MONTHLY MARKET MUSINGS

July 2026

Heading Into The Back Half

As we touched on last month, market expectations have shifted as concerns surrounding inflation have resurfaced. During the month of June, the market repriced inflation risk in both the United States and Canada. In the U.S., inflation has remained persistent enough that the financial markets have begun to attribute higher probabilities to the possibility of the U.S. Federal Reserve (Fed) tightening. Meanwhile in Canada, inflation seems to be more contained, however, slowing economic growth has increasingly become the bigger issue.

The U.S. Situation

The U.S. Fed’s preferred inflation measure, Personal Consumption Expenditures (PCE), remained well above the Fed’s long-term target, reinforcing concerns that underlying price pressures remain persistent. The latest reading showed core PCE rising 3.4% year-over-year in May while headline PCE rose 4.1% year-over-year.[1] At the June Federal Open Market Committee meeting, policymakers kept rates unchanged but projected a more divided outlook going forward. While the overall expectation is for policy rates to remain where they are, several members noted that some degree of tightening could still be warranted before year-end if inflation fails to moderate.[2] As a result, the markets have reduced the expectations for near-term rate cuts and increased the probability of a hike. This shift caused short-term Treasury yields to move higher as investors repriced their interest-rate expectations, while the U.S. dollar strengthened. All of this weighed on the equity markets as valuation multiples came under pressure given the potential for higher rates. Growth stocks derive most of their value from the expectation of future earnings and valuations are based on that future earnings growth. Those future cash flows are discounted back to arrive at a present-day valuation, which means a higher discount rate lowers the present value. This is a key reason many long-duration growth and technology companies come under pressure as the interest rate narrative becomes more hawkish.

The Canada Situation

Canada is facing a slightly different economic situation. While inflation is still above the target rate, it is no longer the main concern of the Bank of Canada (BoC) like it is in the U.S. In June, the BoC maintained its overnight policy rate at 2.25% and most economists expect that it is likely to remain stable for the rest of the year.[3] Economic growth, however, has been a growing worry. Canada’s economy has experienced weak GDP growth, slowing business investment, softer consumer spending, and moderating domestic demand which has led many economists to cut economic growth forecasts.[4] Additional uncertainty from the Canada-United States-Mexico Agreement (CUSMA) review could make matters worse potentially. Depending on how it plays out and how long it takes to decide the outcome, trade policy uncertainty could further weigh on business confidence and business investment. This along with the overall sluggish economic momentum has reduced any urgency for the BoC policymakers to consider tightening. If growth were to continue to weaken, policymakers may instead shift back towards monetary easing.

This divergence between the Fed and the BoC has implications for their respective financial markets. A wider interest-rate differential between the two countries (U.S. raising while Canada is paused or cutting) would likely continue to support a stronger U.S. dollar relative to the Canadian dollar. This is because higher U.S. interest rates generally will attract global capital towards the higher-yielding U.S. assets. Without a moderation in U.S. inflation or stronger growth in the Canadian economy, this divergence is likely to remain supportive of a stronger U.S. dollar relative to the Canadian dollar through the second half of 2026.

The Stock Situation

If rate hikes become a reality in the months ahead, quality is likely to become an increasingly important characteristic relative to style when selecting equities. Rather than attempting to shift between value and growth, investors would be better served by concentrating on companies which are high-quality compounders with strong pricing power and the ability to maintain margins in a potentially higher-rate environment. Additionally, having competitive advantages, sustainable free cash flow generation, and healthy balance sheets with low exposure to refinancing are also beneficial attributes. Companies that can protect their profit margins despite elevated financing costs and slower economic growth should fare better than those who rely heavily on cheap financing and have valuations that are dependent mostly on distant future earnings. Specifically, within the technology sector, the distinction becomes important where larger, well-established high-quality names are much better positioned for this situation versus the more speculative businesses.

For the months ahead, inflation will be the defining variable in the U.S. while Canada remains focused on economic growth. If inflation in the U.S. increasingly returns toward the Fed's 2% target and this happens without materially weakening the overall economic activity, financial markets could begin to experience a broader equity participation and a rally in higher-growth sectors as the fear of higher rates eases. If inflation remains stubbornly elevated, then the Fed may be forced to remain restrictive for longer and that would keep bond yields elevated and keep downward pressure on valuation multiples.

In Canada, continued economic weakness would likely increase the probability of monetary easing, while growth stabilization or improvement would likely result in an extended pause.

Overall, the current investment environment is one where discipline and security selection has become increasingly important. Simply relying on style and/or sector rotation is unlikely to produce the best results while monetary policy remains uncertain. Instead, the emphasis should be on consistent cash flows, pricing power, and balance-sheet strength. Until inflation begins to moderate and monetary policy starts to normalize, the quality of the underlying businesses will remain one of the most important drivers of long-term investment performance.

JAY SMITH, CIM®, FCSI®
Senior Portfolio Manager & Senior Wealth Advisor    
jay.smith@cibc.ca

BRAD BROWN, MBA, CFA®
Portfolio Manager & Associate Investment Advisor
brad.brown@cibc.com