Webinar: Quarterly fixed income review and outlook | January 2026 | Insight Investment

This morning I'm going to be looking at what happened in the fourth quarter of 2025 and thinking about how we're positioned as we look to the year ahead.

Now, given that it's a new year, I thought I wanted to start by reflecting on 2025 as a whole before diving into the specifics of the fourth quarter.

2025 is not short on macro surprises and if the first few weeks of 2026 at anything to go by, then this seems likely to continue. However, despite the shocks and volatility we saw last year, it was actually a very strong year for growth assets almost across the board. And this was buoyed by global growth, which proved itself to be remarkably resilient and by optimism surrounding ai.

Indeed, when you look at the performance of the S&P500, it almost belies the fact that Trump shocked tariff announcements back in April saw the index face its fifth largest two day fall since World War II. And yet despite the on again off again nature of the tariffs, markets seem to have collectively breathed a sigh of relief that they have not ended up being as bad as initially expected, even if the reality is that the tariff levels we've ended up with are far higher than they were prior to liberation day.

Away from tariffs, 2025 was the year which put fiscal concerns firmly back on the menu with France bracing through Prime Ministers as they failed to pass budgets. The US government having its longest ever shutdown and in the UK Rachel Reeves, just about managing to keep both gilt markets and labor back benches on side as she came back for another tax rate in her autumn budget. And of course all this was happening against the global geopolitical backdrop which simply refused to quieten down.

So with that as the setting, it's almost surprising that risk assets had such a strong year. The S&P500 climbed 18%. But I think the real standout here when we look across risk assets aside from gold and silver, which I'll touch on later, are emerging markets and whether in equity or fixed income form emerging markets benefited from a global shift away from US dollar assets.

And this could very well continue to be a tailwind for the asset class in 2026. This coupled with strong technicals and supported fundamentals could put emerging market credit firmly back in the spotlight.

So coming back to global growth for just a minute, as we said, this proved itself to be remarkably resilient in 2025, but there is some question as to whether this resilience is because the impact of tariffs has simply not started to feed through yet.

However, if we look at the right hand chart on screen, we are now starting to see signs that goods imports to the US shown in dark green have fallen meaningfully below exports in light green. This means that the trade imbalance, which you can see on the left hand side, has fallen precipitously.

Coming back to the right hand chart, one thing which I think really sticks out is the surge in imports seen post liberation day, but crucially pre tariff implementation which saw companies effectively try to rush and front run those tariffs and shore up inventory.

Now how much excess inventory they've actually managed to shore up is not entirely clear, but many think that it was only a couple of months worth. And that means that we should be starting to see this rundown which could well begin to have an impact on growth.

Part of the impact will potentially be due to the strength or not of the US consumer, which a recent CNM poll suggests is flagging. Perhaps this isn't entirely surprising when you consider the combined effect of Trump's tariffs and one big beautiful bill.

Looking at the left hand chart, tariffs have been universally negative with the dollar impact unsurprisingly getting bigger as you move up in terms of income percentiles. However, the benefit of the one big beautiful bill doesn't kick in until you hit the fourth decile from an income perspective and doesn't fully offset the negative tariff impact until you hit the seventh decile.

And this divergence is definitely helping to drive the khap economy, which means we are now seeing that the top 10% of US consumers are accounting for nearly 50% of total US consumer spending.

This means that whilst overall US consumer spending might be holding up, when you look on the right hand side at overall consumer confidence which isn't weighted by income, we can see that this is sitting meaningfully below its long term average.

And this loss of sentiment is probably not being helped by the weakness in the US labor market. Looking at non-farm payrolls on the left hand side, we can see that the trend in terms of job creation has been contracting with the US unemployment rate hitting 4.5% in Q4.

This will certainly be weighing on the Federal Reserve who may be prompted to think about cutting more in 2026, particularly given that they have US inflation on the right hand side, which has proven remarkably stable despite initial concerns that tariffs would drive a one time inflationary shock.

So before we turn to look at central bank action more broadly, I wanted to take a look at inflation in the UK because unlike in the US both actual and expected inflation remain elevated here. And if we look at the breakdown behind what's actually driving inflation on the left hand side, we can see that the sticky inflation is very much the result of ongoing services inflation here in the UK.

So if we turn to look at what this diverging inflation backdrop means for central banks, as we looked at the year ahead, it's perhaps not a surprise that central banks are starting to walk more differentiated paths.

And indeed, if you look at the left hand chart here, you can see that the ECB in blue has already been racing ahead in terms of getting its cuts done in 2025, whereas the Bank of England and the Federal Reserve have both been lagging somewhat.

But if we look ahead to what markets are pricing in for 2026 on the right hand side, that stickier inflation picture that we were just discussing in the UK means that markets are expecting fewer cuts in the UK than the US this year.

Now our forecast for central bank actions are broadly in line with market expectations now, but that doesn't mean that there aren't relative value opportunities to exploit when it comes to thinking about government bond yields across the globe.

This is particularly true in terms of term structure mispricing. On screen here we have the differential between 10 and 30 year government bond yields across the US, UK, Japan, and Germany.

And I think the first thing that jumps out when looking at that left hand chart is that the Japanese curve in orange seems far too steep. In other words, the yield pickup on the 30 year Japanese government bond versus the 10 year Japanese government bond is too high. And that's particularly true when you consider the fact that the Bank of Japan has started hiking rates, which should put upward pressure on short dated Japanese government bond yields.

