Fixed Income funds

2025 began with expectations central banks in major economies would be cutting rates, as post covid inflation surges receded and policy no longer needed to be restrictive. The RBA began cutting early, with the first of three moves in February. The Australian 3-year bond rate fell 60 basis points (bps) across the first half of the year in anticipation of an ongoing easing cycle. Longer bonds, impacted by uncertain trade policy, had a less pronounced rally in the first part of the year, with the Australian 10-year bond trading between 4.1-4.4%. 

In the US, the Federal Market Open Committee was hesitant to cut rates early in the year, balancing their dual mandate of controlling inflation and maintaining maximum employment, as tariff policies were expected to put upward pressure on inflation, even as employment began to ease in the latter part of the year. 

In the December quarter, Australian inflation outcomes once again moved above the RBA’s target band and the prospect of further rate cuts gave way to the market pricing for rate hikes. Both 3 year and 10-year rates reversed course and finished the year higher than they started at 4.13% & 4.74% respectively. As a result of the move higher in yields, the composite bond index fell 1.15% in the December Quarter, blunting an otherwise positive year for fixed income, with the index up 3.13% for the year.

Credit tightened across 2025, led by the major banks, with spreads coming in 10bps over the year, with a short-lived widening in April after the announcement of significant tariffs in the US. This was despite some of the uncertainties from the headline news, with credit fundamentals supported by cash rate reductions both domestically and in the US over the year, as well as only gradual moves higher in unemployment from near full employment levels, and low mortgage arrears rates. BBB-rated industrials tightened 20bps on average. The Bloomberg Ausbond Credit Index 0+ outperformed the broader Bloomberg Ausbond Composite Bond Index 0+ in three of the four quarters of the year, outperforming by 1.1% over the year, up 4.27%. The portfolios held overweight credit positions going into 2025. We have continued to hold these positions in 2025 and expect to maintain these in the first quarter of 2026. The portfolios have benefitted from the resulting spread compression over the year.

Those Australian Ethical Altius funds with the greatest (overweight) exposures to credit, such as the Credit Income Fund (+5.3% for the 12 months to December, wholesale, net of fees, for +1.4% alpha) and the Short Duration Bond Fund (+4.4% for the 12 months to December, wholesale, net of fees, for +0.9% alpha) were the best performing funds for 2025. 

Outlook for the funds

Through much of 2025 the RBA characterised current monetary settings as restrictive, allowing a loosening of policy (interest rate cuts) as inflation moved back toward target. At the latter meetings for the year the RBA began to express uncertainty in that view and guided that risks to inflation have tilted to the upside. Australia’s inflation pulse, lagging the US by ~6 months and clouded by policy changes impacting electricity prices, showed inflation above the RBA target band, and the RBA forecasts indicate trimmed mean inflation is expected to remain so through the first half of 2026. A cut to the RBA Cash Rate of 3.6% can likely be ruled out while the risk of higher or ongoing inflation overruns persists. We expect the cash rate to remain on hold in the first half of 2026 as the RBA waits for further data to inform their forecast. 

2025 saw a number of policy shifts from major economies that drove headline news cycles, such as US trade policy, which saw widening of term risk premiums. We continue to look for a reduction in term risk premiums and slightly lower longer bond yields as a result. We anticipate the yield on 10-year Australian government bonds will trade around 4.6% over the medium term, however further declines would depend on inflation showing signs of following a path consistent with the RBA forecast.   

While some of the steepness of the Australian yield curve has decreased over the last three months as expectations of near-term rate cuts were unwound, state government bond curves still demonstrate a greater level of steepness, rendering them attractive, given the potential for capital gains as yields roll down towards the cash rate. Indeed, the Funds have been successful in generating outperformance from this dynamic in 2025.

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Credit tightened across 2025, led by the major banks, with spreads coming in 10bps over the year, with a short-lived widening in April after the announcement of significant tariffs in the US.

Fixed Income Funds (Wholesale): Performance vs benchmark^*

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1. Benchmark changed from Australian 90 Day Bank Bill to Bloomberg AusBond Bank Bill Index from 13 Aug 2019. The historical benchmark returns are calculated by linking indices

*All returns are net of fees for the Wholesale option. Find more information on these funds via the managed funds page on our website including Retail performance.

Past performance is not a reliable indicator of future returns.

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