Earnings Call Transcript - CM Q2 2020

Operator, Operator

Good morning. Welcome to the CIBC Quarterly Financial Results Call. Please be advised that this call is being recorded. I would now like to turn the meeting over to Geoff Weiss, Senior Vice President, Investor Relations. Please go ahead, Geoff.

Geoff Weiss, Senior Vice President, Investor Relations

Thank you and good morning. We will begin this morning's presentation with opening remarks from Victor Dodig, our President and Chief Executive Officer. Following Victor, Hratch Panossian, our Chief Financial Officer, will review our operating results. Shawn Beber, our Chief Risk Officer will close out the prepared remarks with a risk management update. We're also joined in the room by CIBC’s business leaders including Harry Culham, Laura Dottori-Attanasio and Jon Hountalas; as well as Mike Capatides, who has joined us remotely from the U.S. They will be available to take questions following the prepared remarks. As noted on Slide 2 of our investor presentation, our comments may contain forward-looking statements which involve assumptions that have inherent risks and uncertainties. Actual results may differ materially. With that, I will now turn the meeting over to Victor.

Victor Dodig, President and Chief Executive Officer

Thank you, Geoff, and good morning. I hope everyone joining us on the call, including your families and colleagues, are well. And to those on the frontlines providing essential services for healthcare and economic recovery, we'd like to thank you for your courage and for your dedication. I'd like to begin the call by underscoring three essential factors that guide our thinking about our bank in the current environment and as we look to the future. First, we're well positioned to balance the short-term actions necessary to successfully navigate the current challenges as well as advance our long-term strategy. We continue to make strategic investments now to position us for success as we enter the recovery period and beyond. Second, our investments over the past several years to modernize and simplify our bank have allowed us to mobilize early and to respond quickly to the pandemic in support of our clients, our team members and the communities we serve. Third, whether you're building client relationships or managing a public health crisis, your success often rests on your people and their leadership. Our CIBC team has stepped up in remarkable ways over the past several months and it has reinforced that we have a singularly connected team that is bringing a relentless focus on our clients. For our bank, we are leaning in to support our clients at a time when they need our help more than ever, while also ensuring the wellbeing of our team. Since mid-March, we've enabled over 75% of our employees to work remotely, tripling the number from a few months ago. We've also taken significant actions to ensure the wellbeing of our team members required to work on site as they support our clients and keep our operations running smoothly. For our clients, we have helped over a half a million personal, business and corporate clients facing financial hardships, which includes payment deferrals on loans, mortgages, and other credit products, as well as reduced interest rates on credit cards. And we're directly supporting government stimulus programs that have been launched for individuals and businesses in both Canada and the United States. In addition, our industry-leading mobile banking platform and online capabilities have served us well, as more of our clients adopt digital channels to perform their day-to-day banking. This level of digital engagement will become entrenched behavior and the new normal in a post-COVID world. We're well positioned for that new normal and we'll continue to invest in digital to advance our lead. Now it’s important to provide some context on why these numbers and these measures are important. We've consistently acted with the long-term in mind when it comes to client relationships. That's been a driver of our strategy and our investments in recent years. As I've said before, this is our moment of truth on that journey where we've executed decisively on our long-term vision in the midst of a crisis. When we needed to be reactive to meet the urgent need for financial relief among clients, we made it as easy as possible for them to get help, such as creating a simple online form to request a payment deferral, and building a seamless application process for the Canada Emergency Business Account loans in Canada, and the Paycheck Protection Program in the United States. We've also taken every opportunity to be proactive, particularly in light of the sharp increase in the need for advice. Our team has called hundreds and thousands of clients offering advice or just checking in to ensure their banking is in order. We were the first bank to institute a 'you’re next' policy to serve seniors and persons with disabilities in our banking centers. We also proactively extended payment relief to clients who we identified as needing short-term support. And we've been highly visible with our commercial and corporate clients, helping them navigate these challenging markets. These are investments in the bank we are building as one connected team, the CIBC. It's a long-term effort, but we're seeing continued signs of progress. Earlier this month, J.D. Power released their 2020 Canadian Retail Banking Satisfaction Study for the big five banks and CIBC moved up another rank to third this year. That has been a consistent trend for us. We knew when we set out to improve our client experience scores that it would take time, but our progress has been steady, and our unwavering commitment to our clients is being recognized. In addition to helping our clients through this crisis, we continue to support the communities where we live and work. We've increased donations to charities that directly support those most at risk, and more recently established a bursary fund to support the education of the next generation of healthcare workers. Now with that context, I'll review the results of our highlights of our second quarter results. While our results for the quarter were stable on a pre-provision basis, the changes in the economic backdrop that began in March had a material impact on our provision for credit losses. Pre-provision earnings of $1.9 billion reflect the resilience of our core business despite these challenging times. Including the impact of the $1.4 billion provision for credit losses, adjusted earnings were $441 million, resulting in earnings per share of $0.94. Our balance sheet remains strong, and it's underpinned by a solid capital position, with a CET1 ratio of 11.3%. Looking at our business units, COVID-19 has significantly impacted consumer behavior, which has materially affected our results. In Personal and Business Banking, transaction volumes across payment products have declined significantly since social distancing protocols were implemented. These trends negatively impacted fee revenue this quarter. And notwithstanding the macro challenges, we continue to see improving trends and volume growth across our core products, including mortgages and deposits. Our North American Commercial and Corporate Banking businesses saw credit utilization increase early in the quarter, as clients secured liquidity for their businesses. With a large portion of these draws retained, both loan and deposit volume growth accelerated during the quarter. In Wealth Management, market deteriorations that occurred largely in March reduced fees as well as retail mutual fund net sales. And in Capital Markets, market volatility drove higher trading activities as we supported our core clients. And while new equity issuance slowed, we had a record quarter in debt issuance, and there continues to be a strong pipeline for both government and municipal paper. In closing, before I hand it over to Hratch and Shawn for their remarks, I want to leave you with a few key messages. Our core franchise is strong. And while economic headwinds are likely to be here for the near-term, our client focus and our well-diversified business will allow us to get back to pre-COVID levels of profitability as the recovery takes hold. In addition, while there are many unknowns related to the pandemic, its effect on the economy and the path to recovery, what is certain is that our strong capital liquidity will allow us to withstand ongoing stress, while continuing to support our clients and protect our dividend for our shareholders. And finally, disruption creates opportunity. We're continuing to invest for the long-term, with an eye towards strength in technology and innovation, as well as in building relationships so that we emerge on the other side as a stronger bank. We've already fast-tracked some of our investments in technology to support digital engagement, as well as working remotely and we will continue to review other areas of our business to adapt and develop competitive advantages in this new normal environment. We have a talented leadership team that along with our entire CIBC team has stepped up to the challenge. And with that, I'll turn the call over to Hratch for a detailed review of our financial results. Over to you, Hratch.

