will look higher because of FX. On a Q3 year-to-date basis, our expenses, again excluding foreign exchange and M&A, increase by 3.6% and if I'm right about Q4, this means our full-year expense growth rate will definitely come down from the Q3 year-to-date level. We're definitely on the case, I can assure you.

Okay, that's very helpful.

To move on to your second question, really, the message isn't different from what we told you last quarter. If you look at our expenses this year, and I just mentioned the 3.6% growth, and I'm talking on a year-to-date basis now, so I'll just give you some moving parts. Higher project and initiative spend drove about 2% growth in our total expenses and then our base expenses are up on a year-over-year basis as well. That always has to come in to the picture. We are giving increases to our front-line staff. Our business volumes are growing, so that also means that our expenses will increase and then what we're doing, we've been doing for several years and will continue to do at a greater rate, is then we need productivity gains to bring our rate of expense growth down. This year, as I say, 3.6% and part of that growth, by the way, is variable comp that's linked to revenues. That sort of gives you the picture of where we are.

When you think about as we head into next year, we expect that project and initiative spend will increase, but again, we're spending in important areas already this year. But you look at things like digital and mobile capabilities, although we're keeping our retail distribution costs in total at a very reasonable growth rate, technology modernization and transformation is really important and that's to improve our agility and to reduce costs. Regulatory infrastructure is an area of spend and particularly on aspects of Dodd-Frank. Also, as you look to next year, and we do -- the fact that we are increasing our project spend means we will have higher depreciation costs going forward, because some of our project costs are capitalized. We will continue to have base increases going forward and again, for the same factors that I mentioned just a minute or so ago.

So then the key is, then, what do we do in terms of productivity and we have to, frankly, increase the rate of productivity gains from what I've cited on a year-to-date basis and that's where restructuring is going to help us. The name of the game here is that what we want to do is make sure we can slow down our rate of expense growth. You're not going to see a year-over-year decline in expenses. That isn't just reasonable in this are you doing that will fall to the bottom line? That will fall to the bottom line, and assuming we obviously want to make sure that we can grow our revenues at a decent rate given the environment. That's how we are thinking about expenses generally.

That's helpful, very helpful. Just a really quick one. Bharat, you mentioned normalization of insurance earnings. It was big spike this quarter in growth. What was the contribution from the, what should I call it, the positive claims development? (Multiple Speakers)

It's Riaz, here, Gabriel. I don't think we normally disclose that on a quarter-over-quarter basis, but I can say that if you look at the claims number on a year-over-year basis, it's down quite a bit. Half of that order of magnitude is because of, as I mentioned in Q2 2015, that we're shedding some low-value international activity and so that's brought our claims costs down a fair bit without having any meaningful impact on NIAD. Then the other half is, in Q2 and Q3 we've had terrific weather so our current-year claims are down. We're seeing the emergence of some favorable development and then we didn't have any material catastrophes to speak of. I think that's what's causing us to have two very strong quarters.

Thank you, Riaz.

Thank you. The next question is from Sumit Malhotra from Scotia Capital.

Thanks. Good afternoon. Just to start with Bharat, since we're there on insurance. Two years ago at this time, we had some conversations after the events in Calgary about whether the P&C insurance business was a good fit for TD's Canadian retail operations just given the consistent volatility we had seen. Its been a much better year from a claims experience perspective. Riaz has talked about some of the improvements you've made in the business. Its also been a period where there has been M&A activity in P&C insurance domestically. Now that the business is fixed up, or running better, have you given some additional thought as to whether it is a fit with what you want the brand to be in Canadian retail?

Yes, the business continues to be core for us. Yes, we did have some issues and as you rightly pointed out, we fixed those issues. We have adjusted our model to make sure that we take into consideration events like what happened in Calgary, so that is part of how we run the business. Frankly, we see some synergies in having the TD brand in that business and we can leverage that and it is a good returning business, as we saw this quarter. Overall, we feel pretty comfortable with where we are and we will continue to find ways to make sure that we are growing this business appropriately and in a manner that provides us with good returns. But overall, very happy with it and it continues to be core.

That's straightforward enough. And then one quick one, hopefully, for Mark. Since you were giving us some color on how you're thinking about the stress test process, if I look at, on a year-over-year basis, we've obviously seen a significant decline in oil prices, yet unemployment on a Canada-as-a-whole basis, the unemployment rate is actually lower. So when you run your stress scenario, how are you envisioning the trend in domestic unemployment? I ask specifically due to the fact that the Bank is a bigger domestic credit card player than it was when we had the last credit cycle in Canada.

