Bank of Nova Scotia (BNS) NBF 21st Annual Financial Services Conference Call Transcript

Bank of Nova Scotia (NYSE:BNS) NBF 21st Annual Financial Services Conference March 29, 2023 9:45 AM ET

Company Participants

Philip Thomas - Chief Risk Officer

Conference Call Participants

Unidentified Analyst

All right. Our next speaker is Phil Thomas, Chief Risk Officer of Scotiabank. Phil has been in that role for 1.5 years, which would mean you were hitting at around a very -- things were looking up at that point in time from a risk standpoint. Obviously, a different environment today. Thanks, Phil, for joining us and answering my questions.

Question-and-Answer Session

Q - Unidentified Analyst

I want to start -- I don't want to get too accounting here, but -- in the weeds, I mean, but there's a lot of questions around the economic outlook. And from a Chief Risk Officer standpoint, that economic outlook feeds into how you set your provisions. And then under IFRS 9, as we all know, there can be a lot of swings in the provisions, depending on what goes bump in the night. Maybe we can spend a few minutes talking about what you're seeing -- what your most recent outlook look like and then if anything is possibly changing given recent events.

Philip Thomas

Sure. And listen, thanks for having me today. It's a real pleasure to be here, and thanks for everybody for showing up. I frankly wasn't expecting this many people. So congratulations on a great turnout.

Unidentified Analyst

Mostly National Bank employees. No, just kidding.

Philip Thomas

So you paid people to be here. You said I've been in this job for 1.5 years. I think I had one quarter where it was -- everything was like cool. And so coming out of the pandemic, and you have the war in Ukraine, you have the tail of the continued discussion around normalization of credit portfolios, and then the last 2 weeks, I was just -- I met David [indiscernible] in the back there and just saying it's just been like a crazy fire drill. And so it's like -- it feels like this job, I've never -- I haven't had a minute to rest. I think my kids have forgotten what I've looked like over the last 1.5 years. So it has really been an interesting period in -- both from an economic perspective and just from a geopolitical perspective.

I think there's a confusion saying about living in interesting times. It's actually a curse as opposed to a blessing, but that's sort of how I'm feeling about things a little bit these days. But we, at Scotia, are still calling for a mild recession in the sort of mid- to latter part of this year, and that's what I've got built into my forecast as I look at my allowances.

I'm obviously very thoughtful about -- we can joke about what's happened over the last couple of weeks, but it's been pretty serious for the global economy. I will say from a Canadian perspective, I've never been prouder to be part of -- to be a banker or a Canadian banker. We saw a lot of connectivity between the OSFI, the federal government, Bank of Canada, CDIC, the other CROs and myself and the DSIBs and the treasurers were on daily phone calls. I was on twice daily calls with the regulators.

So one of the things, I think, we as bankers or investors or what have you should be -- we should be pretty proud of what we do here in Canada. And a lot of what we saw coming out of the U.S. and coming out of Europe, knock wood, probably wouldn't have happened given the regulations and how we operate in banks in Canada. So that gives me a lot of comfort as a Chief Risk Officer. It gives me a lot of comfort as a shareholder in a bank. So I think it's important that we talk about this, and we recognize the stability of our banking system in Canada.

As far as allowances go and how I'm thinking about that, I think I am thoughtful in terms of what is there, another shoe to drop, is there something else that's going to happen coming out of the last 2 weeks? So still monitoring, still watching. I'll do that for the next few weeks until we close the quarter.

Unidentified Analyst

So the deposit business isn't directly under you, of course, but you're keeping an eye on liquidity. And you mentioned the discussions with your daily discussions with treasurer and things of that nature. So what's been the -- have you seen any signs of -- whether it's in Canada or your international businesses, the behavior of depositors, has it changed?