Hratch Panossian, Chief Financial Officer

Thank you, Victor. Good morning, everyone, and hope you're all doing well. Starting on Slide 9, for the second quarter of 2020, we reported earnings of $392 million and diluted earnings per share of $0.83. Adjusting for the $49 million after-tax item of note reflected in the appendix, we delivered net earnings of $441 million and earnings per share of $0.94. Our results this quarter are net of $1.4 billion provision for credit losses, which captures the full impact of the economic circumstances we anticipated as of the end of the quarter. Provisions were primarily driven by a substantial increase in our allowance for performing loans, reflecting potential credit losses as the economic impact of COVID-19 continues to unfold. Shawn will speak to credit provisions in more detail in his remarks momentarily. Pre-provision earnings of $1.9 billion were relatively stable from the prior year. While COVID-19 impacts presented headwinds in the quarter, our core underlying business performance remained solid, reflecting the resilience of our diversified franchise and continued progress against our strategy over the last year. Revenues of $4.6 billion were up 1% year-over-year, driven by a 13% increase in net interest income as continued growth in client balances and stable margin across our bank more than offset the COVID-related headwinds. In contrast, non-interest income was down 13% as a result of reduced transactional activity by our clients and disruption in capital markets due to COVID-19. Adjusted expenses of $2.6 billion were down 2% sequentially and reflect the actions we have taken to contain expense growth while accelerating some investments to respond to COVID-19 and modernize our bank. We will continue to prioritize selective investments to address the challenges presented during this crisis and to position our bank for growth in the post-crisis period. Overall, net of our ongoing efficiency initiatives, we continue to expect more moderate expense growth in the second half of the year as compared to the first. This quarter highlighted the strength and resilience of our balance sheet. As shown on Slide 10, we entered this crisis in a strong position and have maintained that strength. During the quarter, we supported our clients with our balance sheet, absorbed a material increase in credit allowance and maintained our dividends while continuing to build our book value, capital, and liquidity position. Our CET1 ratio remained stable at 11.3%. Excluding performing provisions, internal capital generation and implementation of the internal model method for counterparty credit risk benefited capital this quarter. These items were largely offset by an increase in RWA deployed in support of our clients. The impact of provisions on performing loans was mostly offset by associated changes in capital deductions and the CET1 add back for OSFI's transitional arrangement. Our ending capital position provides us with a buffer of approximately $6 billion in capital or over $65 billion in RWA relative to the 9% regulatory minimum. This represents a 30% increase from current credit RWA levels, which is significantly beyond the internal credit migration estimates even in severe downside scenarios. Our liquidity ratios were also strong, improving throughout the quarter as we preemptively built up our liquidity reserves. Our average liquidity coverage ratio for the quarter improved to 131% as a result of strong deposit growth and our continued access to funding markets throughout the quarter. Going forward, our resilient balance sheet positions us well to absorb any future stress or market disruption while continuing to support our clients and our dividends as the impact of COVID-19 unfolds. Slide 11 reflects our Personal and Business Banking results. Net income for the quarter was $204 million, down 64% from last year due to a higher provision for credit losses and revenue headwinds related to COVID-19. Revenues of $2.1 billion decreased 2% year-over-year due to pressure on fee income in the current environment. Net interest income was stable year-over-year as growth in client balances was offset by the impact of lending accommodations to support clients experiencing financial hardship. Non-interest income for the quarter was down 9% due to significantly lower transaction activity, particularly in payments and deposits due to the ongoing social distancing measures across Canada. Net interest margin of 244 basis points for the quarter was down 3 basis points from last year and 7 basis points sequentially, largely due to the impact of prime BA compression and COVID-related interest relief this quarter. Going forward, if rates are unchanged from current levels, we expect NIMs to experience gradual pressure as we continue to absorb the impact of the recent changes in the yield curve. Expenses of $1.1 billion were up 2% year-over-year but down sequentially, as we reallocated resources through the quarter to react to COVID-19, while optimizing our cost base. We are continuing investments to further advance our leading mobile and digital capabilities, but have reduced investments in our physical footprint and other initiatives from the prior year. We will balance our level of investments through the back half of the year, guided by changes in market conditions as they evolve. Slide 12 shows the results of our Canadian Commercial Banking and Wealth Management business where our core business performed well, driven by continued growth in client balances. Net income for the quarter was $206 million, down 37% from a year ago due to the higher provision for credit losses. Pre-provision earnings were stable with underlying revenue growth of 3% and a 5% increase in non-interest expenses. Commercial Banking revenues were up 3% from a year ago, benefiting from continued volume growth and favorable rates, offset in part by lower advisory fees. Deposit and lending balances were up 13% and 9% respectively, as we saw balanced portfolio growth throughout the year and continued supporting our clients with incremental credit needs in the quarter. Wealth Management revenues were up 3% primarily driven by higher fee-based assets and trading volumes in our full-service brokerage business due to the market volatility in the quarter. The 5% increase in expenses reflects higher revenue-based variable compensation and hiring of client-facing roles over the course of 2019. We are continuing to invest in our digital capabilities to support our clients and our team over the remainder of 2020 but expect expense growth to moderate. Turning to Slide 13, U.S. Commercial Banking and Wealth Management results reflect continued growth in our U.S. client franchise and market share gains. Net income for the quarter was $35 million, down 80% from the prior year due to the higher credit provisions. Pre-provision earnings growth continued to be strong at 16% year-over-year in Canadian dollars, or 12% in local currency. Revenues were up 11% or 7% in U.S. dollar terms over the last year. Double-digit volume growth and higher asset management fees more than offset headwinds related to the significant decline in rates over the last year and a mark-to-market loss in the discontinued CMBS business due to the market disruption this quarter. Average loans grew 22% from a year ago in U.S. dollars, reflecting continued momentum in client development and our advancement of loans as part of the Paycheck Protection Program later in the quarter. Deposits outpaced loans growing 24% from a year ago, as new and existing clients continue to entrust us with their cash management and investment needs. Net interest margin was 305 basis points, up 3 basis points sequentially and down 27 basis points from a year ago. The modest NIM improvement this quarter was helped by reductions in deposit pricing that follows the Federal Reserve rate cuts, while LIBOR declines lagged through the end of the quarter. While there can be some quarterly volatility, a prolonged low rate environment and in particular the recent downward trend in LIBOR will pressure core margins downwards going forward. Non-interest expense growth of 6% from the prior year was impacted by FX translation. The constant dollar increase of 2% reflects our continued growth investments in this business, net of the impact of our efficiency initiatives and a significant reduction in travel and business development expenses. Slide 14 covers Capital Markets results. This quarter we stood by our corporate and institutional clients through the market disruption, generating strong revenues despite the impact of significant dislocation in some markets. Net income of $137 million was down 52% from a year ago, driven by a higher provision for credit losses. Pre-provision earnings were up 6% over the year due to the continued growth of core revenues offset by expense growth related to the strategic investments to expand our platforms. Revenues of $824 million were up 9% from a year ago, mainly due to the higher client trading activity and interest rates and foreign exchange, growth in Corporate Banking and higher debt underwriting. The performance of these businesses more than offset lower equity derivatives revenue, valuation adjustments driven by wider funding and credit spreads and reduced market activity in advisory and equity underwriting. Average loans were up 21% as we supported our clients through this crisis, providing incremental access to funding and financial flexibility as part of our lending accommodation. Non-interest expenses were up 12% from a year ago, primarily driven by higher spending on ongoing growth initiatives, particularly in the U.S., and expenses associated with higher trading volumes. Finally, Slide 15 reflects the results of the Corporate and Other business units. Net loss for the quarter was $141 million, compared with net income of $5 million for the prior year, driven by lower revenues and higher provisions for credit losses, while strong expense management provided an offset. Lower FCIB revenues were impacted by write-downs in debt securities and declines in rates as a result of the COVID-19 pandemic. Treasury revenues were also lower this quarter, primarily due to the impact of the increased level and cost of our liquidity reserves. As mentioned previously, we anticipate completing the sale of our controlling interest in FCIB, subject to regulatory approval, and we'll provide updated guidance for this segment at that time. And with that, I will turn the call over to Shawn.

