Canada’s "technical recession" likely yields to better growth through the rest of 2026

June 2026 Insights & Strategies

Macro Highlights for May

• Canadian GDP declined 0.1% in 1Q26, which was below the 1.5% growth expected in the Bank of Canada (BoC) forecast. Following a 1.0% (revised from 1.5%) decline in 4Q25, some call this a “technical recession”, although an official ruling on an actual recession depends on the depth, breadth, and duration of any downturn. Despite a cautious landscape, thanks in large part to trade uncertainty with the U.S., we continue to expect modest, but positive, economic growth for the full year.
• Canada’s unemployment rate dropped unexpectedly to 6.6% in May, from 6.9% in April, as the country saw 88k new jobs in the month, well above the 10k estimate. The YTD decline is now just 25k.
• The labour market remains more resilient in the U.S., with the unemployment rate steady at 4.3% again in May, with a 172k rise in payrolls, double the consensus expectation, putting the 3-month average gain at almost 188k/mth, leaving more reasons for the Fed to stay on hold rather than to resume cutting rates.

Financial Markets in May

• U.S. and Canadian equities extended their April rally into May, reaching new highs as strong earnings growth and renewed A.I. enthusiasm helped markets look through the ongoing Iran conflict. The S&P 500 gained 5.1% on a price basis and 5.3% on a total return basis, lifting year-to-date returns to 10.7% and 11.2%, respectively. The S&P/TSX Composite also advanced, gaining 2.4% by price and 2.5% on a total return basis, bringing year-to-date returns to 9.6% and 10.6%, respectively.
• S&P 500 earnings grew 27.9% year-over-year in 1Q26, more than double expectations, lifting full-year estimates from US$317 to US$335. TSX Composite earnings also rose strongly, up 26.3% year-over-year, with full-year estimates revised from C$1,966 to C$2,127. Growth was concentrated in A.I.-related sectors for the S&P 500 and in Materials and Financials for the TSX, while Energy is expected to contribute more meaningfully in 2Q26 for both indices, following the surge in oil prices.
• A.I. trades have rebounded sharply over the past two months, with some parts of the ecosystem now showing signs of crowding. Even after the recent pullback, memory and storage stocks have still driven the semiconductor industry index up 44.3% from its March 30 trough as of June 5. While the move is supported by real infrastructure bottlenecks, expectations have risen quickly, leaving these areas more vulnerable if earnings revisions, order growth, or capex commentary disappoint. Equity prices are also likely to become more sensitive to the Fed rate backdrop from here as still elevated inflation and strong jobs growth increase the potential for the Fed to move to a hiking bias which would put pressure on valuation multiples.

Upcoming

• The joint review of the USMCA, including the July 1 deadline to confirm if the agreement will be extended for 16 more years, will likely be the most consequential event for Canada this year. A lack of renewal does not mean that the USMCA ends imminently, but will just move the process to a period of annual reviews until another 16-year extension can be agreed to. We see a formal renewal on July 1 as increasingly unlikely, but that maintaining the current agreement, for at least the next 10 years, is still a reasonably good outcome for Canada, until a new 16-year extension is ultimately established, However, the lingering uncertainty will weigh on business sentiment and willingness to commit to longer-term investments, especially for industries in sectors that are targeting by demands from the U.S. for adjustments related to rules of origin, digital services, and the dairy industry.
• After the IEEPA-based tariffs were struck down by the U.S. Supreme Court, President Trump initiated Section 122 tariffs as a short-term replacement. Those tariffs expire on July 24, and so we are now seeing the U.S. administration rebuilding its tariff wall with country and industry-specific tariffs, including recent announcements claiming that countries, including Canada, are not doing enough to avoid products produced by forced labour from entering supply chains. We will be watching intently to see additional efforts to rebuild these protectionist policies and replace lost tariff revenue for the U.S. government.
• The Bank of Canada (BoC) will make its next interest rate announcement on June 10. With surprising weakness in the Q1 GDP numbers, and uncertainty regarding trade, with a slight improvement in the unemployment rate, and inflation that has been inching up, but still within the 1-3% comfort range, we expect the bank to remain on hold at 2.25%. Similarly, the FOMC is likely to maintain its U.S. rate at 3.75% on June 17, against still elevated inflation, still strong economic growth, stronger than expected job growth, and relatively low unemployment rate. The focus will be on messaging from new Chair Kevin Warsh and evolution in the dot plot signaling willingness to cut rates later in the year or the likelihood of the Fed moving to a tightening bias.