U.S. bonds shined in 2025 but returns could lose altitude next year

Derek Orth works on the floor at the New York Stock Exchange in New York, Wednesday, Dec. 10, 2025. (AP Photo/Seth Wenig)

NEW YORK — U.S. bond investors may face a tougher 2026, with some market-watchers forecasting slower returns as the Federal Reserve dials back rate cuts and potential fiscal stimulus complicates the outlook after a banner year.

The cautious forecast comes after a strong 2025 for bondholders, when Fed easing and a supportive economy fueled the market’s best performance since 2020. Investors are now weighing whether a less aggressive Fed and new fiscal policies could halt that momentum, posing a challenge for total returns.

A rate-cutting Fed that trimmed rates by 75 basis points in 2025 fueled this year’s bond rally, since lower policy rates push down yields and make older bonds, with their comparatively higher payouts, more valuable. On the corporate debt side, a resilient U.S. economy shored up companies’ profits, keeping the extra yield investors demand to hold corporate bonds instead of U.S. Treasuries near historic lows.

Total returns for the Morningstar US Core Bond TR YSD index, which tracks dollar-denominated securities with maturities greater than one year, were about 7.3 per cent in 2025, the highest since 2020. The index includes investment-grade government and corporate bonds.

Many expect market conditions to remain somewhat similar in 2026, but total returns, which include bond payouts and price fluctuations, could struggle to match 2025’s performance.

The Fed is largely expected to cut rates by a smaller amount than in 2025, with traders pricing some 60 basis points of easing in 2026 as of Monday.

Additionally, fiscal stimulus coming from President Donald Trump’s tax and spending policies, which are expected to boost economic growth in 2026, could prevent long-term Treasury yields from dropping as much as they did this year, some investors said.

“I think next year will be trickier,” said Jimmy Chang, chief investment officer of the Rockefeller Global Family Office.

“Shorter-dated bond yields will continue to move lower, because the Fed will probably cut one or two more times at the minimum. At the same time, a re-accelerating economy may push longer-dated bond yields higher ... so that will potentially negatively impact the total returns,” he said.

Duration doubts

Benchmark 10-year Treasury yields — a key gauge for government and private-sector borrowing costs — fell more than 40 basis points this year to about 4.1 per cent as of Monday, as rate cuts and growing worries about the U.S. labor market fueled the rally.

Few expect a repeat in 2026, with many market participants betting the 10-year yield will be at current levels or slightly higher by the end of next year.

JPMorgan analysts see 10-year Treasury yields ending 2026 at 4.35 per cent, while rates analysts at BofA Securities forecast 4.25 per cent.

Anders Persson, chief investment officer and head of global fixed income at Nuveen, said he expects the benchmark yield to decline to about four per cent, but he is cautious about the performance of longer-dated bonds as rising government debt levels globally could push those yields higher.

“We could see the long end (of the yield curve) being very much anchored and potentially drift higher,” he said, adding he remains “underweight duration,” meaning he is keeping a smaller share of longer-maturity bonds that would be hit harder by rising yields.

Wider credit spreads?

Investment-grade credit spreads - or the premium over U.S. Treasuries paid by high-rated companies to issue bonds - stood at about 80 basis points as of Monday, about the same level they were at the beginning of the year and close to their lowest since 1998.

Total returns for investment-grade credit this year, as measured by the widely used ICE BofA US Corporate Index, stood at nearly eight per cent as of Monday, up from 2.8 per cent last year. Returns for so-called junk bonds, as measured by the ICE BofA US High Yield Index, were about 8.2 per cent, similar to last year.

JPMorgan has forecast investment-grade credit spreads could widen to 110 basis points next year partly on expectations of higher corporate debt issuance from tech companies, with total returns for high-grade debt declining to three per cent.

Others are more bullish. BNP Paribas expects spreads at 80 basis points by the end of next year.

Emily Roland, co-chief investment strategist at Manulife John Hancock Investments, said she was optimistic on “high-quality” bonds for 2026, as she expects the economy to slow next year and the Fed to cut rates more aggressively than what the market is pricing.

“The bond market is not sniffing out the disinflation and the weaker growth that we think is coming down the pipeline for 2026,” she said. “Fundamentally, to us, bonds should be rallying more.”

(Reporting by Davide Barbuscia in New York; Editing by Megan Davies, Anna Driver and Matthew Lewis)