Canadian Bank Stocks Have Run 66% and Jefferies Says That's Enough
Jefferies Securities cut its rating on Canadian financials to underweight this week, citing valuations that now reflect a best-case scenario already achieved. The call came after the Big Six banks rallied 66% from their October 2023 lows, pushing price-to-earnings multiples above their ten-year averages for the first time since the pre-pandemic era.
The firm's analysts pointed to a confluence of factors that drove the surge: falling interest rates that eased mortgage renewal stress, better-than-expected credit performance in consumer and commercial portfolios, and a sustained recovery in capital markets revenue. All three tailwinds are now reflected in current prices. "The easy money has been made," Jefferies wrote in a note to clients. "From here, upside requires either multiple expansion beyond historical norms or earnings surprises in a macroeconomic environment that doesn't support either."
Why the valuation ceiling matters now
Bank stocks typically trade within a predictable band relative to book value and forward earnings. Royal Bank, the country's largest lender, is trading at 13.2 times forward earnings as of last Friday's close. That sits above its ten-year median of 12.1 times and well above the 10.8 times multiple it carried in early 2023 when recession fears dominated sentiment. Toronto-Dominion and Bank of Nova Scotia show similar patterns, with current multiples at or above their historical ceilings.
Jefferies argues that further multiple expansion would require a fundamental re-rating of the sector's growth prospects, and the data doesn't support it. Loan growth across the Big Six averaged 3.1% year-over-year in the most recent quarter, below the 4.5% pace typical of mid-cycle periods. Mortgage originations remain constrained by affordability. Commercial real estate exposure, particularly in office, continues to carry higher provisioning even as headline credit metrics have stabilized.
The net interest margin story has also plateaued. Banks benefited through 2024 as short-term funding costs fell faster than long-term asset yields, widening spreads. That gap has now normalized. The Bank of Canada's rate cuts, which provided the initial catalyst for the rally, are largely complete. The overnight rate sits at 2.75%, near the neutral range, leaving little room for additional margin tailwinds unless deflation becomes a concern, a scenario few economists are modeling.
What drove the 66% move
The rally began in October 2023 when the market repriced recession risk out of bank stocks. TD traded below $73 that month. It closed last week above $93. Scotiabank, which had fallen to $52 on concerns about its Latin American exposure and domestic mortgage book, recovered to $78 as credit losses came in below feared levels and the bank announced cost-cutting measures that analysts estimate will save $600 million annually.
Capital markets divisions delivered outsized results in 2024 and early 2025, driven by a rebound in M&A advisory and equity underwriting. That strength masked slower growth in retail banking. But Jefferies notes that investment banking revenue is cyclical and mean-reverting. Current run rates are above trend, not below it, which limits upside surprise potential.
The downgrade doesn't imply an imminent crash. Jefferies maintained price targets that suggest modest single-digit declines from current levels, not a retrace of the full rally. The call is about forward returns, not backward ones. For investors who rode the 66% move, the argument is straightforward: the valuation cushion is gone, the catalysts are spent, and holding from here means accepting equity risk for bond-like returns.