Meanwhile, if we look at the US curve in dark green, that seems too flat, particularly given ongoing concerns about the overall levels of US government debt and concerns around Fed independence which could both prove to put upward pressure on longer dated yields.

There we are still waiting to hear who Trump is going to choose to replace Fed Chair Jerome Powell when his term ends in May this year. But there is little doubt that they are likely to be a significantly more dovish character, very much in line with Trump's outlook.

This could end up being somewhat of an own goal for Trump as even perceived threats to Fed independence could push up long dated yields even as base rates potentially get cut further.

And if we look at the chart on the right hand side, we can see that US debt is steadily growing at the same time as international demand for US treasuries may be easing, particularly given that Trump's latest foreign policy moves have seen certain Danish Swedish pension schemes announced their planned divestment from US treasuries, which could also add to further output pressure on US treasury yields.

So turning now to credit markets, we can see that credit spreads continue to hover around the 25th percentile versus history having recovered from their brief selloff post liberation day. And if you look at that longer term history, you'll see that we have to look back to before the 2008 financial crisis to find spreads this tight.

So given this relative tightness, what's driving the continued demand for the asset class?

Well, firstly, it's worth noting that whilst central banks have been cutting, all in credit yields still look relatively healthy.

And secondly, if we turn to corporate fundamentals on screen here, they're actually looking pretty robust. What do I mean by that?

Well, if we look at leverage levels on the left here, then we can see that both euro and dollar investment grade leverage is looking pretty much around long run averages. Whilst the interest rate coverage on the right is not necessarily quite as high as it was post COVID, it's certainly higher than it has been on average, particularly for Euro investment grade bonds in orange.

And the other fact to consider particularly in the context of buy and maintain mandates, where the goal is to buy bonds with the expectation of holding them to maturity, then the biggest risk to our ability to do that is the risk of default.

And what you can see on screen here is that although spreads are tight, they are still more than compensating investors for the risk of default.

So on the left we show credit spreads net of median historical default levels, and you can see that net spreads across the investment grade rating spectrum and across those different currency denominations are crucially still positive. So that means you are more than being paid for the level of risk that you are taking on.

And even if you were to have a less benign global growth outlook, what we show on the right hand side is credit spread net of elevated historical default levels. So akin to an 08 / 09 type scenario in terms of defaults.

And yes, these spreads are commensurately lower than the left hand charts, but it's worth noting that they are still all positive and the kind of market environment that you would need to see to induce this level of defaults is certainly not in line with our current expectations.

So yes, spreads are tight, but much like what we discussed on the rate side, this doesn't mean that there aren't relative value opportunities to exploit for active managers.

For much of the last year we were very positive on Euro credit versus dollar equivalents given the potential tailwinds for Euro growth from increased defense spending. However, it's worth noting that some of that may be falling away given expected issuance.

We have already seen an incredibly strong start to the year in terms of Euro issuance, but the discrepancy in central bank rates that we've already spoken about may encourage further issuance tourism as US companies are attracted to the Euro market, given the lower funding levels on offer.

If we look at the right hand chart on screen, you can already see this uptick in what's being called reverse Yankee supply. In other words, an increase in US companies Euro issuance from 2023 lows, and this is very much expected to continue into 2026.

For now, we are seeing demand for the asset class take this down well, but if this level of supply continues, we could see periods of indigestion.

That said, we feel fairly constructive on the levels of diversification that this could bring to European mandates as high quality US names tap the Euro market.

So if I try to start and bring this all together, I guess we started by considering the volatility that we saw over 2025, but 2026 is already putting its best foot forward in its attempts to claim the title of most volatile year of Trump's second term. I don't think any of us had particularly expected the first full week of the year would see Trump extradite a fellow country leader and bring him and his wife back to the US to stand trial.

And if the US betting site poly market is any indication of what might be to come, then that may not have been the biggest shock of the year.

The Middle East, Russia, Ukraine, Cuba, Greenland, and the Federal Reserve are all currently thought to be potential next targets for Trump. Whilst it's not necessarily clear which of these will be first in line, there's little doubt that we are going to see ongoing shocks and volatility.

So what's next for markets?

Firstly, I would say it's clear that markets are expecting divergence. The most obvious sign of this is the desynchronization of central banks as some continue their cutting cycles this year, whilst others are pricing in hikes.

But there will also be divergence to come in the form of winners and losers from tariffs and the divergence in the form of consumer strength in an increasingly khap US economy.

Secondly, as we've touched on, geopolitics don't seem to be going anywhere, but whether markets have developed empathy fatigue or they just don't think that the financial risks associated with these shocks are that significant, markets have certainly become very adept at shrugging off bouts of geopolitical volatility.

That said, one consequence of some of the US administration's recent actions does seem to be a shift away from dollar-based assets. This can be seen in the recent surge in gold and silver prices as US treasuries are no longer the obvious safe haven of choice for all investors. But this may also give emerging markets a chance to shine.

And finally, as we've been saying for a while now, investment grade credit spreads are tight, but corporate fundamentals remain strong and that gives us confidence that companies are well placed to navigate what 2026 might throw at them.

Thank you very much for joining, and please do reach out to your insight contacts if you would like to discuss any of these topics in more detail.