Shawn Beber, Chief Risk Officer

Thank you, Hratch, and good morning. Before turning to our provisions, I'd like to provide a few high-level thoughts on our credit portfolios in the context of the current economic situation. First, our portfolios have performed well heading into this crisis. Nearly two-thirds of our outstanding loans are to consumers, the majority of which are mortgages, with our uninsured mortgages having an average loan to value of 53%. The balance of our portfolio is in business and government lending, with an average risk rating for the portfolio equivalent to a BBB plus. Second, given the unprecedented dislocation that has occurred since we last reported our results to you, we have performed various analyses and exercised judgment to determine our provision for credit losses this quarter, particularly with respect to the provision for performing loans. And third, we have also provided incremental disclosure this quarter to help you better understand select industry exposures. While acknowledging the uncertainty in the path forward for the global economy, if our current economic estimates materialize close to forecast, we would not expect to see notable increases in performing allowances from here. With that context, turning to Slide 18, the total provision for credit losses of $1.4 billion was higher quarter-over-quarter, mainly due to performing loan loss provisions driven by unfavorable changes to the macroeconomic outlook that informs our forward-looking indicators, reflecting the impact of the COVID-19 pandemic. For impaired loans, the provision this quarter was $343 million, up $99 million from the prior quarter, mainly due to a few impairments in Canadian Commercial Banking and the oil and gas sector within our Capital Markets business. Given the current environment, we have provided additional information this quarter on the composition of allowance and our provision on the following slide. Turning to Slide 19, allowance for credit losses grew by 59% to $3.3 billion this quarter with our coverage ratio to gross loans increasing from 51 basis points to 78 basis points. On our performing provision of $1.1 billion this quarter, we have provided more details on the bottom left of the slide. The first column represents our model provisions, which incorporates revisions to the forward-looking indicators, along with changes to the case weightings based on input from our economics division. We made a number of further adjustments to reflect the circumstances this quarter that netted to a reduction of $122 million, which I'll now describe. We adjusted certain forward-looking indicators used in the model to reflect the benefits of government relief programs on our consumer and business and government portfolios that we do not believe our models would have otherwise captured. The outcome of these adjustments materially reduced our model provision. In addition, we performed a bottom-up review on select segments of our portfolios. We applied qualitative factors to these impacted portfolios for the impacts we believe were not captured in our model-driven provisions, including additional future credit migrations. This bottom-up review resulted in our recognizing additional performing provisions which offset a majority of the adjustments we had made to reflect the benefits of government support. As I mentioned, the net result of these adjustments is a reduction of our model provision by $122 million, which is reflected in the second bar in the chart. Lastly, we had other portfolio movements including credit migrations and parameter updates that added $136 million to the provision. All in all, this resulted in a total provision on performing loans of just under $1.1 billion for the quarter. On Slide 20, we’ve provided incremental disclosure on our wholesale exposure to oil and gas, which represents 2.5% of our total loan portfolio with 54% in the exploration and production sub-sector. Our total allowance for credit loss coverage for this segment was 4 times our current impairments this quarter. Looking at the oil provinces from a retail perspective, with 78% of our retail loans being secured and our uninsured mortgage portfolio in these provinces having a loan-to-value of 67%, we remain comfortable with our overall exposure. Slides 21 and 22 provide details on select industries in vulnerable sectors that have been particularly impacted by the various protection measures put in place as a result of the pandemic. These include industries in leisure and entertainment, retail as well as certain asset classes within our commercial real estate portfolio. 38% of leisure and entertainment exposure and 50% of retail exposure were investment-grade at the end of this quarter. For commercial real estate, 71% of our Canadian portfolio and 42% of the U.S. portfolio were investment-grade. We have introduced relief programs for our corporate and commercial clients experiencing hardship in addition to support programs offered by governments to provide assistance as they navigate through this difficult time. The next slide provides an overview of our gross impaired loans. Gross impaired dollars were up in both consumer loans and business and government loans, mainly due to COVID-19 and continued pressure on oil prices. The increase in consumer loans was mainly driven by marginally higher impairments in our Canadian mortgage portfolio. Given the moderate average loan-to-value ratio of this portfolio, we do not expect this increase in gross impaired balances to translate into material losses. In addition, the increase in formations this quarter was mainly driven by loans in our Canadian Commercial Banking segment along with higher impairments in the oil and gas sector. Slide 24 shows the net write-off and 90-plus day delinquency rates of our Canadian consumer portfolios. At this stage, our write-offs continue to remain relatively stable other than seasonal trends within our credit card portfolio. We do expect consumer write-offs to increase late in the