Investment outlook for a changing market
After years of stock market outperformance primarily driven by growth tech firms in the United States, some investors may be overallocated to U.S. equities. A number of them may benefit from recalibrating their stock-bond mixes so that their fixed income allocations can act as an effective ballast when equity prices tumble.
INVESTMENT OUTLOOK
An environment favorable to bonds
The current market volatility is not driven by existential or episodic risk concerns, but by economic cycle-driven concerns. Accordingly, it is likely to prove somewhat durable—think weeks and potentially months, not days—for three broad reasons.
- First, the depth and breadth of policy uncertainty is a global dynamic, and in some countries, the uncertainty remains at historically elevated levels. Certain initiatives also carry the potential to weigh on economic growth while adding pressure for higher prices.
- Second, apart from policy uncertainty, deeper currents driving the economy are likely to be more disruptive than before. The economy is going through the initial phase of what we consider to be the contest between two megatrends to define the decade ahead—an artificial-intelligence-driven productivity boost and the weight of a secular rise in structural fiscal deficits on the economy.
- Third, the Fed approaches this confluence of forces with inflation not having returned to its 2% target. If inflation rises anew, policymakers, concerned not only with full employment but also with price stability, may feel constrained in their ability to support the economy through interest rate cuts.
Live webinar: Vanguard's fixed income outlook for 2025 markets
Feeling the uncertainty in Fed moves and the direction of interest rates? Join us on May 1, 2025, to get expert clarity from our team at our fixed income outlook webinar. You'll learn about the most pressing risks and opportunities to optimize your clients' fixed income holdings in this market environment.
Amid this backdrop, in the United States, we see two Fed rate cuts in the second half of the year, full-year GDP of 1.7%, and full-year inflation of 2.7%. We recently lowered our GDP forecast given a surge in policy uncertainty and raised our inflation forecast amid upward pressure on goods prices and anticipated impacts from tariffs.
From the investment perspective, bonds have historically thrived amid uncertainty and continue to be attractive given much higher yields than we saw for the last 15-plus years. Today’s yields set the foundation for solid cash and fixed income returns over the next decade: 4.7%–5.7% annualized for U.S. aggregate bonds.
Our forecast suggests the era of sound money—characterized by positive real interest rates—lives on.
Fixed income may serve an essential, yet nuanced, role in your clients’ portfolios. Our fixed-income solutions help you construct portfolios designed to meet clients’ specific preferences and needs.
IMPORTANT: The projections and other information generated by the VCMM regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results, and are not guarantees of future results. Distribution of return outcomes from VCMM are derived from 10,000 simulations for each modeled asset class. Simulations as of December 31, 2024. Results from the model may vary with each use and over time. For more information, please see the “Disclosures and footnotes” below.
Fixed income solutions tailored to client needs
The way your clients process changing market conditions reflects specific needs, risk tolerances, and goals that also guide how you construct the fixed income portion of their individual portfolios. We’ve assembled these conceptual portfolios to guide how you align the appropriate fixed income opportunity with the power of behavioral coaching. Consider them as a launching point for how you can customize fixed income holdings according to your clients’ unique objectives.
Diversify risk
Concerned about volatility and reduction of principal.
Total return
Comfortable with higher volatility in exchange for higher potential returns.
Income
Rely on bond income to meet spending needs.
Bonds to diversify risk
Client type:
They’re concerned about volatility and don’t want to risk spending down principal.
Action:
Pair high-quality bonds with traditional equities or separately managed accounts.
Investments to consider:
- VCRB Core Bond ETF
- VGSH Short-Term Treasury ETF
- VGLT Vanguard Long-Term Treasury ETF
- BNDX Total International Bond ETF
- VGIT Intermediate-Term Treasury ETF
- VMBS Mortgage-Backed Securities ETF
Behavioral coaching takeaways:
- Address client anxieties by emphasizing that high-quality fixed income investments such as Treasury, core bond, and intermediate-term corporate bond fund investments often move in the opposite direction of equities when the stock market sells off.
