Global interest rates are converging as major central banks move towards their lowest levels in several years, signalling a period of potential stability for fixed income markets, according to AXA Investment Managers.
Chris Iggo, chief investment officer of core investments at AXA Investment Managers, said the year ahead could bring a “calmness in rates” after a prolonged period of volatility, with conditions favouring carry-based fixed income strategies and stronger credit returns.
“Central bank rates are converging at their average lowest levels for a few years,” he said. “The year ahead could be one of stability, which would be supportive for carry-based fixed income strategies.
“Higher credit returns should follow, but investors can also lock in decent yields and improve their average credit quality exposure.”
He added that while more substantial credit shocks are possible, robust nominal growth should maintain a ‘buy on dips’ mentality among investors.
Iggo noted that the average difference between policy rates of major central banks peaked in 2023 and has been narrowing since, with further convergence expected as the US Federal Reserve moves towards a rate cut (potentially before Christmas) and the Bank of England responds to easing inflation and a tighter fiscal outlook in 2026.
“Already, in the Eurozone, the UK and Canada, the real policy rate – proxied by the policy rate minus the current inflation rate – is close to zero,” Iggo said. “Globally, monetary policy should be much easier at the start of 2026 relative to where it has been since the end of 2022.”
Lower and more stable global rates reinforce the view that most fixed income market returns will come from income rather than price gains.
Iggo stated that yield curves will continue to offer opportunities, but investors will need to take on more duration risk. Although inflation and fiscal risks remain, bond yields are unlikely to diverge significantly.
“Major bond yields are not likely to diverge too much from one another… the rates markets outlook is for lower returns and less volatility.”
Stable and lower rates should be supportive for credit markets, even though spreads are already tight, according to Iggo.
He pointed out that government bonds have become cheaper compared to interest rate swap rates, meaning corporate bonds remain relatively attractive on a swap basis.
“In the US investment grade market the swap spread is around 120 basis points relative to the credit spread against US Treasuries of 82 basis points,” he said.
He added that the difference in yield between high- and lower-rated investment grade bonds has narrowed to historic lows, allowing investors to improve portfolio quality without sacrificing much yield.
“Between the AA and BBB-rated buckets of the European investment grade corporate bond index, the difference in yield is just 38 basis points, the lowest it has been since 2016. The similar spread in the US market is around 50 basis points,” Iggo said.
“If investors are concerned about valuations and potential volatility in credit markets, they can lock in decent yields while improving their average credit quality exposure.”
While some volatility in credit markets is possible, Iggo warned the risk of a major rates-driven shock appears limited.
“Historically, large drawdowns have resulted either from credit or rate shocks, and the latter is not on the agenda unless there is a supply-side driven inflation shock.
“Recently there have been concerns about credit markets, especially on the private side, but public markets have been extremely resilient. This makes sense given the macroeconomic backdrop and the strength of nominal growth.”
Corporate resilience remains evident in recent data, with Bloomberg figures showing S&P 500 companies delivered revenue growth of above 8 per cent in the third quarter. However, Iggo cautioned that political uncertainty in the United States could still weigh on sentiment.
“The US is operating under a federal government shutdown which means spending on government supply purchases and employees is being disrupted, and markets are operating without their usual supply of timely economic data.
“The poor showing for the Republican Party in last week’s gubernatorial and mayoral elections reflects voter discontent with the shutdown. In a year’s time – when mid-term elections are held – it will be an even bigger electoral test for Donald Trump’s administration and the Republican leadership in Congress.”
He added that how opinion polls evolve and how the administration responds could influence market confidence over the coming year.
“The shutdown, a potentially weaker economy partially hidden by the lack of official data, and ongoing cost-of-living concerns could all contribute to a more confrontational relationship between the White House and Congress for the following two years after the mid-terms depending on next year’s results.”