second half of 2020 once deferral programs that were put in place in Q2 end, at which point we will likely see a resumption of delinquency and write-off trends. The overall Canadian consumer late-stage delinquency rate was up this quarter with a higher rate in residential mortgages and a lower rate in credit cards. As I mentioned earlier, we do not expect the increase in mortgage delinquencies to translate into material losses. The decrease in credit cards was mainly due to the client relief programs instituted in Q2, which prevented certain clients from becoming increasingly delinquent during the quarter, resulting in fewer accounts flowing through late stage delinquency. Excluding the benefit of payment deferrals, the delinquency rate on credit cards would have been 115 basis points versus 66 basis points shown in the chart. We've included this adjustment in our provisions for performing loans to account for the anticipated increase in delinquencies and potential write-offs in future quarters. On Slide 25, we've shown our trading revenue and VAR distribution throughout the quarter. Given market volatility in Q2, VAR increased throughout March and April, peaking at $22 million near the end of March. We also experienced 14 negative trading days in March and April. These were mainly driven by losses in equity derivatives, precious metals and the impact of negative oil pricing. This is in the context of volatility this quarter that in many respects was more significant than during the 2008, 2009 financial crisis. I would also note that much of these mark-to-market losses were recouped in April as markets rebounded. In closing, I'd like to reiterate the extraordinary economic backdrop this quarter. As I noted in my opening remarks, assuming our forecasts remain unchanged, we would not expect to see further material increases in performing allowances this year. Having said that, none of us know how long this crisis will last, or how effective the government support and relief programs will be in acting as a mitigant to potential losses. We remain comfortable that our prudent underwriting approach has positioned us well to manage through this period while continuing to support our clients. Operator, I’ll now turn the call back to you for questions.

Operator, Operator

Thank you. The first question is from John Aiken from Barclays. Please go ahead.

John Aiken, Analyst

Good morning. Hratch, you mentioned in terms of the sale of FirstCaribbean that you’re expecting to go forward. My understanding though is that there's potential price adjustments based on book value. Do you see any impact on the pricing of this deal because of what happened in FirstCaribbean this quarter? Or alternatively, is there any impact on the timing you expected to close?

Hratch Panossian, Chief Financial Officer

Sure. Thank you, John. And good morning. I would say on the price adjustment side, we've made references before to the way the agreement is structured. So any changes in book value, and as mentioned in our disclosures, would flow through to that. But that doesn't mean there's a price adjustment. So the agreement is as it is. It just reflects changes in the book value between agreement and close. And so, that would happen as normal course. However, I will say on the economics that, that structure actually guarantees us that the economics with that respect stay the same. So we've looked at and recalculated the impact of the close. And you'll see as this goes on our capital side, we still anticipate 40 basis points roughly benefit when we close that transaction. And in terms of timing, as we've disclosed, again, we are working through regulatory approval processes. And that's what is between now and close. And so, obviously the COVID-19 situation and shutdown of certain government bodies including regulators, and the workload can impact that but we still are anticipating later this calendar year.

Operator, Operator

Thank you. The next question is from Ebrahim Poonawala from Bank of America Securities. Please go ahead.

Ebrahim Poonawala, Analyst

Good morning. I have a follow-up question for you, Shawn, regarding your comments on performing PCLs. Can you provide some clarity on how sensitive the model is to the unemployment outlook? Specifically, could you discuss what you are factoring in regarding unemployment as we look at the first half of 2021 in the housing market? That would be helpful.

Shawn Beber, Chief Risk Officer

Sure, Ebrahim. We have collaborated with our economics department to analyze various scenarios, weigh them accordingly, and conduct our modeling exercise. Our base case indicates a U-shape pattern, starting with a significant contraction in GDP and a rapid increase in unemployment. As the economy reopens, we expect a quick initial recovery, followed by a more gradual improvement. We project that GDP will not return to the levels seen at the end of 2019 until late 2021 or early 2022, while unemployment will recover after that. Regarding house prices, we anticipate a decline of a little over 6%, between 6% to 7%, over the next two years, followed by some recovery in the subsequent year.

Ebrahim Poonawala, Analyst

Got it. And just on that, so you mentioned this was probably the high watermark absent the macro change on forward PCLs? Do you feel the same way about just total PCLs? Or do you think that impairment and credit migration could actually push absolutely a level higher than what we saw in 2Q as we move later in the year?

Shawn Beber, Chief Risk Officer

Yes, based on our forecast and various analyses, which includes a bottom-up analysis of impacted sectors, if things develop as we've projected and considering the risks we recognize today, we do not anticipate needing to significantly increase our allowances. Regarding impaired provisions, we expect to see some degree of credit migration and possibly a transition of some performing provisions into impaired provisions. Overall, we do not expect the allowance number to increase significantly.

