Last August I explained that oil and credit strains were set to lead Canadian banks and the broader TSX lower:

Make no mistake: as the energy and realty sectors stumble, so do the banks. Down over 4% this month, Canadian financial shares are finally repricing for the compounding strains at hand. Since financials are the largest weight in the TSX (34% of its market cap), the broad market will have to follow suit.

So far, including the big bounce back from March 23 to May 11, the Canadian finance sector (XFN) is presently 30% below its February 19 high, while the broader TSX is -13%. Neither looks likely to have seen its lows for this bear market.

U.S. financials are also -33% from their February high and the S&P 500 about -13%.In first-quarter earnings to the end of March, US banks startled some optimists with a fivefold increase in their loan loss provisions.

Compressed interest rates and mounting loan defaults are bad for banks all over, but Canadian banks–with lower capital markets revenue, higher oil sector exposure, and more heavily indebted households–stand to underperform their American counterparts this cycle.

The CD Howe Institute declared this month that Canada entered recession in March. Typically recessions average a year or so with banks reporting rising credit losses for a few quarters.

This recession, though, is above average on all counts. Canada’s gross domestic product is on track to contract an annualized 45% in the second quarter, and -9% for the year–assuming a solid recovery in the second half. Capital Economist estimates that Canadian households are missing 21% of their wage income even with herculean government support programs. The Bank of Canada is forecasting mortgage arrears to double the levels seen during the 2008 ‘great’ recession.

Coming into 2020, even without a pandemic, our end of cycle base case was for a 50% decline in Canadian financial shares–similar to during the 2000-02 and 2007-09 bear markets. Given present facts, it’s not hard to argue that repricing this time could well be steeper.