Royal Bank of Canada (NYSE:RY) Scotiabank 23rd Annual Financial Summit September 7, 2022 9:35 AM ET
Company Participants
Dave McKay – President & Chief Executive Officer
Conference Call Participants
Meny Grauman – Scotiabank
Meny Grauman
So I’d like everyone to join me in warmly welcoming my first guest of the morning, Dave McKay, President and CEO of Royal Bank of Canada.
Dave McKay
Good morning.
Meny Grauman
Good to see you, Dave. Good morning.
Dave McKay
I didn’t think it was a little bit late. Hi, everybody. This is great to be on stage again. Hello, everyone. It’s been a while.
Meny Grauman
It has been a while.
Dave McKay
Sorry, this here is a bit off because I was right beside the speaker of Pearl Jam last night. So I should have sat over there. I said, yes.
Meny Grauman
I’ll speak louder.
Dave McKay
Just speak louder. Exactly. So if I don’t hear the question, it’s strategic.
Meny Grauman
I hope it was a good summer. It certainly was a turbulent summer. So I thought I’d get your perspective on it to start off. During the Q3 call, you talked about some of the challenges facing the economy right now, including rising interest rates. But you said something interesting, to qualify you said you don’t see a severe economic downturn right now. So I wanted to get a little bit more into your thinking on that. And specifically, what it means for Royal Bank as we think about your results in Q4 and looking into 2023.
Dave McKay
Like everybody, we’re trying to read all the macro forces in the economy. And obviously, we continue to see the rate shock from the higher rates trying to control inflation suppression of activity within the economy. But then how do you control this through to the end of cycle and through the cycle?
There’s a number of positives we look at out there that we’re going into an end of cycle with that some we’ve seen in other cycles, some we haven’t seen. The #1 thing we haven’t seen before is the amount of liquidity that’s sitting on consumer and commercial balance sheets. So we just have not seen the surplus liquidity, some of it in the U.S., very concentrated among a certain kind of top 20%, top 2 quintiles of the economy, more spread out in Canada across a broader part of the population because how we distributed the fiscal stimulus during the crisis, so the pandemic.
So I think from that perspective, if you look at the amount of liquidity to absorb shock, which is the #1 — 1 of the top 2 or 3 shock absorbers, we haven’t seen this pent-up savings as a shock absorber before.
Two, maybe more importantly, is the strong employment numbers and we can debate the level of surplus or surplus jobs in the economy and unfilled jobs and how they correlate and move forward together with unemployment. But again, you’re starting with very strong labor opportunity, if there’s opportunity to work out there, and therefore, that’s the #1 kind of correlated driver of credit loss is unemployment. So very, very strong employment numbers and opportunity for employment, capability for further fiscal stimulus, if needed from a number of banks, and then very careful unwinding of Q2.
So you look at those macro forces and try to blend them into how do you land this economy with lower inflation, and how do you bounce back into a growth perspective. And I think from there, with the pent-up demand in the economy for the service industry, still for goods industry, with that liquidity ready to be spent, the lack of availability of labor, suppressing — the meeting of some of that demand.
Kind of as we play those 4 in different scenarios, we see that as a shock absorber to any hard landing and therefore, a quicker recovery. So that’s how we get our head around. This should be shallow and shorter. And therefore, we should bounce back more quickly from that.
Meny Grauman
And then so how do we translate that into bank results — into your bank results? Maybe focusing on credit first because you touched on that in terms of if we think of PCL ratios, normalizing to prepandemic levels. Is that an overly optimistic expectation given everything we know? Or based on some of these shock absorbers, is that, in fact, what is likely?
Dave McKay
I think it’s absolutely the latter, right? As we try to think about how credit will normalize at what pace, it’s been — our forecast have been off. Credit has not normalized as quickly as maybe you heard some of our commentary over the last 3 or 4 quarters, it continues to be very slow, including Q3 and incredibly benign.
That liquidity is coming — people are working. Companies are making money and therefore, credit is really, really strong. So how that normalizes — I think the bigger impact from these higher rates is it’s dislocated some demand in some markets. You’re seeing certainly mortgage markets react to the higher rates. And therefore, you’re seeing slower growth in mortgage markets.
