Coronavirus epidemic threatens profit rebound in North American markets

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The spreading coronavirus epidemic is threatening to stifle a rebound in North American earnings that markets are counting on.

The latest surge of infections around the world, which rattled global financial markets and dragged down stock indexes on Monday, is forcing management teams to reduce profit expectations for the coming months.

The continued proliferation of the virus could quickly erode the gains in profits widely forecast going into this year.

That’s bad news for a stock market that needs robust earnings to justify relatively high valuations, said Robert Mark, a portfolio manager at Raymond James.

“Corporate Canada and Corporate America have to come through with earnings growth because markets have overshot to some degree,” Mr. Mark said. “They were already pricing in very strong earnings numbers for 2020.”

Canadian companies are reporting their fourth-quarter performance, and the results have been relatively positive. More than half of companies in the S&P/TSX Composite Index have beaten Bay Street’s earnings estimates, and total profit growth for the quarter is expected to come in at around 5.7 per cent, according to Refinitiv data.

A good showing in the final quarter of 2019 was supposed to set up 2020 as a year of resurgent profits, particularly after a U.S.-China trade deal seemed to neutralize one of the key risks to the corporate sector.

“However, the 2020 outlook has deteriorated materially within the space of a month,” Hugo Ste-Marie, a strategist at Scotia Capital, said in a report.

Just since the coronavirus scare started seeping into financial markets in mid-January, consensus earnings-growth expectations for TSX companies in 2020 has fallen to around 6 per cent from 8 per cent. The forecast for first-quarter Canadian profit growth is already tracking toward a negative result for the first time since 2016.

That’s likely a lowball estimate of the expected losses attributable to the coronavirus, however.

"Several companies haven’t yet revised their 2020 guidance despite the looming impact of China’s shutdown because of how hard it would be to quantify,” Mr. Ste-Marie said. “Downside risk is thus higher than it might seem.”

Several Canadian executives have recently acknowledged they have little clarity on just how much their own forecasts might have to change.

“It’s very hard to quantify what the impact is going to be on our operations,” Geoff Martin, CEO of CCL Industries Inc., said in a call with analysts last week. The label and specialty packaging company, which has operations and about 3,500 employees based in China, missed analysts’ fourth-quarter forecasts.

“There’s certainly some issues around getting parts for some of the components we make there,” Mr. Martin said.

Sun Life Financial Inc., which has offices in the Wuhan region of China where the virus originated, also struggled to assess the fallout of the epidemic. “If things deteriorate rapidly, you could see mortality claims increased in a material way, but I think it’s much too early to tell where this is going to end,” Léo Grépin, the president of Sun Life Asia, said on a conference call earlier in February.

The coronavirus outbreak piled yet another strain onto Canadian oil and gas sector, which was already mired in a downturn longer than five years running.

By this point, the big names in the Canadian energy space have downsized and reduced debt and cut costs so much as to be fairly well positioned for the hit to global growth.

“In terms of corporate health, they're incredibly well set up to weather this storm,” Mr. Mark said.

And yet, since mid-January, the S&P/TSX Composite Energy Sector Index has dropped by 3.2 per cent, extending a sector sell-off that seems to have no end in sight. “Investors don’t care about energy,” Mr. Mark said.

And the part of the market investors do care about is largely captive to a health crisis with a great deal of uncertainty.

“We were way overdue for a correction, so if this precipitates it, that’s fine,” Mr. Mark said. The big question now is the extent of the impact on the global economy and on corporate earnings, he added. “We’re just not there yet in terms of hard numbers.”

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