Philip Thomas

We, Martin Weeks, who is our Treasurer, and I are on speed dial. I think we were before, but certainly now we're definitely BFFs. But one of the great things about the way my job is structured, I -- my previous role, I was the Head of Data and Analytics for the bank, and I was allowed to keep that role coming into this job. And so the first thing I did was ramp up our data team to be able to pull live feeds and look at how we are -- how deposits are trending, corporate, commercial and retail.

So as of now and as of through that period, we saw -- there was nothing untoward. There was nothing -- there was no outflows from a retail perspective into the bank or outflow -- inflows or outflows, and it was the same on our corporate and commercial portfolio. So I think that's a good thing.

I think from -- certainly from a Canadian perspective, again, the stability of the Canadian banking system held. We don't have the presence in the U.S. that some of our peers would have. So we didn't necessarily see that movement. But I was comfortable with the normality of the deposit flows.

Again, like we saw -- Silicon Valley Bank, it was insane. You had -- was it $46 million or $46 billion of deposits running out of that bank in a day. And it just goes to show the world we're living in now with digital transactions. Can you imagine in 2008, it would have taken 2 weeks to remove that amount of money out of a bank.

Unidentified Analyst

Few trips to the ATM, yes.

Philip Thomas

Yes. Yes, 1 or 2 trips to the ATM.

Unidentified Analyst

What about the LatAm business? Those markets have historically experienced periods of volatility or you made the comment about Canada and the normalcy, I guess. What does -- being a Canadian bank down there probably doesn't hurt, but what are you seeing in the system overall?

Philip Thomas

It's a great question. It's -- I think this situation was really limited to the U.S. and Europe. I feel and as I talk to -- I have -- the way my job is structured, I have the Chief Risk Officers in each one of our countries report directly to me. So it's like a hotline of what's going on in the pulse of these markets.

The -- we saw nothing -- for these markets during the past 2 weeks, it was really -- what they were watching on CNN or BNN or CNBC, there was really no implications to what was happening for them. From my perspective, I was watching the Spanish banks carefully. Obviously, there's large Spanish banks that deal in these markets and to see if any contagion was sort of the word of the last 2 weeks, to see if anything could potentially spread to Latin America, and it didn't. But I think your point is well taken. I mean Scotia is a Canadian bank -- again, going back, I've said it 3 or 4 times today, but worth saying, Canada is a stable banking environment. And I think that bodes well for Scotia and these markets.

Unidentified Analyst

Bringing it back to the credit in the area, I asked you earlier about the performing provision. Are you seeing -- in actual -- in terms of actual loan losses, where are you seeing the pockets of weakness? And has it changed at all? And probably not the last few weeks, but where are you seeing the signs of stress, I guess?

Philip Thomas

So I think for all of our -- the Chief Risk Officer job should be called the Chief Worry Officer job. And so my job is to worry about things. And obviously, I spend a lot of time staring at numbers, which is why I now wear glasses, which I didn't before I took this role or at least bifocals.

But as I said on the Q1 call, we are starting to see things normalize. I particularly watch credit cards. That's generally where you start to see softness. Every market is different. One of the things I've been found interesting through my career working in Latin America for 16 years of my career, and I'm now looking at Canada, but -- and Canadians tend to -- if you see deterioration in a credit market, Canadians go to cash advances on the credit card. Then they go to credit card defaults. Then it's other unsecured lending. Then it goes to the auto, and then it goes to the mortgage. So -- which is fascinating.

I think if you're not Canadian, you're looking outside. You look at our big mortgage book, and you think maybe that's where the big worry is. It's always going to be in the credit card in Canada. Any crisis we've gone through, that's where it all starts.

Anecdotally, when we did business in Puerto Rico, Puerto Rico was always the auto loan because people value their automobile more than their mortgage, more than any other product. And so each culture, each country has a nuance, but Canada is always -- credit card defaults always start first. And as the Chief Risk Officer of Scotia, and we spend a lot of time thinking and talking about our credit card portfolio, and we are obviously not a big credit card player. And most of the originations we've done post pandemic have been really focused on sort of the Prime plus segment. And so I get a lot of comfort there. But I watch carefully the tail risk. And this is where -- tail risk, single service credit card customers, that's where the banking industry will start to see cracks.