We expect resale activity to be off about 15%. We expect housing prices to come off maybe 7% in 2023 after growing 10% on average in 2022. So you’re just coming back to kind of ’21 housing prices. It’s not a real material correction. Others are calling for a higher correction nationally than that. But still, although there’s been so much acceleration in growth in housing prices that a little bit of softening is well within the ability for households in the market to absorb.
So I think from that perspective, you expect higher rates to drive lower demand. But the higher rates also drive particularly franchises like ours, which I know we’ll talk about with — those with very strong core deposit franchises and strong deposit franchises will benefit significantly from the higher rate environment, offsetting some of the — a lot of — most of the impact, if not all, more than the impact from any reduction in demand.
Higher rates have been tough on senior markets and corporate markets, obviously, dislocation, debt capital markets, investment and noninvestment grade. They’ve — a number of corporates have backed into their bank lines to do that. We saw that very similar impact in 2020. We’ll see how fast that gets paid down or it continues, but certainly, that was a source of growth for us, but hurt our capital markets.
Fee-based businesses were impacted by higher rates. We’re starting to see a little bit of it, but you’re seeing a little bit of slowing in purchase activity in the credit card business. You would expect that with higher rates, a little more uncertainty. People become conservative in their purchase activity. So you’re seeing — after some very strong growth and recovery growth, you’re seeing a little bit of slowing in that. So that uncertainty is impacting a little bit, again, supported by a lot of pent-up demand over time. So we think there’s a good floor to that.
You are starting to see a little bit more draw on revolving credit — unsecured revolving credit lines. Again, as certain segments of the society spend that surplus cash, as inflation starts to impact everyday cash flow. You saw this trend in the U.S., probably 6 to 8 months ago, and you’re starting to see a very similar trend in Canada where you’re starting to see revolving credit growth come back into the credit card business after being off 25-plus percent from the pandemic.
So all those are signs of the impact of higher rates and uncertainty from senior markets to commercial markets to residential mortgage markets to credit card markets, you’re starting to see the impact. And that’s what the Bank of Canada wants, right? It wants a slowing of activity. It has to start to collapse demand to get inflation down. So all those are positive signs and the progress of inflation’s peak.
We’re coming down the other side of this. We’re not there yet, you’ll see more rate increases to get us there. But that’s how it’s starting to manifest itself in the banking book. And all that is largely predictable. With the higher rates, it’s — we’re in a very, very good place, otherwise in a very good place.
Meny Grauman
I want to talk about deposits for sure, margin. But before I do that, looking at your results, if I look at domestic loan growth, for example, strong loan growth, but definitely not at the top of the pack. And I’m wondering, is that by design? And have you decided to position the bank that way? And what’s the thinking behind it? As you kind of — you talked about your macro outlook and you see things changing, so I’m wondering if there’s a connection there between the kind of loan growth that we’re seeing for Royal Bank domestically.
Dave McKay
Right. So there’s a lot going on in that question. So I can walk you through where I think the 2 biggest impacts of the change are in the — is it a bad thing that we’re not at the top of the market and growth at the end of the cycle?
Meny Grauman
It’s a good question.
Dave McKay
So we don’t change our risk appetite. As you’ve heard me say for a decade now. We have a risk strategy, risk appetite. We lend through a cycle. We don’t try to time the market and you can’t time the market. You have to be consistent with your risk appetite. But competitive practices and client demands can move in and out of your risk appetite.
And there’s 1 sector in particular that had rabid growth and that’s commercial real estate and commercial mortgage lending, in particular. And we saw the competitive dynamics and the asks of clients move from core in our strategy on a loan-to-value ratio on a price for risk ratio start to move well outside of our risk appetite. And we didn’t chase it. And we are the only bank that didn’t at the end of the day.
And I asked the team kind of what did we miss here, why, and we kind of walked through the risk dynamics of what happened and what was going on in the marketplace. And I said, okay, this is a lot of risk and the dynamics have changed. Therefore, maybe we don’t go to the mean of where the market is, but we start to close the gap a little bit. So we missed a significant amount of growth largely because we stayed to our risk appetite and our sector limits on commercial real estate.
At the same time, we led the market in non-real estate growth, so agriculture, logistics, warehousing, manufacturing, service industries. We led the market in growth there because that’s a diversified part of our portfolio, and we like the dynamics there. But by missing that significant growth — we were growing at 10%. Our competitors were growing, I think, 15% to 25%. And that was a differentiator from us being maybe near the top of the market to being in the middle part of the market.
