The "golden moment" of the US bond market is difficult to replicate? The unclear path of interest rate cuts combined with fiscal stimulus may downgrade the total return of 2026.

Investors in the US Treasury bond market and high-grade corporate bond market may face a more challenging environment in 2026. Some market observers predict that as the Federal Reserve may significantly slow down its rate cuts and the potential for large-scale fiscal stimulus measures driven by the Trump administration's "big and beautiful law" will make the investment prospects in the US bond market more complex, the investment returns in the US bond market (treasury bonds + corporate bonds) in 2026 may slow down - the bond funds experienced a shining year in 2025. It is understood that this cautious market consensus prediction comes after bond holders passed through an unexpectedly strong 2025, as the Fed's loose monetary policy and the "warm landing" economic environment helped the US bond market achieve its best performance since 2020. Investors are currently weighing whether a less aggressive Fed rate cut and new fiscal policies will stall this growth momentum, posing a strong challenge to the total returns of the US bond market in 2026. In 2025, the Fed's rate cut cycle - a total of 75 basis points cut throughout the year - significantly boosted the US treasury bond prices this year, as lower policy rates greatly suppressed yields and made existing bonds (due to their relatively higher coupon payments) more attractive. In the US corporate bond market, the resilience of the US economy supported corporate profits, keeping the additional yield required for holding corporate bonds rather than US treasury bonds near historical lows, which means that the corporate bond price returns were particularly strong in 2025. However, there were exceptions - Oracle's investment-grade corporate bonds at the core of the "AI bubble storm" fell significantly due to their overly dependent performance on the loss-making OpenAI and record-breaking bond issuances. The latest statistics show that the Morningstar US Core Bond TR YSD index, tracking bond assets denominated in US dollars with a maturity of more than one year, had a total investment return of approximately 7.3% in 2025, marking the strongest investment return since 2020. The benchmark index includes US Treasury bonds and investment-grade corporate bonds. While some investors expect the US bond market environment in 2026 to be somewhat similar, the total investment returns including bond coupon and price fluctuations may be difficult to match the strong performance of 2025. The market generally expects the Fed's rate cut magnitude in 2026 to be less than in 2025; as of Monday, rate futures traders priced in an easing expectation of about 50 basis points in 2026, compared to the 75 basis points cut by the Fed in 2025. In addition, there is a significant divergence among Fed officials regarding rate cuts in 2026, with some officials even suggesting to stay put for the whole year; unlike the strong consensus on three rate cuts by the Fed in the second half of 2025, the market's expectations for rate cuts in 2026 are becoming increasingly unclear, and this continued uncertainty in the rate cut path may be a significant negative catalyst for the bond market. In addition, some investors believe that fiscal stimulus measures from President Donald Trump's tax and spending policies - expected to significantly boost the US economy in 2026 - may hinder the sustained downward trajectory of long-term US Treasury bond yields seen this year. "I think next year will be more challenging," said Jimmy Chang, Chief Investment Officer of the Rockefeller Global Family Office. "The short-term US Treasury bond yields will continue to decline, as the Fed may possibly cut rates one to two more times in 2026, but the probable total returns for short-term US bonds (2-year and below) in 2026 may not be as strong as this year. At the same time, the acceleration of economic growth and the inflationary effects of tariffs in 2026 may continue to push up the yields of longer-term US Treasury bonds... so these factors may have a negative impact on the total returns of US bonds in 2026," he said in an interview. Duration concerns As a key benchmark measure of borrowing costs for government and private sectors in the US, the yield on the benchmark 10-year US Treasury bond has dropped by over 40 basis points this year, standing at around 4.1% as of Monday. The Fed's continuous three rate cuts since October, panic money brought by the "AI bubble narrative," and rising European and Japanese bond yields have driven global low-risk preference funds into US bonds, along with concerns about the increasingly growing US labor market, fueling this strong rebound. Few investors expect a re-run of this strong trend in 2026. Many market participants are betting that by the end of next year, the 10-year yield will stay at current levels or slightly higher. Analysts at J.P. Morgan expect the 10-year US Treasury yield to reach 4.35% by the end of 2026, while rate analysts at Bank of America predict around 4.25%. Anders Persson, Chief Investment Officer and Global Head of Fixed Income at Nuveen, expects the benchmark 10-year US Treasury bond yield to fall to around 4%, but he remains cautious about the performance of long-term bonds, as rising global government debt levels may push up the yields of these terms, with the "term premium" continuing to rise as the core logic influencing 10-year and longer-term US bonds. "We may see that the long end of the US bond yield curve is largely anchored