- Short- and intermediate-term Treasury, corporate, and municipal yields fell in 2025 after three 25-bp Fed cuts and signs of slower growth.
- Long-term yields were sticky to higher, with long munis and the 30-year Treasury pressured by heavy supply, political risk, and higher term/inflation premia.
- Inflation cooled to around the high-2% range while unemployment rose to about 4.6%, supporting expectations for more easing in 2026.
- Investors enjoyed gains in shorter maturities, but tight credit spreads and long-duration exposure look vulnerable if long yields rise further.
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The U.S. bond market in 2025 offered a mixed landscape. Yields across short to medium maturities fell sharply, driven by three rate cuts by the Federal Reserve—each 25 basis points—in September, October, and December. These cuts, prompted by softening labor market data, persistent but easing inflation, and concerns over tariff-related volatility, triggered capital gains for bondholders in those maturities. Tax-equivalent yields for municipals followed a similar pattern, especially for five-year maturities.
In contrast, long-term yields—30-year Treasuries and long AAA munis—did not share uniformly in the downturn. Long munis saw yields rise by substantial margins (35 basis points nominal, 56 on a taxable equivalent basis), and 30-year Treasuries edged up slightly. Key drivers here included supply surges (with muni issuance reaching record levels near $575B), political risk (talk of taxing muni bonds, tariff unpredictability), and heightened term premia as markets priced in risk of inflation persistence and deficits.
Inflation and labor market indicators pointed toward easing pressures. Headline CPI fell to about 2.9% (Dec) from ~2.7% (Nov), while unemployment climbed from around 4.1% early in the year to ~4.6%. These shifts reinforced expectations that further Fed easing would materialize in 2026. Bond markets responded accordingly, with short-end yields dropping markedly after rate cuts.
Despite the overall favorable backdrop for bond investors in 2025, there are strategic risk flags. Corporate credit spreads are compressed—investment-grade yields near historic lows relative to Treasuries in many categories. Overissuance could strain credit quality. Long-duration exposure is vulnerable to further inflation shocks, political risk, or upward surprises in long yields. Investors may need to rebalance toward quality, shorter maturities, muni holdings where tax adjustment makes sense, and monitor yield curve signals closely.
Open questions remaining include: how supply dynamics—especially in the muni sector—will evolve; whether inflation stabilizes well below 3%; the labor market’s trajectory; and whether rate cuts will follow the anticipated path without surprise pauses or reversals. These will drive whether the 2025 bond market pattern carries into 2026 or reverses at the long end.
Supporting Notes
- Yields on shorter-term Treasuries and corporates declined ~68 basis points over a five-year range during 2025, reflecting expectations of Fed rate cuts.
- AAA muni yields in the five-year range declined 44 basis points; on a taxable-equivalent basis, this amounted to ~70 basis points—on par with Treasuries/corporates.
- Conversely, long muni yields rose ~35 basis points; taxable equivalent yields rose ~56 basis points. Long Treasuries were slightly up 4 basis points.
- Muni issuance reached a record ~$575 billion in 2025, a ~15% increase over the prior year.
- Headline CPI was 2.9% at end-December; was 2.7% end-November. Unemployment rose from ~4.1% at start of year to ~4.6%.
- The federal funds rate was cut 25 bps in Sept, Oct, Dec 2025; target range stood at 3.50-3.75% after December cut.
- 10-year Treasury yields were ~4.57% at end-2024, dropped over 2025 except for a rise in mid-January pre-inauguration (~4.80%).
- Along the curve, longer maturities saw yield increases in late 2025—30-year Treasuries reached ~4.70%, up from ~3.94% pre-Sep 2024 rate cuts—and mortgage rates rose accordingly.