The second dynamic that — and so that was just taken there — it’s consistent, we didn’t change our risk appetite, but risk moved out and we missed some volume growth and some market share. And that’s just — so that’s the way it is. At the end of the day, we didn’t want that volume at that risk at that price.
The same thing happened for a period of time in the residential mortgage market where residential mortgages were being priced at a loss to marginal funding levels. So if you had to go in the market and fund that new mortgage in wholesale markets, the market was pricing mortgages at a loss. For the first time in my history as a banker. And therefore, you had to think long and hard about how much volume you wanted and whose volume we wanted. You obviously protect your best customers and want to do business. But when you’re trying to acquire a new customer, you’re going to do it at a loss or you’re going to do it at a profit. And you have to find your way as a bank through the dynamics of risk moving over here or price moving over here, what do you want? Our job is to drive total shareholder return and shareholder value.
And we picked the path through some pretty volatile changes in risk and pricing over the last 6 to 9 months. And we’re happy with the path we picked that, because of the strength of our deposit franchise and the revenue growth and the NIM expansion, because of our risk appetite and we’re thinking through a cycle where we want to outperform through a cycle because we’re going to deliver a premium ROE and good growth, we think this all plays the path that we chose, plays to the investment thesis that we have. And that means at times you’re going to miss some growth in a certain part of the marketplace that you don’t want. We’re really happy that, that combination of franchise strengths will drive premium TSR.
Meny Grauman
Dave, I wanted…
Dave McKay
So that’s — you got to pick your way in a dynamic market.
Meny Grauman
I want to talk about deposits. Before I do that, more fundamentally, so it’s no secret, margin was really the key focus of this quarter to a way that I really haven’t seen maybe ever. And I’m wondering from your perspective, does the market’s focus on margin make a lot of sense in terms of where you’re sitting. In your seat, does that make sense? Or is the market not looking at the right thing right now?
Dave McKay
I think you should always look at margin. I don’t know why you don’t look at margin because we’re pricing risk. So margin is important. You have to understand what drives a margin? Is it your collection of products? Is it the acquisition you’ve made in a certain space? Is it how you’re pricing for risk? I mean all these things drive margin. So we pay attention to margin all the time, not just — but the story behind margin expansion is around what is the core deposit franchise strength because that’s what’s really driving margin expansion right now. That’s where I’m so excited that we’re finally realizing the benefits of a 20-year investment in core deposits.
So why do we pick core deposits and deposits as our primary focus for the last 20 years for the organization because it is a wonderful life. You have to take in deposits to lend them. At the end of the day, you can’t rely on wholesale funding to be the core of your balance sheet strategy. But deposits — so they have funding. To fund growth, to fund loan growth, you have to have a strong deposit strategy over a long period of time.
Two, in a normal interest rate environment, it’s an enormous source of profitability, which you’re about to see. You saw a 15 basis point margin expansion in the retail bank because we are match funded between deposits and loans. We’re the only bank that’s match fund. Our peers on average have an 80% deposit-to-loan ratio. They’re funding 20% of their Canadian book in the wholesale market. We’re match funded. You saw that 15 basis point lift. You’ll see that again in Q4 quarter-over-quarter as the benefit from investing in a strong transaction banking, core banking, deposit franchise, both in consumer and commercial, which is a 20-year product for us of investment and focus is really, really starting to pay off.
So you get the funding, which is the lifeblood of the organization, and you need to have a strategy for that for the long term and short term. You get different profitability lift that you’re starting to realize. But the third thing you get is the information value of a deposit franchise is worth its weight in gold. We use a deposit information for risk management purposes and adjudication. We use it to how we service customers and how we offer better service levels and we use it for marketing.
And what’s the right fit for a customer? What’s the right investment for a customer? So we use the information value from our payments business to make all those decisions. And therefore, when you circle back and look at that value, how could you not be a bank and invest significantly in the core deposit franchise, which we — how did we do that? We built partnerships, we built value. We have the largest distribution network. We’re #1 in customer service in J.D. Power for what, 5 of the last 6 years. We’re now #1 in mobile banking, again, in J.D. Power. We’re the largest distribution network.
