National Bank Financial warns in a new report that the coming economic slowdown may be harsher than many are expecting, with lower earnings to match. Nevertheless, it is maintaining its market forecasts.

“While investors are beginning to factor in a slowdown of economic growth in the U.S., they disagree on the amplitude. A soft landing? A period of sub-par growth? A recession? In our view, the ride will be bumpier than the consensus expects,” NBF says.

“The housing pullback could trigger the first consumer contraction in 15 years, a development that would curb earnings growth and unleash a wave of profit warnings,” it suggests. “Our concern at this point is that analysts have yet to reckon with the coming slowdown.”

NBF says that analysts’ consensus estimates are predicting double-digit earnings growth in five of the next six quarters. Valuations based on that consensus suggest that markets are undervalued, it notes. “But if forward P/Es are calculated with trend profit growth as the denominator instead of consensus analyst estimates, North American markets are not undervalued. The S&P 500 is trading at 18 times trend earnings and the S&P/TSX at 21 times trend earnings.”

The firm says that its 12-month target for the S&P 500 remains 1225, based on its lower-than-consensus earnings estimates. And, it is maintaining its conservative S&P/TSX target of 10500, also based on its lower expectations for earnings.

“In sector rotation we favour defensive stocks like Utilities, Health Care and Consumer Staples and recommend underweighting cyclical stocks like IT, Materials, Industrials, Energy and Consumer Discretionary,” it adds. “We are neutral on Financials. Banks are likely to benefit from lower bond yields but to suffer from lower capital-market revenues and probably from higher loan losses.”