Bond Bull Rally Delayed: What You Need to Know as Yields Rise

Market sentiment is shifting due to the absence of a recession in 2024, which has set the stage for a more resilient economic landscape in 2025. With consensus forecasts pointing to modest growth without a dramatic slowdown, the potential for stronger-than-expected economic performance could keep long-term rates elevated and volatile, moving within a broad range as investors weigh competing signals. Long-term investors should prepare for a scenario where rates settle around 4% unless a pronounced economic slowdown occurs.

Key Economic Indicators to Watch:

• Economic Growth and Inflation: Consensus estimates project U.S. real GDP growth at 1.9% for 2025, with consumer prices expected to rise by 2.3% at the headline level and 2.1% at the core level. If growth and inflation end up to be stronger than expected, yields may remain high, impacting long-duration bonds.
• Employment data: The Fed may slow or skip rate cuts, as payroll growth remains stable, suggesting fewer rate cuts are likely unless job growth slows significantly.

High Carry Remains a Preferred Strategy for Long-Term Fixed-Income Investors

Given the current economic backdrop, long-term investors can benefit from a balanced approach that combines high-yield instruments with low duration risk. While the market may be volatile, careful selection of high-yield corporate bonds, emerging market debt, and short-duration Treasuries can provide income stability. This strategy aligns with the economic outlook, which points to a soft landing but acknowledges potential surprises that could influence inflation and Fed policy. Long-term investors can explore several fixed-income strategies to enhance portfolio resilience and generate returns:

1. High-Yield Corporate Bonds:

Despite tightening spreads in the U.S., high-yield corporate bonds continue to offer attractive income. Companies have successfully extended their debt maturities, reducing refinancing risks and creating stable cash flow. High-yield corporate bonds are suitable for investors looking to balance income generation with moderate credit risk.

ETF: iShares $ High Yield Corp Bond UCITS ETF (IBC2): This ETF offers exposure to U.S. high-yield corporate bonds. It provides income while maintaining moderate credit risk.

2. Emerging Market Bonds:

With global economic resilience and high-carry potential, emerging market bonds present a viable option for income-focused investors. These bonds provide higher yields relative to U.S. Treasuries and may benefit from a weaker U.S. dollar environment if the Fed continues to ease.

ETF: Vanguard USD Emerging Markets Government Bond UCITS ETF (VEMT): This ETF provides exposure to U.S. dollar-denominated government bonds from emerging markets, balancing higher yields with the stability of sovereign debt.

3. Sovereign Bonds in Europe:

In Europe, government bonds from countries like Italy offer yields above the EU average, providing a cushion against inflation. Italy’s BTPs, for example, offer competitive yields and can serve as a hedge against both inflationary and deflationary risks in the eurozone.

ETF: iShares Italy Government Bond UCITS ETF (IITB): This ETF provides exposure to Italian government bonds (BTPs), which offer competitive yields,  serving as a buffer against inflation and policy uncertainty in the EU.

4. U.S. Treasuries with Shorter Durations:

Given the uncertainty around the Fed’s rate path, shorter-duration Treasuries can help investors manage interest rate risk. A focus on 2- to 5-year Treasuries could provide stability, offering yields with lower price sensitivity to rising rates.

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