Taxable Bond Market Commentary – 2Q 2025

Fixed Income markets remained resilient in the second quarter, buoyed by firm fundamentals and continued comfort that the Fed would implement rate cuts by year-end, even as trade and fiscal policy uncertainty kept inflation risks and market volatility elevated. President Trump’s aggressive tariff announcement initially rattled markets and sent rates higher, but the volatility was ultimately contained as investors absorbed the headlines. Swift policy recalibration helped ease tensions and restore risk appetite. Investors looked past US-China and Middle East tensions, as well as growing concerns about deficit-related policy risks, encouraged by moderating inflation and a still-firm labor market. While political pressure from the White House for immediate cuts persisted, the Fed maintained a wait-and-see approach, pointing to uncertainty around how tariffs will affect inflation dynamics and labor market strength. Timing uncertainty aside, both the market and the Fed aligned around two rate cuts by year-end, the easing cycle appears set to resume.

Against this backdrop, the Bloomberg Aggregate Bond Index returned 1.2% for the quarter, a solid performance amid elevated rate and spread volatility. Credit markets outperformed as investors embraced risk, driving spreads tighter across corporates and many securitized sectors. With conviction building around Fed rate cuts, investors piled into the belly of the curve, pulling 2- to 5-year yields down by 15-20 basis points. Meanwhile, the 10-year Treasury yield traded in a broad 60-basis points range, ultimately finishing the quarter almost flat, up only 2 basis points. The result was a bull steepening of the 2s10s curve, which increased by 19 basis points. However, with the front-end anchored by Fed policy, the 3 month- to-10s curve remained inverted, little changed over the quarter.

In early April, a sharp trade policy-driven risk-off move pushed spreads to multi-year wides. But the market regained its footing over the month, and risk appetite built through the remainder of the quarter. Corporate credit shook off this volatility to post strong returns, as spreads retraced from their widest levels of the year. High yield staged a dramatic rally, tightening more than 160 basis points from its April peak and delivering a total return of about 3.5%. Investment grade followed, finishing the quarter 11 basis points tighter and returning over 1.8%, with spreads ending only 6 basis points from year-to-date lows. While some caution lingers around the macroeconomic backdrop, the credit story remains compelling for carry-focused investors. Fundamentals are solid, the economic outlook is still benign, and technicals remain favorable amid attractive all-in yields and muted net supply.

Securitized assets outperformed comparable-duration Treasuries across all subsectors, despite heightened spread volatility to start the quarter. Additionally, rate volatility reached its highest level since 2023 in April, but quickly subsided and ended the quarter lower. The decline in volatility failed to boost demand for agency mortgage-backed securities (MBS), and spreads in the sector did not retrace as fully as in other asset classes. Still, investors who maintained MBS exposure were ultimately rewarded, benefiting from a steeper yield curve and constructive regulatory developments. Commercial mortgage-backed securities (CMBS) and asset-backed securities (ABS) led performance, supported by the move in the 3- to 5-year segment of the yield curve and spread compression. Overall, the securitized sector remains well supported by solid collateral performance and spreads near long-term averages, offering compelling relative value in the current environment.

Markets opened the second quarter under a barrage of social media-driven headlines, many of which have been absorbed, priced in, or faded into the background. US market resilience warrants recognition as liquidity and transparency held up well through the turbulence. We believe that liquidity and market depth will serve investors well heading into the second half of the year. The timing and approach of the Fed’s response to potential tariff-related inflation remains unresolved, as it attempts to balance price stability with labor market support. Geopolitical risks, particularly around oil and global economic growth, remain elevated, while the US consumer continues to adjust for the impacts of trade policy on their propensity to spend. Even with these headwinds, the fixed income market has a solid foundation, supported by a strong US economy, the prospect of a sizable fiscal stimulus package, and a Fed that remains ready to act if necessary.