It seems that the Market works in mysterious ways. We see lots of stories warning about slow growth and slowing earnings and too much debt. And yet the DOW rises over 100 points today. And the S&P 500 hits a new high.
Most of our stock picks were up today. With the markets have done so well in the past 18 months or more (at least if you had a good exposure to U.S. stocks and little exposure to commodities) the danger now is perhaps in becoming over confident.
Toll brothers at its high today was up over 50 cents but then closed down 50 cents at $34.19. I just entered an order to trim my position if it hits $37. At least that way if it rises that high some will be sold automatically. I find that if I see a stock I own has risen it’s not that easy to pull the trigger and trim the position. After all when seeing that a stock has just made you money it’s harder to get in the mood to sell it. So perhaps when it comes to trimming on rallies and buying on dips, an automated approach is best.
This weekend I studied the annual report of Canadian Western Bank closely. It’s a well run company and is very likely to be a good investment over any longer period of time.
A big issue facing banks at this time is compression of their net interest margins. Traditionally banks earn a “spread” by taking in deposits at say 3% and lending out at 6%. In that scenario a 1% drop in interest rates might change that to 2% and 5%, so no big deal. But many deposits have been paying about 0% for several years now. In that case when lending rates go down the spread has to go down since the deposit rate of o% cannot be lowered.
Banks today have many loans outstanding that were made when in interest rates were higher. As those loans are paid off new loans are made but at lower interest rates and lower spreads . That squeezes profits. At Cnadian Western Bank in 2012 they grw loans by a robust 14%. But adjusted earnings per share were only up by 6% due to interest margin compression. 6% earnings per share growth plus a 2.5% dividend is not bad, but it would be better without the margin compression.
As examples of the margin compression that may occur at Canadian Western Bank, residential mortgages averaged 4.06% in 2012. But new five year mortgages are going out at closer to 3%, so I have to think this 4.06% figure is declining. However most of Canadian Western Bank’s loans are commercial loans where they face less competition and they may be able to hold their interest rates up better than is the case for residential mortgages.
It’s interesting to note that Canadian Western had invested in the preferred shares of other banks. These had attractive yields which were taxed at a lower rate. But bank regulators in their “wisdom” have passed new rules that effectively limit CWB from investing as much in those preferred shares.
Despite any struggles that CWB has in the short term, it seems reasonable to forecast that it will continue to grow and be a good investment in the long term.