Unidentified Analyst

On credit cards, a twofold question. One, is inflation -- having a "positive" impact on the business because the low revolving balances have been a revenue issue. And then on the other side of the coin -- well, not really the other side of the coin. Whenever we enter a recessionary environment, as you say, we look at credit cards, and then let's double the loss rate. But since payment rates are -- stuff like that, just to be crude about it, but payment rates are still so hot.

Philip Thomas

That is the interesting -- that is the conundrum that we are in today.

Unidentified Analyst

What used to have might not be as relevant today. So...

Philip Thomas

Absolutely. So you're spot on, and this is where this period is so interesting. The Canadians are -- and I think the previous speaker was saying, in similar from CIBC, like Canadians are holding more money in their accounts than they -- like our payment rates on credit cards is still much higher than prepandemic. Canadian consumers are holding much more -- our variable rate mortgage portfolio, which I know is a question we always get asked. Maybe I'll bleed into that, just to say, our variable rate mortgage customers are holding 3x their payment cushion in their deposit account in cash, that's not even looking at investments or other things that they could liquidate to start to make mortgage payments.

And so a lot of the -- a lot of folks outside of Canada are looking at the Canadian mortgage business is this bubble that's going to burst, obviously, people speculating. But I sit here as the Chief Risk Officer of one of the largest banks in Canada thinking, well, there's tons of money in their account, way more than they had prepandemic. Default rates are still way below prepandemic levels. Unemployment is at 5%. Demand -- every study says that we have to build -- we as Canada need to build millions of houses to be able to house Canadians, not even talking about affordability. And so -- like I struggled to see -- and I look for it every day. I struggled to see where the breakpoints is in the mortgage portfolio. And so maybe I'm missing something, maybe all the banks are missing something, but...

Unidentified Analyst

Well, that's -- your mortgage, along with nationals, the design of the your product, it's a truly variable mortgage there, it's truly a floating rate. And I remember initially you think, oh, that's risky.

Philip Thomas

I remember some of your papers. A great topic of discussion.

Unidentified Analyst

I was younger and more naive, I guess. But it does give you some perspective that's a bit unique that your customers have absorbed these higher payments as the rate hikes have taken place. So what kind of behavior are they exhibiting? You mentioned they've got a cash cushion, but is there any -- are they reducing spending on their cards? Or how are they adapting to their monthly expenses?

Philip Thomas

I actually think -- I mean as inflation is rising, Canadians are making choices. And over the Christmas -- sort of Christmas period into the last few months, pardon me, we've seen Canadians spend -- start to spend less on travel, dining and entertainment as we look at sort of deposit and credit card spend. And they're spending about 10% more on groceries. So they're making choices. And so -- and then earlier, we saw consumers even shifting the type of grocery spend that they were doing away from sort of maybe bigger brands to bulk brands.

Unidentified Analyst

Loblaws to No Frills.

Philip Thomas

So people -- our customers, at least. And when we look at data, I'm sure it's consistent. It's a statistical representation of what's going on in Canada. People are making selections in order to maintain a certain level of liquidity and solvency, like the average Canadian, which I think is very positive for the economy.

Unidentified Analyst

So when I hear that, and I totally get it, it's just -- I start to think of maybe that's the indirect impact. So if I've got $500 increase to my mortgage payment, I'm going to -- my discretionary spending is going to go down. So wherever that is going is going to be where their revenues are going down. Is that how you're looking at it? And...

Philip Thomas

Possibly. I mean I've been carefully watching -- I mean you're going towards small business. And I've been carefully watching our small business, delinquencies, any friction in -- I'm not seeing that yet. And maybe it does go there, but no, it's not approaching that.

