Many indicators — ranging from anecdotes to hard data — are pointing to a strong year ahead for mergers and acquisitions activity in the Canadian financial services industry.

M&A analysts and portfolio managers say that Canada’s cash-rich banks expect to home in on targets on either side of the border while portfolio management firms across the country could begin banding together to achieve economies of scale. The year ahead should also see a lot of deals in the commodities and materials sectors.

The reasons are myriad, but the biggest driver for the strong growth outlook for M&A activity in 2011 is that financial costs are at an all-time low.

“It’s true that we have a moderated pace of economic recovery, but the bigger firms can access credit in the corporate bond market at record low rates,” says Michael Nairne, president and CEO of Toronto-based investment-counselling firm Tacita Capital Corp., who has noted the trend among his firm’s clients. “That creates the fuel of M&A activity.”

The entire Canadian market has a favourable outlook when it comes to dealmaking in 2011, according to Greenwich, Conn.-based research firm Greenwich Associates LLC.

Natural resources and financial services companies are particularly confident about their ability to raise financing for M&A and to pay for associated financial and legal advice, the report says.

Greenwich Associates based its research on interviews with a selection of financial services firms listed on the S&P/TSX composite index. The report says that more than three-quarters of them will look for advice on dealmaking in Canada in 2011. That figure has doubled from 2010 M&A expectations.

Says Jay Bennett, a consultant with Greenwich Associates: “It is clearly indicative when these barometers for M&A pick up. Those are very positive indications of comfort with the balance sheet, the desire to grow the market and the business.

“On balance,” Bennett adds, “the Canadian companies have been stronger through the financial crisis and so they’re in positive cash positions. And, I dare say, [they’re] in the emotional position to say, ‘We want to expand’.”

Comparing financial services with the rest of the market, the report says that 42% of all Canadian companies will be looking to do deals in 2011. That’s up from the 28% of companies that used M&A advice in 2009 and 31% in 2010. In fact, more than 70% of natural resources firms have indicated that they’ll be looking to do deals in 2011.

Closer to home, the value of M&A activity in the third quarter ended Sept 30, was the strongest in three years, according to Toronto-based specialty investment-banking firm Crosbie & Co. Inc. Helping to fuel that activity were a few transactions worth more than $1 billion, cross-border deals and activity by financial sponsors.@page_break@“The level of deal activity over the past few quarters confirms buyers and sellers have an increased comfort level in pursuing M&A transactions,” says Ed Giacomelli, managing director with Crosbie & Co.

Although valuation gaps between the seller and the buyer vary from case to case, anecdotally, the two parties seem to be able to meet at a price point more easily, as the U.S. and global economies stabilize.

“I think that we’re at a point at which the valuation gap — which is always wide — is not as wide as it has been in the past,” Giacomelli says. “The risks that everyone acknowledge are priced into the valuation.”

Although M&A activity in 2011 will almost certainly pick up, compared with 2010, he says, the market for deals won’t equal the days of 2007. Growth will be steady, but not record-breaking.

And, importantly, the deals will be different, he emphasizes.

Instead of private-equity buyouts, the market can expect more strategic acquisitions. Although credit may still be cheaper, banks are no longer willing to lend to private equity to make deals in so-called leveraged buyout deals.

Instead, M&A watchers expect more deals similar in nature to Bank of Nova Scotia’s recent acquisition of DundeeWealth Inc. , both based in Toronto. (See stories on page 12.)

As Nairne notes, Scotiabank recently reorganized, created a global wealth-management arm and embarked on its wealth-management strategy; the DundeeWealth acquisition was a key component of that plan.

That differs from a so-called “financial” acquisition in which a private equity firm buys a company, restructures it and then brings it back to market in an initial public offering in short order.

Nairne and Giacomelli like the chances of smaller deals between investment managers in Canada. Toronto-based Investor Economics Inc. estimates the number of investment management firms in the country at 567.

Just a handful of the portfolio managers are big enough to achieve the right economies of scale, says Nairne. Small, specialized firms can survive alone, but many mid-sized companies selling plain-vanilla equity investments are vying for the same small space in a pretty mature wealth-management sector.

“How am I going to grow?” asks Nairne rhetorically on behalf the whole industry. “That’s where you’re going to see a lot of consolidation in the investment-counsel, portfolio-manager space.”

Another bullish indicator: hedge fund managers that focus on special situations related to M&As and financing are expecting a good year.

“It seems like it’s a robust part of the market,” says Michael Ruscetta, president and CEO of Toronto-based RCM Partners Inc. “Volatility in the equity market makes it hard to get full value from their stock on their own, or to finance growth themselves, and that creates the M&A opportunity.” IE