Low angle view of Skyscrapers in downtown Toronto during the day

Rising interest rates may spell trouble for highly leveraged households, but the big banks are set to profit from the move, says Fitch Ratings.

In a new report, the rating agency said that Canada’s big banks collectively reported strong earnings for the fiscal first quarter, with aggregate earnings up 8% from the previous quarter and up 12% on a year-over-year basis. That’s due to “persistent strength in capital markets, favourable credit conditions and an uptick in loan growth.”

With the Bank of Canada starting to hike interest rates this week, the banks are also poised to benefit from the rising rate environment, along with growing demand for unsecured loans, Fitch said — trends that should offset an expected softening of credit quality and capital markets activity.

The report noted that the banks’ net interest margins remained largely flat in the first quarter, but Fitch expects margins to expand in the second half as rates rise and GDP growth remains robust.

Fitch is forecasting another 50 basis points in rate hikes this year, and GDP growth of 3.8% for 2022.

Additionally, the report noted that the banks have managed to keep their expenses in check despite inflationary pressures, as revenue growth outpaced expense growth across the big banks.

Credit quality also remained strong in the first quarter, with impaired loans for all the banks more than 25% below pre-pandemic levels, and aggregate net charge-offs down by more than 33%, Fitch noted.

Impaired loans and loan-loss provisions will probably trend toward historical norms in the months ahead as loan growth picks up, Fitch said.

In the first quarter, aggregate loan growth across all of the banks accelerated by 9% year over year, which represents its fastest rate since the second quarter of 2020, it noted.

At the same time, credit card balances grew by about 6% year over year in the first quarter after declining for several quarters, “indicating momentum in credit demand due to economic reopenings and lower customer savings rates as the effect of pandemic relief programs dissipates.”

Interest rate effects on venture capital

Venture capital experts say higher interest rates could trim the sky-high valuations Canadian startups have grown accustomed to over the last couple of years, but not right away.

Wednesday’s increase “shouldn’t hinder venture capital (VC) deployment or hurt startups looking to raise as venture funds are flush with cash right now and want to use it,” said Laura Lenz, who leads investment activity in Canada at OMERS Ventures.

However, she says there could be less money going into venture funds as rates continue to rise, resulting in capital deployment moving at a slower pace and funding rounds being smaller in size.

Consequently, Lenz sees venture capital firms taking a slightly more measured approach when deciding which companies to back.

“I think that VCs will take more time in their diligence, which is a good thing, because it will provide founders with time to assess partner-founder fit, which is critical in building a long-term successful business,” she said in an interview.

In addition, if exuberant deal valuations, especially from U.S. funds, are tempered, Canadian VC firms may be in a better position to compete with their U.S. counterparts that have been dishing out very large amounts of cash to companies in Canada, according to Nick Quain, vice-president of venture development at Invest Ottawa.

“Many Canadian VC firms have been outbid and not willing to match the size and valuation of rounds U.S. funds have offered Canadian companies in the last few years,” he said.

Last year was a record for venture capital investment in Canada with $14.2 billion distributed across 751 deals, 71 of them being megadeals, according to the Canadian Venture Capital and Private Equity Association.