I mean I think where we are right now, interest rates will stay high, maybe stay high for longer. Maybe it'll come back down, but Canadians are absorbing that, and I'm encouraged by that. I mean, again, as John said earlier, we got to watch what's going on in the U.S. Obviously, the old adage, if the U.S. catches a cold, we catch the flu. So let's be very cautious, and that's why we're talking about the mild recession right now, too.

And the other thing I'm worried about is just as we look at liquidity in the system, does that -- to your point earlier, does that start to create a contraction in terms of the bank's lending? What are we lending as we start to look at our own liquidity levels very carefully? Are we doing less mortgages or doing -- are we lending less to commercial bank -- commercial customers? And does that start to create a bit of a credit crunch, which leads to also what you just described. And so there's a few factors that are going on right now that -- like from where I sit, I sort of spend my night staring at the ceiling, thinking about.

Unidentified Analyst

I thought I had a bad time sleeping. But let's move to the international business. So in the past few years, and of course, recently, you've had political unrest in Chile that's simmered down a bit, Peru is...

Philip Thomas

I think you were there, weren't you?

Unidentified Analyst

Yes. I left my wallet there. Peru and then there's pockets of violence in Mexico. So there's been a lot of headlines in key geographies for you. Has there been a quantifiable impact on your credit performance from these situations?

Philip Thomas

Yes. As I said earlier, I've spent close to 16 years of my career working in Latin America. I know the markets very well and perhaps some more comfortable with operating there than the sort of the outside-in perspective that one may have.

We work -- obviously, as we evaluate and as I evaluate how countries are performing and as presidents change over, how is the Central Bank operating? Who's the Finance Minister? And what's the regulator doing? Like our interactions generally tend to be on the economic side and on the banking side. And what I -- what we have found over time is that you might have a -- Peru is a great example of where we've had, I think, 5 or 6 presidents in the last 6 years, but we've had a lot of stability at the Central Bank. And we've had stability with who the Finance Ministers of these markets have been.

In terms of credit, if you -- we always look -- whenever there's a flare up of whether it's violence or whether it's a weather event, that's -- earthquake or flood or what have you, we always look at that region. We look at what our exposures are. If it's a commercial or corporate clients, we look at how we can help them in the short term, how their -- what behaviors are going on there. If it's a retail customers, we'll segregate that pocket or that geography and be able to say, well, what are payment rates look like there? Do we need to help customers with payments if they get into a branch or if they can't pay with digital? How do we help them through this difficult situation? Or the other -- the flip side of that is maybe we don't do proactive selling or outbound calling to that market, while that -- that piece of the market perhaps stabilizes. And so we've got a lot of experience doing this over the years.

And frankly, it's not -- unlike what we would do if it was a fire in Alberta or if it was a flood in BC or Newfoundland. It's the same type of outbound calling activity, making sure our customers know that they're there for us. And I think oftentimes, we sit back in Canada, and we look at -- our perception of Latin America is what we see on Netflix. We watch -- different -- we watch Narcos, and we think that's what Latin America is. I mean at the end of the day, there's people and there's customers. And I think once you figure out and you understand how the business is run there, it's -- again, it all comes down to how you deal with people, how you're managing customers.

I see a ton of opportunity, particularly in Mexico and into Latin America, with what's going on. Again, speaking of geopolitical and what's caused by what's going on in Russia, Ukraine or through the pandemic, there's a lot of nearshoring and onshoring that's starting to happen, bringing manufacturing back to this hemisphere. And I'm super optimistic that Scotia can capitalize on -- what's going on in Northern Mexico, building of plants, connectivity into the U.S. and Canada. So I -- as I said, I've spent a ton of my career personally there, and I understand the markets, and I still see a lot of opportunity.