Operator, Operator

Thank you. The next question is from Gabriel Dechaine from National Bank Financial. Please go ahead.

Gabriel Dechaine, Analyst

I just want to ask about the deferrals, and interesting that you’ve put the proactive and reactive descriptions in the card portfolio. That kind of hints at like need versus accommodation or tactical use of such a deferral program by some borrowers. I'm wondering if you talk about it across the whole book and especially on the tactical because if those numbers are quite high, it can give us comfort in how these deferral numbers are going to decline over the next few quarters and result in a much lower impaired loan number?

Victor Dodig, President and Chief Executive Officer

Good morning, Gabriel. It's Victor here. I wanted to just comment on that and I'm going to hand it off to Laura, where the largest number of deferrals occurred in our Canadian Personal Business Bank. At the outset of this pandemic, it was clear to us based on the inbound calls and based on the economics that we saw out there, that clients are feeling anxiety and hardship. Some was real financial hardship, some was perceived financial hardship. And we wanted to deal with them as expeditiously as possible. So we dealt with that on mortgages. We set up a digital form that made it very easy. We on credit cards decided that there was a group of clients that we wanted to offer relief to on a proactive basis based on their real hardship, because alleviation of hardship means alleviation of hardship. And that's what we set out to do for those clients, while at the same time recognizing that there were clients that we needed to open the lines for requests for alleviation and that was a reactive group. In our Commercial Bank and our Corporate Bank, we also worked with our clients on a deferral basis, and/or to negotiate new lines of business. So we're highly and actively engaged. I think your question specifically relates to the proactive piece. So I'll hand it off to Laura to speak to that.

Laura Dottori-Attanasio, Senior Vice President

Good morning, Gabriel, and thank you, Victor. As Victor mentioned, our top priority during the crisis was to assist our clients. You may have noticed in the news that we were among the first to announce various deferral programs, including lowering interest rates. During the pandemic, a national poll of Canadians ranked us first among the big six banks in our handling of COVID, which is significant for us as we take pride in doing the right thing. This was a conscious decision we made early in the crisis. We aimed to provide cash flow relief to clients who we believed needed it most, including those who reached out for help as well as those we identified as potentially in need, such as those who had missed or been late on payments. Our goal was to support these clients during a challenging time and to minimize delays in calls to our call centers. Importantly, we recognized that many would benefit from this assistance. To share some statistics, we granted 108,000 mortgage deferrals, accounting for 18% of our total outstanding mortgages. For credit cards, around 7% of clients requested deferrals, and 9% received proactive relief, totaling 16%. It’s worth noting that we have observed our clients acting very responsibly during this period. They have reduced their spending and not increased their debt levels. In fact, utilization rates for both secured and unsecured lines have fallen. Among those who were offered proactive relief, nearly 60% still made voluntary payments on their credit cards, reflecting how responsibly Canadians are managing their finances during this time. Does that address your question, Gabriel?

Gabriel Dechaine, Analyst

If you could let me know, around 80% of these deferrals are from individuals who have taken a payment holiday while they work through their situations. I expect that those accounts will return to performing and making payments when their six-month period is up. That's what I was inquiring about.

Laura Dottori-Attanasio, Senior Vice President

Yes, we provided six months of deferrals for most of our mortgage clients and two to three months of deferral with lower interest rates for our card clients. I believe your comfort comes from that segment of the population where we proactively deferred payments. As I mentioned, just under 60% of those individuals made voluntary payments on their cards.

Gabriel Dechaine, Analyst

Okay. My next question is about capital. Hratch, you mentioned credit migration. A bank yesterday provided some sensitivity on migration, indicating that if everything were to be downgraded by a notch, there would be a 100 basis point hit to the capital ratio. I was wondering if you have any insights on that scenario.

Hratch Panossian, Chief Financial Officer

Yes, I can provide more details on that. Our capital is resilient, and we expect it to remain so to address migration. This quarter, the CET1 migration was only about 5 basis points, but we anticipate it to increase over time. Looking at our portfolios, particularly the wholesale segment, we project an RWA impact from migrations of approximately 80 basis points to CET1. Additionally, we might see increases in expected credit losses. Overall, we expect about a 100 basis point impact over several quarters, which would indicate a significant scenario where the entire book downgrades by one notch. However, we are starting from a strong position, with our corporate and sovereign book showing that nearly 82% of our exposures had a probability of default under 0.5%. This is a solid foundation from which we can absorb potential impacts. In our forecasts, we believe our capital will remain stable in the absence of credit migration. While it's challenging to predict exact outcomes, we do expect some credit migration, likely around 40 basis points. In more extreme scenarios, we see potential impact levels still around 10%, possibly up to 10.5%. Even in a severe stress situation, we still maintain a significant buffer above the regulatory minimum.

Operator, Operator

Thank you. Your next question is from Scott Chan from Canaccord Genuity. Please go ahead.

Scott Chan, Analyst

Laura, I was wondering if you could offer any update on client behavior trends post quarter. In terms of what you're seeing on the mortgage origination side or personal or card side would be helpful? Thanks.

Laura Dottori-Attanasio, Senior Vice President

Sure. Good morning, Scott. Well, I’d tell you, post quarter does feel better than what we went through during the quarter. That said, I'd still expect to see I'd say slower demand for credit, and that's just reflecting the new reality that we're in, let's see. We're seeing, I’d say, deposits, balances those continued to increase. That feels good. On the mortgage side, pre-crisis, I'd say we were feeling good in that, as you've probably seen we reversed that declining growth trend, and are now in a positive trajectory. That said, still not good enough in terms of where we'd like to be. But we were trending in the right direction. I’d tell you sort of post quarter end we are seeing some of those applications drop off, which I think is normal, given the circumstances. But on the credit card side for as much as we saw did drop off, particularly in April in terms of purchase volumes and new applications. We're actually seeing a much improved pipeline, as it relates to number of applications coming in including purchase volumes that have come up. And so, feels a lot better. That said, I think we're going to see slower demand, if you will, for credits on a go forward basis. Does that answer your question?