So best service, best distribution, best product. Bring that together, that’s the power of the franchise with focus and intent has driven significant market share gains, franchise gains and deposit power that we have now. And that deposit power is starting to unlock into shareholder value and stability in earnings and premium ROE. We cross-sell off that product. It drives our ROEs. Therefore, it’s the essence of what we do. And I’ve been talking about this for a decade or more, probably 15 years, certainly a decade as CEO, went up on this stage and you’re really starting to see the benefits of that investment and we’ll continue forward. So we’re incredibly excited about all that’s coming to fruition and all that investment.
Meny Grauman
Yes. I think it was definitely a deposit appreciation quarter, and I think that’s something that’s…
Dave McKay
We’re underappreciated for 8 years, so it’s…
Meny Grauman
Just in terms of the dynamics as we see it now, it seems like there’d be a lot of money in motion coming out of equity markets. As rates go up, people searching for a higher return, a higher yield. How — what is the strategy here from Royal Bank’s perspective in terms of to hold on to the deposits that you have and to be a winner as a lot of this money kind of moves around over the next little while?
Dave McKay
I think it comes down to your advice platform and your relationship with the clients, and we’ve built and invested significantly in MyAdvisor and advice platforms where we look holistically at both sides of the balance sheet for a customer, and we’re there to do the right thing for the customer. Why do we have a higher proportion of fixed rate mortgages with customers? Well, that was the right thing to do for a customer to lock in these payment rates over 5 years in a rising rate environment, not sell the higher margin kind of variable rate product.
Therefore, it’s act as a risk mitigant over time and that those mortgages won’t reprice, a lot of them for another 4 or 5 years, and therefore, you see your way through to a different rate environment with your customer franchise. So a big part of winning is how you approach your advice platform, your connectivity to the customers, your frequency of advice. And holistically, we’re very good at capturing and we watch this all the time with money in motion. So we do see money come out, as you said, out of some of our long-term funds and short-term funds back onto the bank balance sheet now back into markets. And therefore, we’re very focused on capturing that money in motion, but it starts with, again, advice, distribution, great products. So they’re moving from the #1 fund family into the #1 service and technical and largest advice platform and then back again.
So you capture that in an ecosystem. That’s — we’ve invested significantly in over decades now that customers tell us is the best. So it’s the architecture. It’s the franchise value. It’s the investment. It’s the holistic. And how we work as a team over time and how we train and we reward and our systems of reward are all designed around putting the customer at the center and using this incredible architecture that we built over a long period of time. And we’re good at using those tools. So there’s no magic solution. It’s a lot of hard work and integration around the customer.
Meny Grauman
I want to switch gears and talk about capital markets, specifically the U.S. capital market strategy. Maybe the first place to start just coming off of earnings, a markdown on your leveraged finance underwriting book. And a lot of — a very frequent question that I’m getting this quarter is just how do you have confidence that this was kind of an isolated event and not something more systemic. So maybe you could address that first before we talk about a little bit more about the bigger strategy here in the U.S.
Dave McKay
Well, I’ll just say as far as lev finance goes and that whole client strategy, it’s a very important part of our client franchise. It’s been a very successful and incredibly profitable and high return part of our overall capital markets franchise. And the clients that we target there, whether it’s sponsored or non-sponsored corporate business, it’s a very good client franchise. This is really one of the first — little bumps we’ve hit in the road, but we take risk and we expect to take risk, and we knew when taking underwriting risk, there’ll be market dislocations from time to time, and we hit a market dislocation.
So the essence of the activity — there was nothing abnormal about what we’re doing. We are supporting clients in various industries. We are underwriting their issuance, their debt capital markets and their high yield. And we have portfolio limits, and you saw from our slides in our disclosure that we were well below our portfolio limits. We were just slightly above our average underwriting level. So it wasn’t like we were taking significantly incremental risk.
But we had a number of clients, some of them new in the portfolio, some of them the result of new teams that we brought in to enhance our technology practice, to enhance our health care practice where we were — we had been more successful — we are part of a 30-bank syndicate and 1 individual deal that’s hung that was pulled back, that’s going back to market now, but we are more senior than we’ve ever been. And we were ready to celebrate that as a big fee event, as a great opportunity to find ourselves in a dislocated market that was very hard to predict.
So we hedge this risk. But we — as every bank does, I assume, can only hedge this in the secondary markets. And as we went through the months of June, secondary markets and primary markets were largely in sync. And then when you looked at the marks that the U.S. banks took at the end of June and their Q2, they were fairly nominal marks compared to what the size of their underwriting portfolio was. The problem was the month of July, primary markets dislocated significantly and secondary markets rallied.