Unidentified Analyst

Bringing it back to Canada, the auto business, you're top lender in both the personal and the commercial side of that business. Used car prices is still high, so the security is good, but I'm starting to see some increases in delinquencies and losses in the near prime, subprime, whatever term you want to use. Is there any anecdotal discussion around your business or what you're seeing overall in auto lending in Canada?

Philip Thomas

Yes. I mean we have a great perception to that portfolio because we're one of the largest players there. It is interesting because, well, firstly, we are seeing American manufacturers come back with supply. And so if you drive by your local Chevrolet or GM dealers, it's full of trucks. Where we're not seeing supply or supply still slowly coming is on the German and Japanese and European auto manufacturers.

I think one anecdotal thing, I think -- when we think used car, we always -- traditionally have always thought sort of subprime, near prime or whatever you want to call it. But the shift during the pandemic has really been because of supply chain issues, people have been buying used cars. Like I bought a used car, I have a FICO Score, it's like 8 something or I think I bought 2 of my kids cell phones. It's on my plan, so it may now be like after they forgot to pay their bill 2 or 3 times. But -- so I'm a generally a good customer. So I went out and bought a used car because I couldn't get a new car. I think that's very germane in terms of what's happening in the Canadian market.

And so if actually you look at our SDA portfolio, we're not seeing big levels of delinquencies there right now. I mean we're seeing some normalization. Things are starting to come back, but not yet where they were prepandemic. But we have to think -- because a customer is buying a used car doesn't mean they're a bad customer. There's still -- we still have a lot of quality coming there.

Now what I am watching carefully for is as supply starts to come back and people are buying European, Japanese autos, again, does that have an impact on residual values? And so that's something that may have a long tail for us. But we'll see. I mean lots -- if you would ask me 6 months ago, I would have thought by now that people would -- we would have had a better supply in -- of automobiles in Canada, but we -- I drove by the local Volkswagen dealer recently, and the place was empty. So...

Unidentified Analyst

I'm in the market for Tundra, and it's a 1-year waiting list, though.

Philip Thomas

Maybe you're going to buy a used Tundra.

Unidentified Analyst

Just to wrap up on another topical issue these days, do your exposure to, whether it's European financials or U.S. regional banks [Technical Difficulty]. And I guess everybody is going to say how it's manageable or whatever, but how much lead time did you have saying, we might want to be cooling off our counterparty exposure to Deutsche or whatever?

Philip Thomas

So there's a couple really -- if we have another 25 minutes probably.

Unidentified Analyst

We can go a little bit over time.

Philip Thomas

But given our geographic footprint, we don't have or have a fairly small exposure to European and midsized regional U.S. banks. And I think as I was going through the last 2 weeks, and we had a lot of phone calls late at night and over weekends, and I became very comfortable with our levels of exposure, it's very well managed and maintained. So I think that's one thing -- we haven't played in the U.S. in a big way, and there's some -- if you're looking at Scotia, it's like a sort of a bit of a safe haven from that perspective right now. And your second point on [indiscernible]?

Unidentified Analyst

I guess it's the lead time, if you will, of when you're -- maybe it's more on the wholesale business, and -- let's trim our exposure to Deutsche Bank or Credit Suisse.

Philip Thomas

Yes. I mean you know what, we've done a lot of that trimming already over the last sort of 5 or 6 years, and I'm really comfortable with where we are in terms of exposure there.

The one thing that strikes me about the comment is this whole situation over the last 2 weeks from a macro -- forget Scotia, forget Canada for a second -- from a macro perspective is always -- has been this year about confidence. And even asking questions about -- like imagine 2 or 3 months ago, if you're asking me questions about DB, like it would have been unheard of. But I do think we need to be thoughtful around what -- this is a confidence issue in banks. We need to be thoughtful about what trades we're doing, obviously, but we also want to be thoughtful about what trades we're not doing. And I think there is a component of us as bankers being responsible and being thoughtful to drive this period as well.

Unidentified Analyst

Well, that's a wrap. And we've got a break coming up and well, thanks for the 25 minutes.