Insights Markets and Economy

Challenges and opportunities in the U.S. and Canadian bond markets

The outlook for the U.S. bond market is clouded by fiscal and monetary policy uncertainties.

Gino Di Censo Aug. 18, 2025 3-minute read

The outlook for the U.S. bond market is clouded by fiscal and monetary policy uncertainties. While Fed Funds Futures are pricing in 2 rate cuts for the remainder of 2025, signalling expectations of a dovish pivot by the U.S. Federal Reserve (Fed), the timing and magnitude of these cuts remain uncertain. Downward pressure on the short end of the curve reflects concerns about slowing economic growth, rising recession risks and persistent tariff-related inflation. However, these anticipated rate cuts may not be sufficient to offset structural challenges posed by persistent deficits and rising debt levels.

The U.S. fiscal trajectory is increasingly under scrutiny. Credit rating agencies have already downgraded U.S. debt, and the bond market and U.S. dollar are beginning to reflect these concerns. While a default remains improbable for a country that can print its own currency, the erosion of fiscal credibility could lead to higher borrowing costs, elevated structural inflation, higher neutral policy rates, and increased volatility in both the Treasury market and the U.S. dollar. Against a basket of currencies, the U.S. dollar has declined approximately 10% year-to-date, underscoring the importance of active currency management as part of fixed-income strategies.

Corporate bonds in the U.S. face a mixed outlook. Investment grade bonds may benefit from a potential Fed pivot, but high-yield bonds could come under pressure as economic growth slows and default risks rise. Investors should focus on quality within the corporate bond space.

What about Canada, eh?

Similarly, Canadian corporate bonds are not immune to global trends, and sectors with high leverage or exposure to interest rate fluctuations may face challenges. High-yield bonds in Canada, in particular, could see widening spreads if economic growth slows further. The Bank of Canada’s monetary policy will play a critical role in shaping the bond market outlook. While the central bank has signalled a willingness to adjust rates as needed, its actions will depend on the trajectory of inflation and economic growth. Investors should monitor these developments closely, as they will have significant implications for both government and corporate bonds.

Inflation has moderated significantly from recent elevated levels. However, the risk of a resurgence cannot be ruled out, particularly if fiscal policies remain expansionary or tariffs continue to elevate prices. Given these uncertainties, diversification is more important than ever. Non-U.S. bonds, particularly those from countries with strong fiscal positions and dollar-denominated debt, offer an attractive complement to core positions. Additionally, alternatives such as high-quality Collateralized Loan Obligations (CLOs) provide higher yields than other comparably rated debt. They can serve as effective diversifiers in a portfolio by offering lower correlation of returns and minimal interest rate risk.

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Written by

Gino Di Censo, CFA

Vice-President, Fixed Income
CIBC Asset Management

Challenges and opportunities in the U.S. and Canadian bond markets

What about Canada, eh?

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