Shorting Canadian Banks

The financial writer and strategist Jack Ablin once provided a report to the analysts at the Canadian bank where I worked to talk about what really drives Canadian bank stocks, an important metric given the valence of stock prices to compensation.

He'd tested a variety of indicators and found that the USD / CAD exchange rate was the strongest indicator of earnings and stock price performance.

I include below a graph showing the stock prices for the three largest Canadian Banks - BMO, TD and RBC - against the USD/CAD exchange. The graph begins in mid-1996, the first date where I could find historical prices on all three stocks. Exchange rate data comes via the FRB. Stock prices are from Yahoo! and are adjusted for divs and splits.

All three companies have increased their exposures to US customers over the last 10 years, which would decrease some of the volatility seen over previous exchange rate cycles. Also, all the banks report declining direct exposure to commodities and minerals.

But Mining, Quarrying, and Oil and Gas Extraction is about 8% of Canadian GDP. Construction is another 7%, and energy related work drives an export economy's construction load.

Consider the indirect lending related to these two businesses in the forms of mortgages, car loans, credit cards to employees and executives of the companies and it doesn't take a great deal of imagination to anticipate a profitable trade shorting these stocks.