Welcome to the December edition of the George Davis Report. Now, since we're at the end of this year, I thought it would be helpful to just provide you with a bit of an overview in terms of our Dollar Canada forecast for 2026. A lot of people now are sort of closing up on the fiscal year for 2025, starting to look forward to next year in terms of some of their sales forecasts, et cetera. So I think this will be a good overlay from the hedging side of the equation. As you can see in the chart on the screen, we've presented our dollar CAD forecasts by quarter. You'll notice that we do have a depreciating profile for Dollar Canada through 2026. Essentially, we expect Dollar Canada to end the first quarter around 1.36. The middle of the year, closer to 1.35. And then by the end of next year, somewhere around the 1.31 to 133 area.
So again, reemphasizing a declining profile for dollar CAD. And that's basically driven by a few key factors. First and foremost, we are expecting two more rate cuts from the Fed, which will basically take the Fed funds rate down to around 3.5%. On the flip side of that, we think we've reached the terminal rate at two and a quarter here in Canada. So in other words, we're not expecting any more rate cuts from the Bank of Canada. We think that with rates right now at the bottom end of the Bank of Canada's two and a quarter, three and a quarter estimate for the neutral rate of interest. Given where inflation levels are still quite sticky, it suggests that the Bank of Canada at this point shouldn't have to cut interest rates any further. So we're actually looking for the Bank of Canada to keep interest rates on hold for the balance of 2026.
And so if you look at it from a rate differential perspective, number one, the fact that we're looking for more cuts from the Fed relative to the Bank of Canada at the margin should be a bearish factor for the US dollar versus the Canadian dollar. And also, as those interest rate differentials between the US and Canada narrow, what we think that's going to do is that's going to cause a lot of investors to move off of the sidelines and hedge some of their US dollar exposure. A lot of investors here in Canada and globally have overweight positions in US assets, namely US equities, but hedging costs right now are quite expensive on a historical basis. But if we do get a few more rate cuts from the Fed and the rate differential between the US and Canada narrows, that would cheapen up the hedging costs for those investors.
And essentially right now with higher levels of uncertainty around the trade dynamic, around global relationships that various countries have with the US, a lot more political and geopolitical uncertainty, we think that a cheapening in hedging costs will cause some of those investors to come off of the sidelines and start to sell some US dollars, not only against the Canadian dollar, but against some of the other global currencies as well, the Euro, the yen, the pound sterling, et cetera, to hedge some of that overexposure that they have in US dollar assets. And those flows should create not only a weaker US dollar against the Canadian dollar, but also some broader based US dollar weakness. So those are kind of the two main driving themes that we see right now. We're also assuming that the broader structure of the USMCA trade agreement is going to remain in place.
Now, one of the positive surprises of that this year is that has limited the most negative scenarios for the Canadian economy because according to our calculations, roughly 88% to 90% of Canadian exports crossing the border into the US are able to do so tariff-free because those items are protected by the USMCA trade agreement. And so we think that that is going to continue to remain broadly in place and help to protect some of those negative downside risks from exports. Now, the other thing to keep in mind is we are going to see a revisiting of the USMCA trade agreement as we move into next year. The deadline is by July 1st of 2026. So we're definitely going to see a lot of headline risk around this renegotiation phase. And like I said, we're generally assuming that the broader base structure of the agreement is going to remain in place, and there will be some changes, but more specific and targeted to certain sectors and certain industries.
So for example, we may see some negotiations around autos and US content in autos. We may see some renegotiation around supply management and agriculture, those types of things. So there is going to be some changes, but we don't think that we're going to see the USMCA agreement scrapped. We don't think that that is going to happen. And so again, it is going to provide a little bit of a positive backstop in that sense. Now, if you look at the chart on your screen here, this shows where our forecasts are for Dollar Canada relative to the Bloomberg consensus. And you can see that as we work our way through 2026, we have a little bit more of a bearish profile for Dollar CAD relative to consensus. The blue line that you see on the chart there is our forecast here at RBC, and the yellow line that you see above there, that is the median forecast that we see on Bloomberg right now.
And one of the things that we've been saying to clients over the past six months or so is the profile that you see now is a little bit of a change from what we've had historically over the last three to four years. Generally speaking, we have been more bullish on the US dollar relative to the Canadian dollar in terms of our forecast compared to the consensus. But in April of this year, we had a little bit of a pivot and we became more bearish for Dollar Canada relative to the consensus. And a lot of that bearishness is basically driven by the protection that we've been getting from the USMCA trade agreement. We do see some downside risks increasing for Dollar Canada from a technical perspective heading into year-end. As you can see in the chart on your screen here, you'll notice that we've just recently broken below an ascending channel base around the 1.3950 area.