Scott Chan, Analyst

Yes, it does. Thanks. And just for Shawn, just a follow-up on your scenario analysis, I guess response on performing loans on the allowances. For the housing prices, when you say 6% to 7% over two years, is that over two years or is that 6% to 7% each year?

Shawn Beber, Chief Risk Officer

No, over the two years.

Scott Chan, Analyst

Over the two years. And when you find the weights to the different scenarios, can you quantify the weights for us?

Shawn Beber, Chief Risk Officer

I don't think we've historically disclosed that. We didn't move a bit towards our upside case, but that was more a reflection relative to prior quarters, but that was more a reflection of the fact that our base case now reflects more of a recessionary environment.

Operator, Operator

Thank you. The next question is from Steve Theriault from Eight Capital. Please go ahead.

Steve Theriault, Analyst

Victor, in your opening remarks, you talked about looking forward to getting back to pre-COVID levels of profitability. That's been a big question. It hasn't always been the case. Obviously last cycle, put pressure on our ROEs. Can you just maybe elaborate a bit on your confidence there and talk about some of the risks to that outcome?

Victor Dodig, President and Chief Executive Officer

Yes, good morning, Steve. We all have a general understanding of the current economic situation. My perspective, along with the views at CIBC, is that the government stimulus programs in both Canada and the United States are aiding in the recovery of demand as we navigate through this. Some sectors will clearly rebound more quickly than others. The discretionary economy, including travel, entertainment, and leisure, which are often mentioned, will likely face a longer recovery period. Our economists predict that GDP will shrink in the high single digits this year for both Canada and the United States but should rebound next year. There are various ways to describe this recovery, but I believe it's best to evaluate it on a quarterly basis. When I mention the return to pre-COVID levels, it involves numerous steps we need to take. We must continue to capture market share and build deeper relationships with clients across all our business areas, which you can already observe in our operations. While some aspects of our portfolio show improvement, there are still areas that require attention. We need to keep working on transforming our cost structure, a program we initiated last quarter to enhance our bank's efficiency ratio to a more typical level. If we successfully improve our portfolio's performance and if the economic recovery takes hold—which I believe it will, given the significant global stimulus—we should see growth return. It may take until late 2021 or early 2022 for the banking sector to regain strength, assuming we have moved past the healthcare crisis. I’m confident in our strategy and will continue to implement it. I believe that over the coming quarters, you will witness the resilience of our business results, and we will strive to outperform our competitors as much as possible.

Steve Theriault, Analyst

Okay. Thanks for that Victor. Second question for Hratch, I think the margin is up 3 basis points in the U.S., you talked about a decline going forward Hratch. Can you put some numbers around that, either some numbers around that or the timing with which it will take for margins to kind of settle out all else equal post rate cuts?

Hratch Panossian, Chief Financial Officer

It's a bit challenging to provide precise figures at this moment because we anticipate some fluctuations in the upcoming quarters. For instance, considering the Paycheck Protection Program and its possible extensions, this may temporarily affect our balance sheet. However, for the longer-term outlook, we believe our business will be more stable now than it has been in the past, as we have adequately hedged our balance sheet. Generally, we expect LIBOR to decrease, leading to modest pressure in the long run. Once the effects of the BBB program subside, we should see the impacts of the recent LIBOR changes more clearly, and things should stabilize if there are no further changes. In our disclosures, you will notice a 25 basis point adjustment to our current rates, which is significantly higher than before due to some deposit floors. Within that figure, we estimate around $15 million from the U.S., so you can review how rates have shifted in comparison to what we indicated previously. Overall, this will help clarify our current position.

Operator, Operator

Thank you. Your next question is from Meny Grauman from Cormark Securities. Please go ahead.

Meny Grauman, Analyst

Following up on Steve's question, Victor, regarding the future, you mentioned a lot about digital investments and capitalizing on the current opportunity. However, I am curious about the potential opportunity to significantly reduce the branch footprint. Is this something you believe should be considered?

Victor Dodig, President and Chief Executive Officer

How are you doing, Meny? Nice to hear your voice. So a couple of things I'd say about our physical footprint. We've kind of gone in a period of a journey of transformation in terms of modernizing the footprint where we're moving transactions out of our banking centers and moving advice into our banking centers. And that's the trend that I think you'll continue to see. I believe that now our transactional level is 91% and 92% of transactions are conducted either via an ATM, your tablet or your online banking platform, which is all encouraging. We see that going to 95%. But our belief over time is that people and people interaction, whether it's through some sort of safer distance measures or not, are going to be an important part of the banking equation. So, while banking centers may drop in terms of overall numbers, and they become smarter and lighter in terms of footprint, I think they'll be an important part of our value proposition, particularly in the Canadian marketplace over time. You'll see some shrinkage but they'll play an important role in building those client relationships. The other thing I'd add is that shrinking the number of banking centers doesn't necessarily improve your profitability that dramatically. What improves your profitability dramatically is your ability to attract the client relationships. We wish to attract and make sure they’re deep and meaningful relationships, so that you can see those numbers flow through both our ROA and our ROE, and that we can generate the healthy capital that we believe we will generate through our business model going forward.

Meny Grauman, Analyst

Thanks for that. While discussing the future, I wanted to ask about taxes. With tax increases being inevitable as we cover all segment spending and potentially more, at what point should we be concerned about government or public debt becoming unmanageable?

Victor Dodig, President and Chief Executive Officer

Well, look at citizens we should always be concerned about what is the right level of debt to share the burden and then making sure that our countries are strong, well, the Canada, United States and other countries we operate in. I'm not going to talk about whether tax increases will happen or not. What I will say is that what matters most is economic growth, and policies that stimulate growth so that the economy can slowly retire the debt that's been incurred from this. We have the benefit of low interest rates that help but all policies need to point to growth as we move into the recovery period. There's obviously a recovery period. There's going to be a reconstruction period, both for our bank as we continue to accelerate our transformation and our country as we move to a more modern economy. And I think this pandemic has opened our eyes to the ability to move swiftly in that regard. And the only thing I would continue to advocate all our government leaders to focus on is growth, because that'll raise the standard of living for everybody involved. And that's what we continue to advocate for. We continue to talk, engage with policymakers to make sure that our GDP can get up to a robust enough level, so that our standard of living continues to improve for all Canadians and Americans.

