Inflation remains sticky, with US core PCE still holding above 3.5%. The disinflation on goods has faded with ongoing uncertainty around the potential impact of tariff-driven cost-push pressures. Services inflation and lagging shelter CPI continue to delay a clear deflation path, keeping the Fed firmly on hold. GDP growth has been downgraded to ~2.0%, with downside risks rising. Consumer demand is softening, credit growth is stalling, and private investment is constrained by high real rates and policy uncertainty. Fiscal deficits and elevated issuance remain a structural long-end overhang.

The US labour market continues to cool with unemployment now nearing 4.3%, participation rates have remained steady while hiring and wage growth is weakening. While this supports the Fed’s cautious stance, it does not warrant imminent rate cuts amid persistent inflation. Treasuries offer elevated real yields of ~1.75-2.0%, with breakevens underpricing forward inflation risks. Treasuries remain modestly cheap, but rising term premium reflects supply saturation, fading foreign demand and an absence of QE support. Volatility remains structurally elevated, driven by inflation uncertainty, fiscal issuance and the post-election policy environment, with the Fed unlikely to validate rate cut expectations without material deterioation in growth or inflation data.

Investment grade credit corporate fundamentals remain solid, with EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortisation) margins reaching three-year highs of 31.5% in Q4 2024. Leverage and interest coverage seem to have plateaued at historically resiliant levels, particularly for A- and BBB- rated issuers (coverage: 9.2x and 6.4x respectively). Near term refinancing risk remains relatively low, with less than 7% of index maturities falling in 2025 and most issuers have extended tenors into 2027-2029. Spreads have recently widend from historic tights to now being above longer-term averages.

Earnings resilience remains broadly intact across high yield credit issuers. Q4 2024 revenue grew 2.6% YoY and EBITDA rose 3.8% ex-energy, led by gaming, leisure and services. BB-rated credits maintain strong metrics (leverage ~3.8x, coverage >5x), while B and CCC issuers face margin and refinancing pressure. Defaults are low, but expected to rise toward 2.8% in 2025, concentrated in CCCs. Amidst recessionary concerns, spreads have widened while the carry remains attractive in BBs and short-dated Bs, but downside asymmetry building in CCCs. Technicals are moderating as YTD ETF inflows (~$7.1B) slowed, while hedging activity via HY-CDX and $SJB has increased. Issuance is down 11.5% YoY, with liquidity increasingly concentrated in large, benchmark-eligible names.