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Bond Market Opportunities for Investors in 2025
We examine how a potentially complex bond market in 2025 could still offer opportunities in high-yield bonds, municipal bonds, and inflation-protected securities.
- Portfolio Construction
- High Yield Strategy
- Risk Management
- Fixed Income Insights
Key Points
What it is
The high yield bond market continues to benefit from historically high credit quality, above-average yields, and our expectation of below-average defaults.
Why it matters
While rate cuts and inflation pose risks in 2025, we believe investors may find a few opportunities in high yield bonds, municipal bonds, and inflation-protected securities.
Where it's going
Looking to 2025, we think elevated yields will continue for Treasurys, municipal bonds, and corporate bonds, notably high yield.
Following the clear downward trends of U.S. inflation and interest rates this year, we think the bond market in 2025 may prove a bit more complex to navigate. While there are risks around the extent of rate cuts and inflation trends next year, we believe investors can find a few opportunities in high yield bonds, , and inflation-protected securities. Let’s take a closer look.
The high yield bond market continues to benefit from an historically high , above-average yields, and our expectation of below-average defaults. Healthy balance sheets and sufficient profitability to cover interest payments support strong fundamentals, and we expect defaults to fall well below the historical average of 4%. With yields above 7%, our expectation of low defaults and a supportive Federal Reserve are positive for investors seeking total returns with reduced volatility compared to equities.
Strong fundamentals and yields also set up municipal bonds well for 2025. The average yield stands at above 3.5%, well over the 10-year average. Keep in mind that municipal bond income is tax free for taxable investors. Based on the highest income tax bracket in the U.S., the yield is the equivalent to about 6% for a bond where income is taxable. Among state and local government issuers, we think healthy reserves, improved pension funding, and less debt provides a margin of safety from unexpected policy, economic, or other shock events.
are priced for near-perfection, reflecting expectations that the Fed will successfully meet their 2% inflation target over the next five to 10 years. Currently, core inflation, which excludes more volatility energy and food prices, is above 3%. Even as inflation has come down, U.S. economic growth, high government spending, and potentially tariffs may pressure inflation upwards and challenge the Fed to meet its goal. By and large, we expect the path of inflation to be bumpy, making TIPS an important defensive portfolio component for unanticipated inflation.
Increased bond yields over the past two years have been a dramatic departure from the low yields and returns that investors experienced the previous 15 years. , we think elevated yields will continue for Treasurys, municipal bonds and corporate bonds, notably high yield. In our view, these segments of the fixed income market offer fair compensation for investors and attractive yields relative to cash.
Treasury inflation-protected securities (TIPS) are Treasury securities indexed to inflation to protect against inflation-related purchasing power deterioration.
Credit quality measures a company's ability to repay its debt. Investors evaluate credit quality to determine the risk of investing in bonds.
Municipal bonds are issued by state and local governments to pay for expenditures including highways, bridges or schools. Income from municipal bonds are often exempt from taxes.
Main Point
Strategic Insights for the 2025 Bond Market
High-yield bonds, municipal bonds, and inflation-protected securities could provide investors with a versatile tool kit to navigate the evolving opportunities of the 2025 bond market.
2025 Global Investment Outlook
Chris Roth
Portfolio Manager
Chris Roth is chief investment officer (CIO), global fixed income for Northern Trust Asset Management. Chris oversees the investment strategy, process and approach for the firm’s fixed income business globally.
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