By Douglas Porter

October 23, 2026

It was just a little more than two weeks ago when the S&P 500 hit a record high and 10-year Treasury yields were reaching their highest level since 2002 as the AI trade looked nearly unstoppable. This week, it suddenly looked very stoppable, with the Nasdaq 100 retreating by more than 7% from its early-October highwater mark.

But the good news is that the rotation investors were focused on had nothing to do with the starting pitching staff of the Brewers or Rays, as funds rotated furiously back into lower volatility and more interest-sensitive names. Even as tech sectors have retreated broadly, the Dow has risen almost 4% this month and the Dow Utilities Index is up 10%.

Driving the rebound in rate-sensitive areas has been a big pullback in Treasury yields, as the bond market’s fever seems to have broken. Despite a rebound in crude oil prices to back above $100 (and $116 for Brent, a six-month high), the 10-year yield fell for the third week in a row. At just under 5%, this key figure is now down almost 40 bps from its apex of just a few short weeks ago.

Fuelling the rally has been the mounting questions over the sustainability of the AI spending spree, but also the deepening strains in France’s bond market. By week’s end, French 10-year yields had moved above 5%, or above their U.S. counterparts for the first time since 2013. Recall that less than five years ago, 10-year OAT yields were negative—in other words, people were paying the French government for the privilege of lending to it.

Into this world of many moving parts, a variety of major central banks will need to step up with hotly anticipated rate decisions next week. The crisis engulfing France has turned down the volume on ECB rate hikes rather abruptly, with the market now seeing less than a 10% chance of a move at next week’s policy meeting, albeit with December still viewed as a likely hike (we concur on both).

And there is precedent for the ECB hiking into a European bond market maelstrom—it did precisely so in 2011. The Bank of Japan’s meeting next Friday appears far less dramatic, with no move widely expected there, even as inflation has perked back up above 2%. But, again, a December rate hike beckons for Japan.

The Fed’s rate decision next Wednesday has also moved into the “expected hold” category, with the cooldown in the AI sector and milder job growth taking the heat off. Recent inflation readings have been on the warm side—especially at the producer level—but a wave of Fed speakers suggesting there was no rush to raise rates has provided a strong counterpoint. (While Chair Warsh may eschew forward guidance, other FOMC members seem unwilling to kick the habit.) The biggest shift in yields in the past few weeks has been at the longer end of the Treasury curve, but even 2-years have pulled back about 25 bps on net from their recent highs to below 4.7%.

Still, the market is fully priced for at least two more hikes by the Fed by next spring—and we would not disagree. Given the persistent strength in oil and product prices, and the absence of an obvious off-ramp for the spreading Mideast conflict, we adjusted our Fed call this week. We now see the Fed hiking two more times (versus just one before), with steps expected in December and March.

Beyond the steady pressure on headline inflation from energy prices, the rate hikes can be justified by both warm core inflation trends and still-solid GDP growth. No doubt, that growth is heavily concentrated in the AI build-out, but it is putting real pressure on a variety of costs and prices, and keeping the economy operating close to capacity.

The day after the Fed rate decision, we’ll get the first reading on Q3 GDP as well as the PCE price index for September. The popular number that day will be 3%, with all of these major indicators likely to clock in above that pace—growth is expected to post its strongest result in a year at 3.3%, core PCE will tick up to 3.1%, and headline PCE will rise to 3.6% (just below the CPI’s latest 3.7% result).

Keep an eye on nominal GDP—the combination of real growth and inflation—it’s expected to come in close to a 6% pace both in the quarter and versus a year ago. While the frozen housing market would beg to differ, suffice it to say that short-term rates at just above 4% probably aren’t very restrictive for the economy as a whole that’s seeing nominal spending growing by around 6%.

The other central bank deciding on Wednesday is none other than the Bank of Canada. Unlike almost every other major bank on deck next week, market expectations are leaning heavily to a rate hike. In the event, it would be the first hike by the BoC since July 2023, as it—along with the BoE—was among the last remaining hold-outs on the rate hike front. (The BoE is also widely expected to get off the bench at its next decision in early November.)

It was with great reluctance that we threw in the towel and changed our call on the BoC earlier this week. Now, we are pencilling in a move next week and then again in January. This is absolutely a case of predicting what the Bank will do, not necessarily what they should do.

Normally, those twain meet, but not this time. We simply succumbed in the face of Governor Macklem’s intense fixation on headline inflation—which did indeed perk up a tick to 3.1% last month—and the relentless strength in energy prices means it will stay above 3% for a while, if not even grind a bit higher yet. And firms’ inflation expectations in the latest Business Outlook Survey likely did nothing to soothe the Bank’s frayed inflation nerves. The fact that GDP growth will probably hang in there at close to 2% in Q3 does suggest the economy had managed reasonably well in the face of trade uncertainty up to that point.

That’s the (somewhat weak) argument in favour of the anticipated rate hikes. Now, for the uninitiated, here is the case for the defence of a steady policy. Unlike the U.S., and most other major economies, Canadian core inflation remains remarkably stable—if anything, it is still cooling, with both of the BoC’s main measures dipping below the 2% target last month. And, unlike most other major economies, Canada is still faced with deep uncertainties on U.S. trade—a relationship which weighs much more heavily than for other economies, save Mexico.

And while backward-looking indicators may have held up, Canadian employment has cascaded lower by a disturbing 110,000 jobs in the past two months; true, jobs data can be volatile, but one would imagine that most central banks would want to ensure such a steep decline was not the start of a trend before tightening policy.

The final point is that there is the real danger that fiscal and monetary policy may soon be rowing in opposite directions. Ottawa’s Budget will be revealed on November 5, and it’s expected to advance and extend the federal government’s efforts to support the economy through this difficult period of trade uncertainty.

Such measures have included the Productivity Mega Deduction; the gas tax cut; the generous top-up on the HST rebate (aka the Canada Groceries and Essentials benefit); and, the HST holiday on new homes. And now the BoC is expected to hike rates?

Just asking for a friend: If policymakers are of the view that the economy is running too hot and in need of cooling to calm inflation, should they not first start by reining in fiscal deficits, especially at a time when markets are acutely tuned to government finances and borrowing costs are high?

Policy Contributing Writer Douglas Porter is Chief Economist for BMO.