October 27, 2017 / 5:39 PM / 2 years ago

Fitch Affirms The Toronto-Dominion Bank's Ratings at 'AA-/F1+'; Outlook Stable

(The following statement was released by the rating agency) NEW YORK, October 27 (Fitch) Fitch Ratings has affirmed The Toronto-Dominion Bank's (TD) Long- and Short-Term Issuer Default Ratings (IDRs) at 'AA-' and 'F1+', respectively. The Rating Outlook is Stable. A full list of rating actions is at the end of this rating action commentary. This rating action follows Fitch's periodic review of the Canadian Banks Peer Group, which includes Bank of Montreal (BMO), Bank of Nova Scotia (BNS), Canadian Imperial Bank of Commerce (CIBC), Federation des caisses Desjardins Quebec's (FCDQ), National Bank of Canada (NBC), Royal Bank of Canada (RBC) and Toronto-Dominion Bank (TD). For additional information, please see "Fitch: Canadian Banks Affirmed; Fundamentals Outweigh Persistent Housing Risks" at 'www.fitchratings.com'. Company-specific rating rationales for the other banks are published separately. For further discussion of the Canadian Banks sector, please refer to the special report titled '2018 Outlook: Canadian Banks' to be published in the near term. KEY RATING DRIVERS IDRS, NATIONAL RATINGS AND SENIOR DEBT The rating affirmation reflects TD's dominant banking franchise in Canada and a solid market position the U.S and its strong through-the-cycle financial performance relative to international peers. Furthermore, similarly to peers, ratings benefit from Canada's strong regulatory environment and the concentrated banking sector with high barriers to entry, which has supported performance over a long history and various banking crises. Additionally, Canadian Mortgage and Housing Corporation (CMHC) insurance plays an important role in supporting the balance sheets of all Canadian Banks. In Fitch's view, TD's sizable earnings contribution from the U.S. operation should provide a buffer from potential negative impacts to earnings and/or asset quality should economic conditions indirectly hurt consumers and/or impact form a severe housing correction, which supports Fitch's Stable Rating Outlook. TD's risk profile is viewed as slightly better than the Canadian average and benefits from a diversified business model. The company's strong discipline and its commitment to conservativism is evidenced by executing a strategy that avoided risky and complicated products in the period leading up to the financial crisis. TD's overall credit quality has been good, even during the financial crisis when its net charge-off ratio peaked at only 0.65% and impaired loans to gross loans (including foreclosed assets) increased to just 1.27% in 2010, significantly better than performance of U.S. banks during the same period. In addition, its direct oil and gas exposure is comparatively low relative to other Canadian banks at less than 1% of total gross loans and acceptances as of third quarter 2017 (3Q17). TD's profitability has been solid, even during the past financial crisis. TD's profitability has been strong with return on average equity for the period from 2007 through 3Q16 of approximately 14%, well above Fitch's estimated cost of equity between 10%-12%. The bank has also produced a stable return on average assets (ROAA) over the same period, averaging 0.81%. This level of earnings is both modestly higher than the Canadian peer median, as well as less volatile than the other Canadian banks during this time period. This has been driven largely by TD's solid credit quality and a low level of provision expenses. The U.S. operation contributes nearly 30% of TD's consolidated results. Furthermore, earnings contribution from the more volatile capital market segment was the smallest among Canadian bank peers, and represented 16% of total net income at 3Q17 compared to a peer group average of 25%. TD's leading position in Canada and a respectable market position in the eastern United States underscore its sustained solid liquidity profile. In aggregate, loans have been entirely funded by deposits, with loans to deposits ratio consistently below 100%. Fitch also notes TD's U.S. funding profile is significantly better with average loans to average deposits ratio of 60% for 3Q17, compared to 122% for its Canadian Retail segment. The superior funding structure of its U.S. operations is driven by past acquisitions of Banknorth in 2004 and Commerce Bancorp in 2008, which doubled TD's scale and presence in the U.S., specifically the Mid-Atlantic region. From a capital perspective, TD's position is sound for the rating category. At 3Q17, the bank's Basel III Tier I common equity ratio (CET1) was 11%, on an all-in basis, which increased from 9.9% at year-end 2015 and is in-line with the peer median (excluding DESJ) of 11%. The CET1 ratio improvement is due to strong internal capital generation, which totalled 7% partially offset by RWA growth. SUPPORT RATING AND SUPPORT RATING FLOOR The affirmation of the TD's SR at '2' and SRF at 'BBB-' reflect Fitch's view that the likelihood of support remains high for Canadian Banks due to their systemic importance in the country, significant concentration overall in of Canadian banking assets amongst the institutions noted above, which account for over 93% of total banking assets, the large size of the banking sector with banking assets at 2.1 times Canada's GDP, and the Canadian Banks' position as key providers of financial services to its local economy. In Fitch's view, Canadian banking authorities through the CDIC Act, have wide latitude to resolve a troubled bank including re-capitalizing an institution, creating a bridge bank, or imposing losses on creditors. Nonetheless, bail-in initiatives demonstrate the Canadian government's progress to reduce the propensity of state support for banks going forward. Fitch recognizes that the government's willingness to provide support for D-SIFI's in Canada has been reduced demonstrated by Department of Finance recent Resolution Framework, which has received parliament approval. The proposal seeks protect tax payers from the risk of a large financial institution failing through the guidelines recently published by OSFI for issuing non-viability contingent capital (NVCC) instruments and defining securities that could be used for "bail-in". In Fitch's view, bail-in proposal enhances resolution powers given to regulatory authorities under the CDIC Act. SUBORDINATED DEBT AND OTHER HYBRID SECURITIES