Operator, Operator

Thank you. Your next question is from Sumit Malhotra from Scotiabank. Please go ahead.

Sumit Malhotra, Analyst

Thank you and good morning. My first question is for Hratch, and it concerns your capital slide on Page 10. From what I've noticed, the transition aspect had a 10 basis point impact. Regarding the capital deduction, the supplemental disclosure indicates that the removal of the shortfall, which had previously been in the $500 million to $600 million range, contributed to the capital boost. Hratch, considering that the bank recorded $2.2 billion in performing provisions this quarter, does that suggest there is now approximately $1.5 billion as a buffer on this line? Would this need to be addressed in the model before the deduction could potentially reappear? I'm curious whether this deduction could come back, as it clearly benefited capital this quarter.

Hratch Panossian, Chief Financial Officer

Good morning, Sumit. I hope you’re doing well. Let me provide some insights on that and connect it to the ECL transition as well, so you can understand the trajectory moving forward. The capital shortfall or deduction pertains to the difference between our expected loss allowance and what our regulatory capital models reflect. This was established to ensure that we maintain either allowance or capital that covers the full range of losses, including both expected and unexpected losses as part of our capital framework. Prior to this crisis, there was about a $550 million deduction in that area. When we increased our performing provisions, primarily in stages one and two, which now amount to approximately $1.1 billion, it did not affect the regulatory expected loss—this only changes as ratings and downgrades occur. After considering tax effects and other complex calculations, we actually transitioned from a shortfall to a surplus. The ECL transition framework introduced by OSFI has made it so that when in surplus, we can now add this back to our CET1, which wasn’t possible before. Moving forward, the main factor affecting capital will be changes in regulatory expected loss, primarily driven by migrations. So, I would suggest focusing on migrations rather than the shortfall at this point.

Sumit Malhotra, Analyst

And that is more a reflection of what we've been discussing for a lot of this call, the trends in the underlying portfolio. The higher expected loss provision you took this quarter is what prompted the shift from this deduction to now being flat from a capital perspective, at least regarding that line.

Laura Dottori-Attanasio, Senior Vice President

The composition has changed as we've invested time over the years in strengthening our client relationships, so they are no longer just single product clients. History indicates that stronger relationships lead to better outcomes regarding losses. Additionally, our risk team has made significant improvements in credit adjudication, which has contributed to the noticeable reduction in our loss rate. However, I want to be cautious given the unprecedented times we are in, as it's uncertain how conditions might evolve. That said, I believe that because we have effectively reduced the loss rate in a stable environment, it is reasonable to expect that any changes won't revert to previous levels, thanks to the strong risk management and the deepened client relationships we've developed over the years. Therefore, we should perform significantly better in this current situation compared to earlier years.

Operator, Operator

Thank you. Your next question is from Sohrab Movahedi from BMO Capital Markets. Please go ahead.

Sohrab Movahedi, Analyst

Thank you. I would like to follow up on what you mentioned, Laura, regarding the slower demand for credit, particularly in mortgages. To rephrase Sumit’s question, do you foresee a risk of needing to return to a single product focus in credit cards as you seek growth in Canadian small business and personal banking?

Laura Dottori-Attanasio, Senior Vice President

Thank you, Sohrab. I wouldn't view that as a risk; it's a natural part of growth. You need to begin somewhere, and that often starts with an entry-level relationship, like a credit card. We are observing industry trends that suggest clients may be shifting toward more single-product relationships. However, no matter the product we initiate with, whether it's a transactional account, credit card, or mortgage, our objective is to provide comprehensive client service. We aim to expand our relationship with clients, ensuring it evolves into a deeper connection. I wouldn't say we wish to limit ourselves to just offering credit cards, as that might indeed be the starting point of our relationships. It's important to know that our ultimate goal will always be to enhance these relationships, which not only supports revenue generation but also aids in risk mitigation. This deeper understanding of our clients enables us to deliver even better service. Overall, it’s a win-win situation, and it's perfectly acceptable to start with just one product. Does that address your question?

Sohrab Movahedi, Analyst

Yes, that's helpful. Shawn, could you elaborate on the allowances and required provisions? Are you able to provide insight on vintage analysis? Is there any indication that the significant growth in mortgages in previous years may have resulted in higher allowance requirements now, or regarding the growth in PrivateBankorp since the acquisition? Have you conducted any vintage analysis to identify any unusual patterns that might explain the high credit reserve requirements?

Shawn Beber, Chief Risk Officer

No, Sohrab, I wouldn't consider vintage to be an issue. Credit adjudication standards have not been relaxed since the PrivateBank acquisition, and we have maintained those standards. We've been growing, and I'll let Mike make a few comments about that business shortly. Similarly, on the mortgage side, I don't believe we've changed our standards regarding our growth. I'll pass it to Mike, and then perhaps Laura can address the mortgage aspect.

Mike Capatides, Executive Vice President

Sure. Thanks, Shawn. I'll remind everyone of some of the earlier comments we made during the acquisition of the PrivateBank. One of the notable positives we identified at that time was the credit culture, which allowed for a smooth vintage analysis regarding the loans and clients we integrated. Therefore, I want to emphasize that you should not expect any negative vintage analysis from the loans we acquired through the merger or the loans we've added in the past couple of years and those we will attract going forward. We maintain consistent credit quality. That said, we are experiencing unprecedented times. Some of our clients in specialty lending areas, such as healthcare, construction, engineering, and insurance, are currently performing well, while others, like retail and hospitality, face more challenges, although our exposure there is relatively limited. For the most part, these trends are reflected in our usual provision for impaired loans. I would also like to note that despite the challenges we've faced in recent months, we are seeing good growth as deals in our pipeline are closing and our investments in additional personnel and capabilities continue to attract new clients. Hopefully, this provides some insight. I'll hand it over to Laura.