And so essentially what that's done is that has ended an uptrend that has been in place since late July, and it does point towards a shift in sentiment, i.e., the market's becoming more bearish on Dollar Canada, and instead of buying US dollars on dips, the market's now transitioning to selling US dollars into rallies. So if we look at some key downside levels to watch over the next two to three months, certainly the 1.3725 level, that is a triple bottom that you can see on the chart there that formed between August and September. I think that's the next important support level to watch on the downside for Dollar Canada. And then below there, we basically have the 1.3425 to 1.3550 region, which if we go back to roughly this time last year, in the fall of last year, we've got some old lows and some old highs coming in that region.
Now on the top side, what really stands out is the 1.4150 level. You'll notice that through the month of November, we had two attempts where Dollar CAD tried to rally and break above that level, and on both occasions we failed and then we broke below the base of the ascending channel pattern. So what that does suggest, again, and this is what generally our view has been for the past six months or so, we're still sticking to this theme that rallies towards the 1.40 to 1.4150 area will present a selling opportunity in Dollar Canada. Now, I think to close off the discussion today, I think one thing that's important to highlight are some of the risks around our outlook. Uncertainty levels are much higher in the current environment. Again, with respect to the outcome on trade, a lot more geopolitical risk present right now, and just general economic uncertainty because of some of the significant changes that we're seeing in terms of US government policy. And so I think that makes the risks to any given forecast even more important.
So I'd like to highlight a few things that present some risks to our view. First and foremost, that joint review of the USMCA trade agreement that I mentioned, it has to start by July 1st of next year. So we are going to see at various points in time a bunch of different headline risk around that. Now, one thing we could see, for example, we could see some threats from the US as a negotiating tactic to potentially pull out of the USMCA trade agreement. That's not our central view, but of course, negative headlines like that are likely to create a little bit of a top side pop higher in Dollar Canada as the market reacts to those type of negative headlines. But generally speaking, because our base case view is the broader structure of the USMCA trade agreement is going to stay in place, those near term pops or rallies around those negative headlines would be viewed as selling opportunities.
But the USMCA risks could work both ways in the sense that if by chance we come to an agreement sooner than expected, that would certainly be a more bullish factor for the Canadian dollar, and that in turn could push dollar CAD lower sooner than what we're expecting. So that's probably, I think, the main risk that's on our radar as we transition into 2026.
Now, accompanied by that, I would say the risk of a global selloff in risk assets, i.e., a correction in the stock market. Our US equity strategists are a little bit concerned about valuations at this point in terms of the cycle. They do see the risk of a five to 10% garden style textbook pullback or corrections, so to speak, in the equity market as we move into the first half of next year. And normally when we see those risk-off type of moves, i.e. a selloff in equities, that's an environment where we tend to see a rally in the US dollar. And so a correction in the equity market would be another risk to highlight and watch for as we go through next year.
Another issue to watch would be on the inflation side here in Canada. Inflation has remained quite sticky. We haven't seen an aggressive move lower in inflation. And of course, the uncertainty around trade and how the USMCA renegotiations are going to go is going to add some risks to that scenario. And so if by chance inflation is stickier and higher than what the Bank of Canada is expecting, that might actually cause the market at some point in time to start pricing in some rate hikes in Canada. Now, again, that's not our base case view. We think policy is on hold for the balance of 2026, but if we had that type of scenario, that would be more bullish for the Canadian dollar. And so that would introduce some downside risks for Dollar Canada. So that's another risk to watch.
And then lastly, I think right now we've got the market continuing to price in rate cuts south of the border by the Fed. If by chance US economic growth is stronger than expected, or if by chance inflation in the US is stickier than expected, and we don't get those rate cuts from the Fed that ourselves and the market is expecting, that would be more of a top side or bullish risk for dollar CAD because if we don't get as many rate cuts from the Fed, those rate differentials aren't going to narrow as much, and that would lend more support to the US dollar. So I think those are four important risks to watch as we transition into 2026 and work our way through the year.
Now, lastly, in terms of our expected trading range, given that bearish breakdown from the ascending channel pattern that we've just discussed, I think we'll put 1.36 as the downside limit to the range for the month ahead. And on the top side, we'll go with the 141 level where we saw a lot of selling interest come into the market during November. So basically 1.36 to 1.41 would serve as our expected trading range as we go into next year.
On that note, I'd like to wish all of our viewers a safe and happy holiday season and all the best for a prosperous 2026.