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Equity analysts have been slow to adjust to the realities of the COVID-19 era, with current earnings forecasts largely out of sync with the ugly economic backdrop that is just starting to take shape.

In the United States and Canada, consensus estimates still call for a relatively shallow decline in corporate profits, a rebound starting by the end of the year and a full recovery to record levels by next fall.

The extreme curtailment of manufacturing and industrial activity, however, have the potential to cause “crushing earnings declines,” Citigroup strategist Tobias Levkovich wrote in a report.

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“Moreover, the collapse of service industries in shutdown mode due to shelter-in-place, social distancing and work-from-home policies is a new wrinkle that also will curtail profits in a major way.”

With first-quarter earnings season about to begin, a wave of earnings misses and a mass downward revision of estimates could rattle markets in the weeks ahead, threatening the torrid rally in North American stocks over the past three weeks.

Companies in every sector and industry are feeling the strains on their income statements, from oil and gas producers facing energy prices at generational lows, to retailers with shuttered global chains, to airlines coping with the collapse in air travel.

The average Wall Street forecast predicts the companies in the S&P 500 index will post a year-over-year earnings decline of 8.1 per cent in the first quarter, followed by declines of 19.4 per cent and 8.6 per cent in the following two quarters, according to Refinitiv data.

Those numbers, however, fail to account for the “depression-like recession” that has been condensed into a number of months, as great portions of the global economy have been idled to fight the pandemic, Ed Yardeni, chief investment strategist at Yardeni Research, said in a note.

Global trade this year could decline as much as one third, according to the World Trade Organization. Over a span of four weeks, the U.S. unemployment rate has soared to what economists believe is around 12 or 13 per cent – the worst level since the Great Depression. In Canada, more than one million workers lost their jobs in March, and millions more have been temporarily sidelined or seen their hours cut back.

A proportional decline in earnings would be about four times more severe than current consensus, Mr. Yardeni said. That would put the drop in U.S. earnings for 2020 at roughly 30 per cent, compared with the 8.5-per-cent dip currently being modelled by equity analysts.

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A 30-per-cent contraction in earnings would also be in line with the past half-century of economic recessions. The worst of them for the corporate sector was 2007-09, when peak-to-trough S&P 500 profits fell by 52 per cent.

The Street’s outlook also diverges from history in terms of duration, with U.S. earnings in 2021 expected to rise by 18.4 per cent. In Canada, the estimates are comparably optimistic – an 8.1-per-cent decline in S&P/TSX Composite Index earnings this year, followed by 15-per-cent profit growth next year.

That kind of V-shaped recovery is rare, however.

“Historically, earnings recessions last quite a bit longer than economic recessions as businesses gradually restart operations in a less-than-structured manner,” Ian de Verteuil, head of portfolio strategy for CIBC World Markets, wrote in a report.

“Traditionally, it takes two years for S&P 500 trailing earnings to reach a bottom, and close to four years before surpassing the previous high-water mark.”

Since the stock market bottomed out in late March, Canadian and U.S. benchmark indexes have gained roughly 25 per cent. While extraordinary fiscal and monetary stimulus gets most of the credit, the prospect of the corporate sector hitting record profits by the end of next year also helped.

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But earnings season could deliver a dose of reality, Robert Lauzon, deputy chief investment officer at Middlefield Group, told The Globe and Mail.

“When those earnings come out, that might be a bit of a shock to the market.”

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