So the hedge became less effective. Primary markets significantly dislocated, remain dislocated largely through — and we took a mark very conservatively on primary markets where we have to distribute that product. We think if U.S. banks had to market at the end of July, you would have seen a very different mark.
So part of it was the timing and you couldn’t read that from the June to July. And that’s what happened. So it wasn’t — it’s around normal course of business. It’s a very strong franchise for us. It’s been very profitable through a sector. It’s well diversified. We take risk in underwriting. The market’s dislocated. We got caught with a few deals that we have to take to market where 75% of these losses that we marked were unrealized.
And the last thing that I’ll say is that for the first time, the accounting treatment changed or at least our accounting treatment changed. I think a number of banks didn’t change their accounting, but we separated the fee event from the mark. So normally, we offset the mark with expected fees. Accounting change came, we still have to realize our fees, but we took a mark without offsetting the fee.
So it’s a clean mark. We’re still to earn those fees, which will reduce it. We still have to distribute 75% of that product, hopefully, into a strengthening marketplace. And we’ll see how it goes. But that mark of $380-odd million pre-fees is small compared to the overall profitability and success of this franchise over the last decade.
So from an underwriting perspective, we knew that was our primary risk. From a banking perspective and our hold levels with these customers, they’re small, they’re diversified, there’s significant equity behind us. The book’s performed exceptionally well.
So there’s 2 types of risks, right? There’s underwriting risk and there’s balance sheet risk. And we remain really comfortable with this sector diversified levels, amount of equity that’s behind us on the balance sheet. And we’re going to have market dislocations from time to time. It doesn’t change our strategy. We tried to hedge it. Just things moved against us. And maybe they move in our direction, maybe they don’t, but we’ve prepared for the worst and we presented the worst to the market in Q3.
Meny Grauman
And so if we take a step back and look at the U.S. strategy, you’ve been a player in U.S. capital markets for a long time. But in the wake of the global financial crisis, you made a bigger push. You did it organically, which I think is important to highlight. So how would you frame the strategy right now in the U.S., in particular, when it comes to capital markets?
Dave McKay
Well, we continue to hire more investment bankers and more senior investment bankers, more MDs like I reflected Kirk and the team coming in from Credit Suisse into the health — sorry, in the technology sector has really strengthened the team. We had a very strong banking and FIG team. We’ve got a very strong energy team, a very strong real estate team. Andrew Callaway came in to strengthen the health care team. So we’ve been investing in MDs and expanding and more senior coverage and that’s starting to show its strength and are moving up in market share in M&A.
On the debt capital market side, we compete hard, obviously. We’re not as strong in the rate side as — and the investment grade side to some of the biggest players, but we’re #10 in America, #10 in the world. Where I think we can improve and where our big focus and I think our big opportunity is on the trading side, to improve our #15 in the U.S. on the market side. And we have a very clear plan and strategy.
We’ve invested in replatforming our entire Global Markets business, particularly on the fixed side, but also on the equity side. And we have high expectations for our Global Markets team to improve their performance. And we see no reason why we can’t go from 15th to 10th. And 10th in investment banking and markets. We see attractive ROEs in the businesses we’re focused on. We have new technology, we can take out cost and we can execute better. So I think there’s an opportunity to be better on the market.
And our clients tell us, that our clients want us to do better. And we see the market share opportunities there. So again, investing in investment banking, we’re using our balance sheet, but you won’t see much more than kind of mid-single-digit growth going forward. We don’t need a lot of balance sheet. We don’t need a lot of RWA. We just need to execute our markets on the investment banking, M&A, ECM, DCM side, and then certainly we’ll use our balance sheet as necessary. So very much more of the same, have all the resources, capital to do it. It’s about execution.
Meny Grauman
But there is market share gains to be had because I think in some people’s minds, it’s kind of you’ve hit a mark and you’re just kind of leveling.
Dave McKay
No. We could do a lot better on the market side.
Meny Grauman
I want to talk about ESG. Obviously, very topical, but come at it from a business perspective. And I think it’s definitely very related to capital markets, in particular, but maybe let me know if there’s other opportunities. But basically come at it from the revenue opportunity of ESG and how your bank — how does Royal Bank capitalize on ESG from a revenue perspective?
