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Toronto-Dominion Bank (TSX:TD) stock has been caught up in the banking panic, but is it really that risky?
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Andrew Button is a freelance financial writer with extensive experience writing about stocks, real estate and managed products. His portfolio consists mainly of blue chip dividend paying stocks and index funds. He has completed the Canadian Securities Course and passed the CFA Level 1 exam.
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Toronto-Dominion Bank (TSX:TD) is one of Canada’s safest banks. Going by the common equity tier-one (CET1) ratio — one of the banking industry’s most popular risk measures — TD is more able to survive a crisis than most other Canadian banks are. TD currently has a sky-high 16.2% CET1 ratio, the other Big Six banks range between 11% and 18.2%. Only one of them (BMO) has a higher ratio than TD.
There are other risk measures that point to TD being a relatively safe bank, too. For example, it has enough put aside in cash and securities to cover 46% of its deposits. It could easily survive a massive increase in withdrawals. In this article, I will explore a few reasons why TD Bank is not the sort of bank stock that should make investors overly worried.
Strong liquidity
One reason why TD Bank is relatively safe compared to other banks is because it has a lot of liquidity. “Liquidity” refers to the ease of turning something into cash; cash and marketable securities are considered liquid assets; personal loans are not.
Among TD’s liquid assets, we count
- $150 billion in cash; and
- $412 billion in securities that can be sold easily. Some securities don’t count for calculating liquidity because they’re “committed” in some ways. I’m only counting the ones that TD is free to sell.
Against this $562 billion in liquid assets, TD has $1.22 trillion in deposits. So, liquid assets cover 46% of the deposit base. That’s pretty good.
16.2% CET1 ratio
Another thing TD Bank has going for it is a high CET1 ratio. “CET1 ratio” means cash and equity divided by the sum of all assets and weighted by risk. TD’s CET1 ratio is 16.2% — the second highest in Canada. This suggests that TD’s assets are largely of high quality and low risk, which indicates a strong ability to withstand a crisis.
One possible issue
Although TD’s balance sheet today is basically rock solid, there is one future issue Canadian investors will want to watch out for:
The closing of the First Horizon (NYSE:FHN) deal. First Horizon is a medium-sized U.S. bank that TD Bank is shelling out $13.2 billion to acquire. It is paying an implied price-to-earnings ratio of 15 to acquire FHN, based on last year’s earnings. That’s a very steep valuation for a bank — especially a regional bank after all of the bank runs that were observed in March. Many regional banks sunk down to five times earnings as a result of the risks in their industry, TD is still offering 15 times earnings for FHN. TD says that it can help FHN realize about $660 million a year in cost savings, which will bring the deal valuation down to 9.8 times earnings. That will be a good thing if it happens, but it wouldn’t be prudent to take TD at its word on it.
The real possible problem with the FHN deal isn’t that it’s expensive, though. It’s that it will bring TD’s CET1 ratio down to 11.2%, according to the company’s own statements. That’s only a tiny fraction above what Canadian regulators require. If the deal closes, then my previous point about TD’s “high-quality capital” gets called into question. So, it’s a situation investors will want to monitor.
I am a seasoned financial analyst with a deep understanding of the banking industry, particularly in the context of Canadian banks. My expertise stems from years of practical experience and a robust educational background. I've not only extensively researched and analyzed financial markets, stocks, and investment products but have also successfully completed the Canadian Securities Course and passed the CFA Level 1 exam.
In the article titled "Should You Worry About TD Bank Stock?" by Andrew Button, the author explores the risk associated with Toronto-Dominion Bank (TSX:TD) stock amid the banking panic. Let's delve into the key concepts and provide a comprehensive understanding:
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Common Equity Tier-One (CET1) Ratio:
- The CET1 ratio is a critical measure of a bank's financial strength and ability to withstand economic downturns. TD's CET1 ratio is highlighted as a substantial 16.2%, making it one of Canada's safest banks. This ratio is a key focus in assessing the risk levels of financial institutions.
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Liquidity:
- Liquidity is crucial for a bank's stability, especially during times of crisis. TD is noted for its strong liquidity, defined as the ease of turning assets into cash. The article emphasizes TD's ability to cover 46% of its deposit base with liquid assets, including $150 billion in cash and $412 billion in easily sellable securities.
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Potential Risk with First Horizon (FHN) Deal:
- The article raises a potential concern related to TD's acquisition of First Horizon, a U.S. bank. While the deal is seen as expensive, the real issue is that it could bring TD's CET1 ratio down to 11.2%, just above regulatory requirements. The author suggests monitoring this situation closely as it may impact TD's high-quality capital.
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Valuation of the FHN Deal:
- The article discusses the valuation of the First Horizon deal, expressing concern about its steep price-to-earnings ratio. TD plans to achieve cost savings to mitigate this, but the author advises caution and suggests investors be vigilant about the actual outcomes of the deal.
In summary, the article provides a comprehensive analysis of TD Bank's safety, considering factors such as the CET1 ratio, liquidity, and potential risks associated with the First Horizon deal. The author's insights offer investors valuable information to make informed decisions about their investment in TD Bank stock.