Laura Dottori-Attanasio, Senior Vice President

Having been in the risk management position for some time, I wanted to emphasize that the client vintage related to mortgages you've mentioned is one I monitored closely during its origination and continue to do so. Since I oversaw the evaluation processes then, I want to reiterate what Shawn highlighted: when we compare this vintage to others, the key takeaway is that their performance is consistent. In fact, some of the specialized programs we implemented during that period, like those for foreign income, have not only aligned with the overall delinquency rates but also show a lower loan-to-value ratio. Therefore, there is nothing to be concerned about.

Shawn Beber, Chief Risk Officer

We are not observing any impairments at this time. The numbers reflect a slight increase in the U.S. commercial portfolio, but we are not facing those challenges currently in this part of the year.

Operator, Operator

Thank you. Your next question is from Doug Young from Desjardin Capital Markets. Please go ahead.

Doug Young, Analyst

Shawn, referring to Slide 19, bottom left, when you discussed the progression of the performing loan PCL, the 122 and the 136. It appears that 136 includes credit migration, and I hope you can clarify this. How much of the 136 is related to credit migration? Additionally, could you explain the methodology and thought process behind this, and if possible, quantify the credit migration you are factoring into that number?

Shawn Beber, Chief Risk Officer

We noticed some credit migration during the quarter, mainly in the oil and gas sector, which has been under pressure. Our Capital Markets impairments this quarter were primarily driven by this sector. The 136 figure reflects credit migration, and it's anticipated that less than 100 million of that is due to this factor. It's still early in the cycle since the pandemic began to observe this migration. Our provisions are based on our expectations regarding this trend, and we anticipate it will materialize in the upcoming quarters. I hope that addresses your question.

Doug Young, Analyst

So that's many banks and many days, but the migration you see so far in the quarter is what you're looking at. Are you expecting further migration in that number?

Shawn Beber, Chief Risk Officer

Yes, so that was this quarter. And so we would expect to see further credit migration for over the coming quarters, which is reflected to some degree, as you look at our provision build, and what we're sort of looking out forward, how we expect things to sort of materialize over coming quarters.

Doug Young, Analyst

Yes. The figures of minus 122 and positive 136 represent a management adjustment to some extent. Is that the correct way to interpret it, or can you clarify how much of this is not just the management adjustment?

Shawn Beber, Chief Risk Officer

Sorry, not the 136. The 136 is parameters and actual experience migration. The 122 is the net of all of the various adjustments that we’ve made to reflect government support, bottom-up analysis across various portfolios that we think are particularly impacted by COVID-19. So that netted to that $122 million number, but there was a decent amount of travel positive and negative to ultimately get to that number, relative to sort of the original 1.55 billion on the left side.

Hratch Panossian, Chief Financial Officer

Yes, it is new and was one of the changes announced by OSFI during their review. I can't comment on how long it will last, but it was introduced at this time, along with the reduction in the counter-cyclical buffer to allow banks to assist clients. That is its stated purpose. However, I cannot predict what the regulators may do in the future. From our perspective, we are closely monitoring the migrations in the portfolio, and we are optimistic about the trajectory moving forward. This reflects about 10 basis points for us now. If we observe those migration figures I mentioned, which indicate some portfolio deterioration, part of that will be the removal of add backs, and regarding Sumit’s question, we might start considering deductions again. Nonetheless, I advised Sumit not to focus too much on the various underlying factors driving this. As downgrades occur, the weights will increase, and the expected credit losses will rise, both of which are factored into the approximately 100 basis point figure I mentioned for the wholesale book. This is substantially lower than what would be if we applied a single band to our entire retail portfolio as well. Even with all these combined challenges, which I believe you understand is significant, we would not depend on any add backs. At that point, I think our capital ratio would still be well above the regulatory minimum.

Operator, Operator

Thank you. The next question is from Mario Mendonca from TD Securities. Please go ahead.

Mario Mendonca, Analyst

Good morning. Shawn, your opening comments sounded a bit different this time compared to the previous quarter. Could you clarify what you mean? You mentioned that you expect no change in the performing loan allowance moving forward, and in response to a question, you also stated that you anticipate no change in the total allowance. Could you specify which one you are referring to?

Shawn Beber, Chief Risk Officer

So we don't expect to add to our performing allowance going forward. Like if things play out the way we anticipate them to, then this would be where the allowance level would be. And then you would migrate from stage one, stage two into stage three impaired over time as things play out. So we wouldn't expect for instance to take significant incremental provisions in coming quarters as a function of increasing our ECL. We believe we've reflected at least our current view in our $3.3 billion in allowances.

Operator, Operator

Thank you. Your next question is from Doug Young from Desjardin Capital Markets. Please go ahead.

Doug Young, Analyst

Shawn, referring to Slide 19, bottom left, could you clarify the progression of the performing loan PCL, specifically the figures 122 and 136? It seems that 136 includes credit migration, so could you break that down? How much of that 136 is attributed to credit migration? Additionally, could you discuss the methodology and thought process behind that number and quantify the credit migration you are incorporating into it?

Operator, Operator

Thank you. There are no further questions at this time. I'll turn the call back over to you Victor.

Victor Dodig, President and Chief Executive Officer

Thank you, operator, and thank you all of you for your very detailed questions. Before we end this call, I wanted to thank our incredible CIBC team. Thank you for your dedication and relentless focus on helping our clients achieve their ambitions during these very difficult times. Our immediate focus has been on providing our clients with the relief they need to deal with the short-term impact of the pandemic and I think we made that very clear both in the remarks as well as in the answers to your questions. We're committed to standing with our clients and the communities we serve throughout this recovery phase. We know it will take time and resolve to get our economy, our clients back on their feet. We, as a bank, have risen to the challenge and we're going to continue to do so as we fully support our clients and what I know will be an economic recovery ahead of us. So thank you and take care everyone.