Dave McKay
It’s the most important transition that we’re going to do. And we are heavily focused on the climate side. I mean we use the word ESG broadly, obviously, but there is obviously governance and social aspect to that. We report on that and the diversity quotient to drive innovation in all organizations and our customers.
But on the climate side, I think, for your primarily focused environment, it’s the most important transition we’re ever going to make, and it’s a complex, difficult transition to do. And we’re investing heavily on really around 4 pillars. One, we have to get our own emissions down to 0. We’ve made a commitment to get — remove 70% of the bank’s own emissions and running our operations by 2025. Investing in solar and wind, obviously, to offset our electricity usage.
And then it comes to how do we help our clients make that transition? And you’ll see us set targets in our portfolio in the next 60 days, and we’ll announce those targets to the organization. Therein lies the most important, how do you help your clients from your smallest consumer to the largest corporate make that transition because it’s important to the overall mission of our organization to reduce the footprint of our investment and our banking portfolios. So how do we help our customers make that transition?
And we’re taking it sector by sector. We’re working with various parts of the industry. We’re building tools for the smallest consumer and calculators and incentives to do that. We’re working with large corporates in the energy, in the agriculture sector, in the building and commercial real estate sector to say, how are we going to make this journey together? What role do we play?
In there lies an enormous opportunity to add value to your customer through an advisory capability. There’s new sources of revenue and helping make this transition and being a center of expertise. There’s obviously the sustainable finance side to this, which is a whole strategy for us. We’re leading the market in sustainable financing issuance. We’ve committed to $500 billion. We’ll recommit to more as we go through that. But right now, we’re focused on getting to the $500 billion issuance level with our clients, financing that transaction going forward.
So as you think about all the things our clients have to do, our role in helping finance, our role in advising, our role in designing products differently and gaining market share because we can play a greater role in creating value, I think to outperform on shareholder value and shareholder return, you have to execute this excellently. And that’s how we approach it at RBC.
We said to continue our leadership position, to continue to drive premium returns and premium ROE and total shareholder return, we have to help our clients execute against this journey really, really well. Because if someone else does it better, then we could lose our leadership role. So we look at it as an enormous opportunity, but a threat if we don’t do it well. We’re investing significant resources. I spent a lot of my personal time on the climate journey with the group leadership team at all levels, all the functional leaders, all the business leaders. We’re spending an enormous amount of time talking about how we plan for the journey, what our mission is, where are the opportunities to create value. And it’s just emerging. It’s a complex journey, but we’re starting to see pathways now clearly to creating value and earning a profit from it.
Meny Grauman
And if you think about it more from the policy perspective, presumably, you need government to help in this transition. And so maybe just to ask you directly, what do the banks — what does Royal Bank need from the government in order to help with this transition? You’re doing your part, but what’s the other piece here from policymakers?
Dave McKay
There’s a lot of dialogue with the government, particularly the federal government and how we work together. I really do believe that CEOs need to lead this. We need to step up and we need to take a leadership role in designing and planning and creating for the change, but we need partnership with government to help fund some of the transition. We need risk mitigation to technologies and ideas that may not be economical currently, but we want to take that risk and therefore — CCUS being a perfect example. There’s technologies in agriculture that we’re talking about. There’s technologies in the commercial real estate that we’re talking about that are enormous potential, but are noneconomic today.
So how do you use risk mitigation tools and bridge the market to some of these ideas and get private-public capital. And so we’re going to need policy change. We spend all the time on the supply side, having the supply side change and reduce carbon. What about the demand side, what about behavior? How do we use policy and incentives and tools differently to change behavior? Because it can be a $2-trillion journey if the supply side makes all the changes or it could be a $1-trillion journey if we combine supply side with demand side change. And therefore, the economics of these pathways are very different depending on how you approach policies.
So those are the types of discussions that we’re starting to have and we need to have with all levels of government to say there’s different — many different pathways. How we work together to choose these pathways as an ROE, probably success, a risk factor and a time factor to a reduction that we need to choose as a society. But we can’t choose until we are presented with options and trade-offs. And I think that’s the role I want to play and others are playing, other CEOs are playing is to try to design these options so we can have a debate and choose a pathway that has all those variables to it.
So it’s incredibly challenging, but it’s exciting to see these opportunities in front of us. And again, how does — how do you position our ROI, RBC to lead and profit from that at the end of the day and drive shareholder value.