- Reassure clients that their goals can still be within reach because they prepared this way for equity market downturn scenarios.
Bonds seeking total return
Client type:
They’re comfortable with higher volatility if it means an opportunity for higher potential returns.
Action:
Pursue a balance between exposure to higher quality Treasury and Core bonds and lower quality high-yield bonds and combine with other asset classes for diversified return.
Investments to consider:
- VPLS Core-Plus Bond ETF
- VGSH Short-Term Treasury ETF
- VGLT Long-Term Treasury ETF
- VCIT Intermediate-Term Corporate Bond ETF
- VWEAX High-Yield Corporate Fund
- VEGBX Emerging Markets Bond
- BNDX Total International Bond ETF
Behavioral coaching takeaways:
- When clients’ portfolios are well-diversified, clients are more likely to have exposure to whatever is performing well.
- Any impact from exposure to poorer-performing asset classes will be limited and offset by other assets performing well.
Bonds for income
Client type:
They need bond income to meet their spending needs.
Action:
Allocate to bonds with greater credit exposure. This can include diversified active bond funds, active/passive ones, high-yield, and active multi-sector, among others.
Investments to consider:
- VMSAX Multi-Sector Income Bond Fund
- VCSH Short-Term Corporate Bond ETF
- VEGBX Emerging Markets Bond Fund
- VWEAX High-Yield Corporate Fund
- BND Total Bond Market ETF
Behavioral coaching takeaways:
- Having a steady income stream in the portfolio can relieve the pressure of having to sell equities to fund spending needs.
- Emphasize to clients that current rate levels are relatively high, both historically and compared against the current dividend yield for equities.
Vanguard fixed income investments
- Help create portfolio stability, income, and more for your clients. Check out our full Vanguard fixed income lineup.
- Explore active municipal and active taxable bond funds, as well as our active ETFs.
- Discover how our low-cost advantage helps enable outperformance over time, without undue risk.
Have questions about fixed income? Contact us.
Disclosures and footnotes
All investing is subject to risk, including possible loss of principal. Be aware that fluctuations in the financial markets and other factors may cause declines in the value of your account. There is no guarantee that any particular asset allocation or mix of funds will meet your investment objectives or provide you with a given level of income.
Diversification does not ensure a profit or protect against a loss.
Bond funds are subject to interest rate risk, which is the chance bond prices overall will decline because of rising interest rates, and credit risk, which is the chance a bond issuer will fail to pay interest and principal in a timely manner or that negative perceptions of the issuer's ability to make such payments will cause the price of that bond to decline.
IMPORTANT: The projections and other information generated by the Vanguard Capital Markets Model regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results, and are not guarantees of future results. VCMM results will vary with each use and over time.
The VCMM projections are based on a statistical analysis of historical data. Future returns may behave differently from the historical patterns captured in the VCMM. More important, the VCMM may be underestimating extreme negative scenarios unobserved in the historical period on which the model estimation is based.
The Vanguard Capital Markets Model® is a proprietary financial simulation tool developed and maintained by Vanguard's primary investment research and advice teams. The model forecasts distributions of future returns for a wide array of broad asset classes. Those asset classes include U.S. and international equity markets, several maturities of the U.S. Treasury and corporate fixed income markets, international fixed income markets, U.S. money markets, commodities, and certain alternative investment strategies. The theoretical and empirical foundation for the Vanguard Capital Markets Model is that the returns of various asset classes reflect the compensation investors require for bearing different types of systematic risk (beta). At the core of the model are estimates of the dynamic statistical relationship between risk factors and asset returns, obtained from statistical analysis based on available monthly financial and economic data from as early as 1960. Using a system of estimated equations, the model then applies a Monte Carlo simulation method to project the estimated interrelationships among risk factors and asset classes as well as uncertainty and randomness over time. The model generates a large set of simulated outcomes for each asset class over several time horizons. Forecasts are obtained by computing measures of central tendency in these simulations. Results produced by the tool will vary with each use and over time.