and may trend gradually upward," he said in an interview, adding that he still has a "underweight duration assets," meaning he holds less long-term US Treasury bond assets compared to other US bond assets - these long-term bonds often suffer larger negative impacts when global bond yields rise. Will credit spreads widen across the board? Credit spreads on investment-grade corporate bonds - the premium paid by high-grade corporate bonds relative to US Treasury bonds - stood at around 80 basis points as of Monday, similar to the beginning of the year, and close to the lowest levels since 1998. The above chart shows the credit spreads of investment-grade bonds over the past year. The spreads remained roughly the same at the end of the year as at the beginning, and near the lowest levels since 1998. The total return on investment-grade credit bonds this year, measured by the widely used ICE BofA US Corporate Index, was close to 8% as of Monday, far higher than last year's 2.8%. The total return on so-called junk bonds (measured by the ICE BofA US High Yield Index) was around 8.2%, even higher than that of investment-grade corporate bonds, and nearly matching last year's strong performance. Analysts at J.P. Morgan predict that credit spreads for investment-grade bonds could widen significantly to 110 basis points next year, mainly due to J.P. Morgan's expectation of a significant increase in corporate bond issuance by US technology companies; and predict that the overall total return for high-grade bonds will drop to just 3%. However, there are institutions that are more bullish, with France's BNP Paribas predicting that spreads will only be 80 basis points by the end of next year. Emily Roland, Co-Chief Investment Strategist at Manulife John Hancock Investments, is extremely optimistic about the investment returns of high-quality corporate bonds in 2026, as she expects a significant slowdown in the US economy next year and a more aggressive rate cut by the Fed than is currently priced in by the market. "The bond market has not yet sniffed out what we believe will be a pullback in inflation and a weaker pace of economic expansion in 2026," she emphasized. "From a fundamental standpoint, we believe that corporate bond prices should rise more significantly for us." However, bond traders are generally cautious about high-grade corporate bonds (investment-grade corporate bonds) in 2026. In the macro environment where the AI lending frenzy is on the rise, panic in the private credit market has been frequent recently, and the "AI bubble narrative" continues to disrupt market risk appetite, those high-grade corporate bonds, with spreads at historical lows and looking the safest, have ironically become the most likely assets for Wall Street institutions to sell off or even engage in massive short selling at higher levels. Michael Hartnett, an analyst at Bank of America known as "Wall Street's most accurate strategist," made a bold prediction in his latest report: the "best trade" going into 2026 will be to short the corporate bonds of "hyperscalers," the "super-scale cloud service providers" that have invested heavily in AI infrastructure. He believes that the debt pressure stemming from accelerated construction of AI data centers will become a new "Achilles' heel" for these tech giants. "If there is a lot of new issuance in the market alongside the AI lending frenzy, borrowers will have to pay a higher price. If it costs companies more to borrow money, they will make much less money, which could burst the market's false prosperity bubble," said Ninety One's global asset income director John Stopford in a report, adding that over the past few weeks he has almost zeroed out credit exposure in his fund. As a key indicator of the "AI bubble narrative," credit default swap (CDS) markets have already flashed warning signs. The credit default swap spreads for a 5-year Oracle jumped nearly double in the past two months to around 150 basis points, nearly reaching its highest level since 2009, and even Microsoft's CDS spreads have surged from around 20.5 basis points at the end of September to about 40 basis points. Bond yields also indicate a "distortion" in credit ratings: the yield on Oracle's 2035 maturing corporate bonds has risen to 5.9%, surpassing the levels of some high-quality junk bonds, implying that the pricing of credit risk in the market is deviating from investment-grade status. Against the backdrop of the white-hot competition in AI computing infrastructure, even cash-rich high-grade tech companies have to issue large amounts of debt to support their investments. Morgan Stanley predicts that by 2028, global mega-scale AI data centers will require a total investment of approximately $29 trillion, with over half (about $15 trillion) relying on external financing. It is understood that Amazon recently launched its first investment-grade bond issuance in three years, aiming to raise $15 billion; Oracle plans to finance its super-scale AI data center project with OpenAI through a massive debt issuance - a transaction of about $38 billion in debt financing is underway, making it the largest AI infrastructure debt financing to date. In addition, SoftBank's jointly launched "Stargate" project with Oracle, with an expected investment scale of over $400 billion in the next three years. This almost reckless capital expenditure has put huge pressure on what were previously strong balance sheets. Bond market investors with sharp senses have begun to reassess the default risks of these tech giants, and the credit pricing system has experienced a severe shock as a result.