When we did our low oil price scenario, we did look at it on a regional basis and our scenario played out that there would be an increase on unemployment in those impacted regions in the range from the then-existing levels of 40% to 50%. If you look at the increase in credit losses that I mentioned of the 5% to 10%, that is 2/3 or largely driven in the unsecured sector, which would be cards. I would include indirect auto in that as well. That's the major driver of the increase in credit losses versus the direct exposure to the actual oil and gas producers.

Our experience in the oil and gas producers has played out very similar to how we projected last January in terms of, we have seen negative migration in the portfolio but we've had no surprises in terms of accounts. The accounts that went down are ones we thought would go down. We've had four go into impaired status but two of those were paid out relatively quickly and we've only got two left in the account at about CAD30 million and actually we've seen about CAD400 million, or 10% of the portfolio, pay out and it was the higher risk accounts that were refinanced or taken out by acquirers. So yes, the unemployment is certainly factored into it and it is credit cards as a driver, but we think it's well within the range of being, it's within what we would expect our, call it, our risk appetite.

And sorry, just so I have this right, I may have missed it earlier. When you say 5% to 10%, are you talking on a dollar basis on the --

Yes.

On the domestic provisions, a 5% to10% lift?

Correct.

Thanks for your time.

Thank you. The next question is from Sohrab Movahedi from BMO Capital Markets.

Thank you just a quickie for Mike. Are you happy with the performance of the US retail segment in source currency?

Sorry, in -- I didn't catch the last bit of your question.

Just in source currency. So avoid negating the FX impact, are you happy with the performance of the segment?

I am happy with our performance in the circumstances that we're operating in. It's, as you know, difficult in terms of the low rates and the fitful economic expansion and traction as well as the competition. As I look at the major elements of our performance, we're doing very well versus our in-market competitors. We're doing well on earnings, we're doing well on revenues, we're doing well on expenses. To have 200 basis points positive operating leverage this quarter is a nice thing to have in this kind of environment. Our expenses are down for the whole year, year to date by 1% compared to last year, so I'm happy in the sense that we're outperforming our in-market competitors in a very difficult environment.

I'm obviously hopeful that we get some assist in terms of the economy and rates, but in the absence of that, I think we have enough levers at our disposal in terms of deepening relationships with customers and improving our distribution strategy and the productivity agenda that we can continue to generate earnings going forward, no matter what the -- within reason, no matter what the circumstances are. Year-to-date earnings are up 5%. I would have taken that at the beginning of the year if you said it was possible.

Okay. But just to push on that a little bit, it looks like the credit environment has turned anyway for your portfolio in the US. You've got some incremental loan losses, absent recoveries, that's going to be there and you were able to offset that with the lower expenses this quarter, year over year. If credit continues to not deteriorate, but at these types of levels trend higher and revenue environment stays such that the best you can do is grow lower margin but higher volume business, how much leverage do you think you have on your expense line to continue to get the bottom line in and around these types of levels?

Yes, well I guess I'd say that we understand that in this environment, for the reasons that you've articulated, that we need to be very focused on the productivity and expense management agenda. As I alluded to before, we are, and we have been, and we continue to be. In terms of -- its difficult, it's a little early to look at next year, but I think we will continue to see that expense management will help us moderate that rate of expense growth and our focus is to try to continue to deliver positive operating leverage even as we're investing for future growth in things like our card business and wealth business and our technology and digital platforms and so on.

Okay. Thank you very much.

Thank you. The next question is from Stefan Nedialkov from Citigroup.

Yes, hi, guys. Good afternoon. Also good evening from London. Two questions, the first one on the US assets. You've obviously have been quite interested in buying portfolios, small books, et cetera. Could you just give us a little bit about the criteria that you have and the minimum hurdle returns, size, et cetera, and also maybe a little bit about the type of credit assets that, that is, cards, et cetera? Is there anything on the horizon right now that could be of interest to you? The second question is, now that your assets are higher than RBC, or I guess some of your other competitors I really should say, have you had any discussions with OSFI or with any other regulators in terms of potential inclusion on the G-SIFI list? You are a significant bank in the US and you are a significant bank in Canada, which are obviously two quite important banking systems on a global scale. Does that potentially make you a G-SIFI down the road?

It's Mike. I'll take the first part and then I'll let Riaz take a stab at the second. I'd say our focus on the US business is on organic growth at this time. As I said before, we feel we've got lots of levers to pull and that's our primary focus. We do, of course, look at things as they come up from time to time and in that respect I'd say we're more focused on potential asset plays in the line of the Nordstrom kind of thing or similar things than we are on, for example, larger branch-based acquisitions, but our focus is on organic growth.