Meny Grauman
The clock is ticking down. We can spend a lot of time on this one specific topic, but maybe to end off I wanted to think back to this time last year, we were speaking virtually over the screen. Shopify’s market cap was in the $200 billion range. It was higher than RBC’s market cap at the time, not so much now. Many other high-flying fintechs have seen even more significant declines in their market value.
So as you think about fintech and the threat from fintech, is this sort of a defining moment here? Was the threat posed by fintech that seems so large a year ago, is it really in retrospect, not as significant as it seemed? Have banks won this round? Was the valuation levels of fintechs really just a function of cheap capital more than really addressing significant customer need and solving a real problem? What’s your perspective on this as we kind of look back here and a lot has changed in the year when it comes to fintechs in particular?
Dave McKay
We expected this to happen and all the conversations I had in the Valley and other places, what happens when rates really do start to rise more significantly. We were all talking about — many of us were talking about the valuation impacts it would have, but it would affect the operational strategy of all these firms. And particularly those firms that were driven off multiples of client acquisition and revenue without an ability to make a profit. And therefore, it was cheap capital that was funding a product that potentially met customer needs or didn’t meet customers, but obviously had a chance to meet customer needs, but it wasn’t doing so on a profitable basis.
And therefore, that’s where the significant pullbacks happened. That large amount of loss absorbing equity capital that was funding losses has pulled back significantly to more attractive opportunities in the market. And that has shocked a significant portion of those technology companies that were operating at a loss and didn’t have a path to monetization that convinced shareholders.
What has this done for, say, the banking industry and large companies, it’s kind of leveled the playing field a little bit. We were fighting with one hand behind our back. We have to drive short-term and long-term shareholder value. We have to absorb the NIE growth and the investments we’re making in ventures on our current line. You’re not giving a 0 cost of capital to do that. I’d say you want your return. We were fighting for talent that was attracted to these high valuations and the potential. So it had a huge impact on talent migration within all sectors of the economy, and we’re still kind of shaking out that talent migration.
So some of these firms that were offering nonmonetizable, nonprofitable operations are struggling to readdress those and will have to compete in monetizing and driving a profit, which will slow down capital and slow down funding for disruptive tax, so that helps. But at the end of the day, that wasn’t where I was really worried. I still continue to worry about large technology, social media platforms that have large client bases, that are at the moment of truth, that are in the zone of discovery, that they see what’s going on in the client’s head at all levels of clients from small consumers to commercial to corporate to small business, if they — in the discovery area. They understand what the intent of the client is. They have an opportunity to meet that demand or broker someone to meet that demand and extract margin from it.
That’s what you have to worry about. And that’s what we’re building our franchise, why we invest so much in our core deposit, why we create value for our clients is to make it harder for the — for someone to pull them away from our service and our franchise. That’s what you have to worry about. The fintechs that were attacking, they have value in those. The key is will a customer pay for it? Will you make money doing it? And we’re seeing a great shakeout in those firms that we’re creating customer value, but not creating shareholder value. And those will move aside until they figure out a way.
So are they gone forever? No, of course, not. They’re going to regroup and the strong ones that have an ability to be profitable and serve a customer need will continue and they will continue on. But there was just a lot that weren’t profitable, and there is obviously a reconciliation of that. So we continue to worry about and to plan and build our business around defending against franchises that are at the moment of truth for a customer and see a financial need because of their franchise and how they built it and have a chance today or in the future to meet that need, which is why our entire venture strategy, and we’re excited about the launch next week of a completely new e-commerce and rewards capability that goes up the funnel into discovery.
Our mortgage platform has moved up the funnel into discovery and search. Our small business funnel, which is doing exceptionally well, has moved up the funnel into discovery. We are competing now in the discovery search space before they decide on their financial need. And that’s core to our strategy. And that’s why — that’s how we built the franchise.
And I think we’re the only bank in Canada, but only 1 of 2 or 3 banks in the world that have really made progress in doing this. And I think it just speaks well to our ability to attract customers and grow customers and be at the moment of truth and make a profit doing it going forward.
Meny Grauman
Well, I think that’s a great place to end. Lots more questions, but no more time.
Dave McKay
Yes. It’s good to see everybody. Thank you.
Meny Grauman
Always great to talk to you. Thank you very much.
Dave McKay
Great to see you. Yes, thank you.
Meny Grauman
Thanks a lot, Dave.
Question-and-Answer Session
End of Q&A
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