Monday, September 29, 2008

RBC CM Upgrades CIBC to Sector Perform

RBC Capital Markets, 29 September 2008

The introduction of the Troubled Asset Relief Program could lead to stabilization in the value of structured finance assets, as it appears that the U.S. Government might purchase assets at prices that could turn out to be higher than market value.

• We believe the U.S. Government is in a bind because buying the assets at market value would likely force banks to record valuation writedowns and further hurt capital positions, so it is likely to find a way to pay prices that reflect valuations based in part on held-to-maturity values, even if that increases the risk of losses to U.S. taxpayers.

• The pricing mechanism for assets sales in the TARP has yet to be finalized, and it is not a given that structured finance assets will for sure be bought at prices above market (nor what kinds of structured products will be bought) but directionally, it seems to us as if there is a strong likelihood that structured finance asset values should benefit.

• Prior to our rating change, the stock's discount valuation was not appealing to us because of our limited ability to get comfort over downside risk related to CIBC's structured finance holdings hedged with financial guarantors. If the value of structured finance assets indeed stabilizes, we believe CIBC's stock should benefit, as a key source of uncertainty would be reduced.

• We do expect writedowns in Q4/08E, however, of $1.0 billion pre-tax given the wider CDS spreads of financial guarantors compared to July 31.

Raising 12-month target price per share to $65

• We have raised our 12-month target price from $62 to $65 to reflect our perception of decreased downside risk.

• Our 12-month target reflects a P/B multiple of 2.1, versus 2.2x today, and a P/E (based on NTM earnings) of 8.5x, versus 8.9x today. We believe CIBC's P/E multiple will remain below the leading banks' given a lower growth profile.

• CIBC remains a bank that we expect will face revenue challenges relative to peers in both its retail and wholesale divisions, but its projected earnings mix, relatively high ROE and limited exposure to the U.S. in its loan portfolio limit relative downside risk, in our view.