Stefan, it's Riaz. I'd say on the question of becoming a GSIB, as you know, both under the BCBS as well as the US rules, the test is a multi-factor weighted test, of which the balance sheet is only one factor to be considered. We've been, in our calculations, nowhere near being designated GSIB or -- either internationally or in the US.

Okay, great. Thank you.

Thank you. The next question is from Doug Young from Desjardins Capital Markets.

Good afternoon. Most of my questions have been asked and answered. The one that I was just hoping you could enlighten me on is, the collective IBNR did increase, I think, in US dollars, $48 million. I think that's different than -- I think the impact or what caused that was different than what caused the gross impaired loans to increase, but I think you referred to it as allowance build. Can you flesh that out for me in terms of what that relates to?

It's Mark. Two factors were driving that. One is, as you grow volumes, and in the US is experiencing good volume growth, you are adding to your reserves and it's showing up in the IBNR. The second area is there is a seasonal nature to two of the asset categories, such as credit cards and indirect auto, which typically in the second quarter, or the quarter ending April, tend to have improvement in quality, which results in a reduction in your allowances, as well as a reduction in volume through pay outs. But that naturally comes back in the third quarter and so we've seen that swing in the third quarter in cards and indirect auto, which was really totally within our forecast, but it resulted in the increase in the allowance, as well as with the commercial side. But it was driven by effectively volume, I guess, is the simple answer.

Volume. So this -- you would expect this to reverse in the next quarter? Is that essentially it?

Well, I think the volume will say on -- I would expect it to stay constant to increase with volume, but not to the same extent, because the seasonal factor won't play as much a factor in the next quarter and everything else being equal just it would be in pace with volume.

So this has nothing to do with migration, it's more of a volume driver?

Yes, not credit qualities is what -- would be migration.

Okay.

So we look at it and we decompose it. It was driven by volume, not credit quality.

Okay. Second, Colleen, on the CET1 ratio -- maybe I'll back up here. Do you hedge out your FX risk within the CET1 ratio or no?

I can turn this to Riaz, but the answer is yes, we do.

Okay.

So I just answered it. (Laughter)

Perfect. That's all I need, thank you.

I agree.

Riaz concurs, luckily. Yes, we do.

Thank you.

Thank you. The next question is from Peter Routledge from National Bank Financial.

Thanks. I just want to come back to Meny's question a little earlier about the mortgage approval process. I'm kind of having a hard time reconciling the diligence you talked about, and your peers talked about as well, with the service aspiration of turning around approvals in 24 hours. What would you say to a skeptic who thought, well there's no way they can hit their service goal and do due diligence and there has to be corner cutting in that due diligence?

Well those are the standards that we actually have negotiated. It's Tim answering here. What we've changed in the last little while is we entered into an outsourcing relationship with First National, and they have a very dedicated senior lending team. What we do is we've basically outsourced our adjudication and our funding of the mortgages. They are writing to our specifications. There is no auto adjudication, which, to your question, might impact your turnaround times, but we've negotiated as part of our pricing the ability to actually get those approval rates back and quickly. We've seen a substantial improvement in the turnaround times to the brokers, which is one of the reasons why we're up strongly in real estate secured lending. So we're quite comfortable, and given this is a relatively new relationship, the oversight we put in place with the TD folks on the ground is measuring to a brand newly established standard of care.

I would only add, Peter, is that the verification of income or the down payment can occur after the approval. It's in the fulfillment process.

(Multiple speakers) conditional approval?

Fulfillment is after that and they have to -- you have to have all that documentation in order to fund and you may identify the problem then and not fund.

One other question. If, despite all this, at some point its found that a small but productive cohort of third parties have put or submitted mortgages with faulty or misrepresented underwriting data, and it's those insured mortgages are sitting on TD's balance sheet, could your mortgage insurers deny the claims on those mortgages, even if no TD employee was directly or indirectly involved in that misrepresentation?

The insurers position, they refer to it as fraud for shelter and that's where someone may overstate their income in order to get into a house, as long as there has been no employee of the organization involved in that, their position is that does not in validate insurance.

Okay, thank you. That's very clear. Appreciate it.

Thank you. There are no further questions at this time. I'll now turn it back to Bharat Masrani for closing remarks.

Thank you, Operator. As you've heard, with all the answers and the most importantly, the results, we're very proud of how the teems have delivered yet another strong and growing number from TD. Thank you to everybody for a terrific job well done and look forward to seeing you in the next 90 days. Bye-bye.

Thank you.

Ladies and gentlemen, this concludes the conference call for today. We thank you for your participation. You may now disconnect your lines, and have a great day.