Subordinated debt and other hybrid capital issued by TD and its subsidiaries are all notched down from the common VR in accordance with Fitch's assessment of each instrument's respective non-performance and relative loss severity risk profiles, which vary considerably. TD's subordinated debt is notched one level below its VR of 'aa-' for loss severity in accordance with Fitch's assessment of each instrument's respective non-performance and relative loss severity risk profiles. TD's preferred and trust preferred stocks are five notches below the VR, made up of two notches down for non-performance and three notches down for loss severity. The preferred securities of TD Capital Trust III, IV and Northgroup Preferred Capital Corporation are five notches from TD's VR also reflect management and regulatory authorities' powers to suspend dividends. These ratings are in accordance with Fitch's criteria and assessment of the instruments non-performance and loss severity risk profiles and have thus been affirmed due to the affirmation of the VR. SUBSIDIARY AND AFFILIATED COMPANY All of the subsidiaries and affiliated companies including TD Bank, NA reviewed as part of the Canadian Bank peer review factor in a high probability of support from parent institutions to the subsidiaries. This reflects that performing parent banks have very rarely allowed subsidiaries to default. It also considers the high level of integration, brand, management, financial and reputational incentives to avoid subsidiary defaults. LONG- AND SHORT-TERM DEPOSIT RATINGS TD Bank, NA's uninsured long-term deposit ratings are rated one notch higher than the company's IDR and senior unsecured debt because U.S. uninsured deposits benefit from depositor preference. U.S. depositor preference gives deposit liabilities superior recovery prospects in the event of default. RATING SENSITIVITIES IDRS, NATIONAL RATINGS AND SENIOR DEBT TD's ratings are near the top of Fitch's global bank universe. Given TD's sizable Canadian consumer exposure and Fitch's concerns about the local housing market, there is limited upward pressure over the near term. That said, over a longer horizon, upward momentum could emerge if TD can maintain solid asset quality measures, while maintaining earnings and capital ratios commensurate with its risk profile and highly rated global peers. Today's rating action incorporates Fitch's view that uncertainties remain on what the impact of recent mortgage reform announcements will be to the broader mortgage market. As such, a faster price correction that is prolonged and/or a slowdown in the housing market will likely impact earnings growth for all the banks. Further, these changes would also affect the broader economy through the link between housing wealth and consumer consumption, and the real estate sector, which are important drivers of GDP growth. Fitch notes that the Canadian banks ratings are sensitive to negative pressures in the housing market. Fitch views TD as likely better positioned than some of its peers for potential upward ratings movement given its stability in earnings, lower relative reliance on capital markets revenues, diversity of funding, and higher percentage of insured mortgages in Canada. This would presume that TD's financial profile remains sound, and there is no material deterioration in the Canadian housing market or economy. Further, should TD's gross impaired loans to gross loans remain below 1% through the cycle, this could lead to positive rating momentum. This is particularly important given TD is now the largest credit card issuer in Canada and therefore is more susceptible to consumer stress. While some credit normalization is expected, Fitch notes that this could be hastened or potentially more severe due largely to potential impacts from the mortgage market across Canada as well as exogenous macroeconomic risks such as unexpected increases in interest rates, a severe housing price correction as well as macroeconomic weakness in the overall Canadian economy that leads to a material rise in unemployment. TD's ratings would also be sensitive in the event that the company makes an acquisition that either erodes regulatory or tangible capital ratios or creates the potential for more overall earnings volatility. SUPPORT RATING AND SUPPORT RATING FLOOR SR of '2' incorporates Fitch's expectation that there could be some level of support for the Canadian Banks going forward although it has been weakened given bail-in legislation. Although Canadian authorities have taken steps to improve resolution powers and tools, they intend to maintain a flexible approach to bank resolution. Fitch's assessment of continuing support for Canadian D-SIFI's has to some extent relied upon resolution powers granted regulators under the CDIC ACT as well as the potential size, structure, and feasibility of NVCC and TLAC implementation. Further, continued regulatory action to ensure sufficient contingent capital has been implemented for all Canadian banks. Therefore, SRs and SRFs are sensitive to the implementation of TLAC requirements. To the extent that these are deemed more than sufficient to recapitalize a non-viable bank, SRs and SRFs may be lowered. SUBORDINATED DEBT AND OTHER HYBRID SECURITIES The subordinated debt and hybrid capital ratings are primarily sensitive to any change in the VRs of the bank. LONG- AND SHORT-TERM DEPOSIT RATINGS The ratings of long- and short-term deposits issued by TD Bank, NA are primarily sensitive to any change in TD's VR. SUBSIDIARY AND AFFILIATED COMPANIES The subsidiary and affiliated company ratings including TD Bank, NA are primarily sensitive to any changes in the VR of the bank. Fitch has affirmed the following ratings: Toronto-Dominion Bank --Long-Term IDR at 'AA-'; Outlook Stable; --Short-Term IDR at 'F1+'; --Short-term debt at 'F1+'; --Viability Rating at 'aa-'; --Senior debt at 'AA-'; --Subordinated debt at 'A+'; --Preferred at 'BBB'; --Support Rating at '2'; --Support Floor at 'BBB-'. TD Bank U.S. Holding Company --Long-Term IDR at 'AA-'; Outlook Stable; --Short-Term IDR at 'F1+'; --Support Rating at '1'. TD Bank, NA --Long-Term IDR at 'AA-'; Outlook Stable; --Short-Term IDR at 'F1+'; --Long-term deposits at 'AA'; --Short-term deposits at 'F1+'; --Senior debt at 'AA-'; --Support Rating at '1'. TD Capital Trust III, IV Northgroup Preferred Capital Corporation --Preferred at 'BBB'. 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