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CONTRIBUTORS

Michael Buchanan, CFA

Chief Investment Officer
Western Asset

Key takeaways:

  • We remain optimistic about the potential for fixed-income returns in 2025.
  • In the US, while tariffs will dampen growth, we do not anticipate a recession given the prospect of lower oil prices, tax cut extensions and a lenient regulatory environment.
  • The US disinflationary trend may be interrupted as tariffs are implemented, but we expect inflation to gradually moderate.
  • In Europe, we expect the ECB to continue rate cuts as inflation wanes. German infrastructure spending and increased EU defense spending is beneficial for confidence and future growth despite near-term headwinds.
  • China may face slowing economic growth due to US tariffs. The country will likely deliver a larger stimulus package to boost domestic demand and reduce consumption bottlenecks.

Overview

Proposed tariffs from the new US administration have created volatility in financial markets. Global growth is expected to slow given heightened unpredictability but should remain positive. US growth is downshifting due to a myriad of factors including tariff uncertainty, waning benefits from immigration and reduced government spending. A significant fiscal boost from European defense and German infrastructure spending should support eurozone growth and provide relief from tariff-related uncertainty. Deflationary pressures in China persist and confidence is weak amid property market concerns, but sentiment is improving with fiscal stimulus and policy easing. Monetary policy remains restrictive, and we believe that central banks will continue to cut rates in 2025. The Federal Reserve (Fed) remains well positioned to provide support if the US economy falters. Public debt levels continue to rise and yield curves may steepen given concerns over fiscal policies. While we retain a modest overweight to interest rate duration, we are concentrated in shorter maturities. Sector spreads have widened, and valuations are now closer to fair value in our base-case scenario.

Conclusion

We continue to expect a strong year for fixed-income markets, driven by attractive yields and opportunities in select spread sectors. The unpredictability of US administration policy initiatives may continue to spark episodes of market volatility but should also provide opportunities to augment existing positions. We remain diligent about fundamental credit research and have taken measures to move up in quality in the near term.

Download the report to read about the Western Asset team’s views on key drivers and relative value by region, and sector and industry themes.

WHAT ARE THE RISKS?

All investments involve risks, including possible loss of principal. Past performance is no guarantee of future results.  Please note that an investor cannot invest directly in an index. Unmanaged index returns do not reflect any fees, expenses or sales charges.

Fixed-income securities involve interest rate, credit, inflation and reinvestment risks and possible loss of principal. As interest rates rise, the value of fixed income securities falls.  Low-rated, high-yield bonds are subject to greater price volatility, illiquidity and possibility of default.

Municipal income may be subject to state and local taxes. Some income may be subject to the federal alternative minimum tax for certain investors. Capital gains, if any, are taxable.

Changes in the credit rating of a bond, or in the credit rating or financial strength of a bond’s issuer, insurer or guarantor, may affect the bond’s value.

Floating-rate loans and debt securities are typically rated below investment grade and are subject to greater risk of default, which could result in loss of principal. Inflation-linked securities are subject to liquidity risk, prepayment risk, extension risk and deflation risk.

US Treasuries are direct debt obligations issued and backed by the “full faith and credit” of the US government. The US government guarantees the principal and interest payments on US Treasuries when the securities are held to maturity. Unlike US Treasuries, debt securities issued by the federal agencies and instrumentalities and related investments may or may not be backed by the full faith and credit of the US government. Even when the US government guarantees principal and interest payments on securities, this guarantee does not apply to losses resulting from declines in the market value of these securities.

International investments are subject to special risks, including currency fluctuations and social, economic and political uncertainties, which could increase volatility. These risks are magnified in emerging markets. Investments in companies in a specific country or region may experience greater volatility than those that are more broadly diversified geographically. The government’s participation in the economy is still high and, therefore, investments in China will be subject to larger regulatory risk levels compared to many other countries. There are special risks associated with investments in China, Hong Kong and Taiwan, including less liquidity, expropriation, confiscatory taxation, international trade tensions, nationalization, and exchange control regulations and rapid inflation, all of which can negatively impact the fund. Investments in Taiwan could be adversely affected by its political and economic relationship with China.

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