Duration & Credit Pulse
Executive Summary
Bottom Line: Treasury yields ended the holiday-shortened week marginally lower as the delayed Q3 GDP report revealed 4.3% annualized growth—the fastest pace in two years—while credit spreads compressed further to multi-year tights. The 10-year yield eased 2 basis points to 4.13%, constrained by thin holiday liquidity despite robust economic data. With high yield spreads at just the 5th percentile of their 5-year range and the VIX at the 12th percentile, markets are pricing near-perfect conditions heading into 2026—a setup that warrants caution given the Fed's hawkish December guidance and persistent inflation concerns.
Treasury Yields and Duration Dashboard
| Maturity | Dec 20, 2025 | Dec 27, 2025 | Weekly Δ | 5-Year Percentile |
|---|---|---|---|---|
| 2‑Year | 3.48% | 3.48% | 0 bp | 34th %ile (middle range) |
| 5‑Year | 3.69% | 3.70% | 0 bp | 47th %ile (middle range) |
| 10‑Year | 4.15% | 4.13% | -2 bp | 64th %ile (middle range) |
| 30‑Year | 4.83% | 4.82% | -1 bp | 90th %ile (extreme) |
Curve Holds Positive Slope Despite GDP Surprise
Curve Analysis: The Treasury curve maintained its positive slope with the 2s10s spread holding at 65 basis points, essentially unchanged from the prior week. Holiday trading conditions limited directional moves, with the 10-year yield declining just 2 basis points despite the robust GDP print. The 30-year yield at the 90th percentile of its 5-year range continues to reflect term premium concerns around fiscal sustainability and inflation persistence, while front-end yields remain anchored by Fed policy expectations.
The holiday-shortened week saw limited directional conviction in Treasury markets as strong economic data competed with thin liquidity and year-end positioning. The delayed Q3 GDP report—released December 23 after being postponed by the October-November government shutdown—printed at 4.3% annualized growth, substantially above the 3.3% consensus. Consumer spending accelerated to 3.5% while exports surged 8.8%, painting a picture of economic resilience that complicates the Fed's easing path. Despite the growth surprise, yields edged modestly lower as reduced participation and portfolio rebalancing dominated trading dynamics.
Credit Spreads and Market Pulse
| Metric | Dec 20, 2025 | Dec 27, 2025 | Weekly Δ | 5-Year Percentile |
|---|---|---|---|---|
| IG OAS | 75 bp | 73 bp | -2 bp | 18th %ile (low) |
| HY OAS | 248 bp | 244 bp | -4 bp | 5th %ile (extremely tight) |
| VIX Index | 14.91 | 13.60 | -1.31 | 12th %ile (low) |
Credit markets continued their relentless compression, with high yield spreads tightening 4 basis points to 244 bp—now at just the 5th percentile of their 5-year range. Investment grade spreads narrowed 2 basis points to 73 bp, sitting at the 18th percentile. The VIX declined to 13.60, its lowest level since late summer, reflecting holiday-induced calm and equity markets touching record highs on Christmas Eve. Primary issuance was effectively zero during the week, with the year-to-date IG total reaching approximately $1.65 trillion and high yield around $285 billion.
US Macroeconomic Assessment – Strong Growth Meets Consumer Caution
The week's economic releases presented a split picture: robust headline growth alongside deteriorating consumer sentiment. The delayed Q3 GDP report showed the economy expanded at a 4.3% annualized rate, driven by a 3.5% increase in consumer spending and an 8.8% surge in exports. Corporate profits jumped $166.1 billion, suggesting healthy business conditions despite margin pressures from tariffs. The report's release was delayed from its original October schedule due to the 43-day government shutdown that ended in mid-November.
Labor market stability persists: Initial jobless claims fell to 214,000 for the week ending December 20, the lowest level since January 2025 excluding holiday anomalies. The 10,000 decline from the prior week exceeded expectations of 224,000. However, continuing claims rose for the second consecutive week to 1.923 million, suggesting that while layoffs remain contained, job finding rates have moderated—consistent with the Fed's characterization of "low hire, low fire" conditions.
Consumer confidence continues to erode: The Conference Board's Consumer Confidence Index dropped to 89.1 in December, marking the fifth consecutive monthly decline—the longest streak since 2008. The Expectations Index held at 70.7, remaining below the 80 threshold that historically signals recession for 11 consecutive months. The share of respondents saying jobs are "hard to get" rose to 20.8%, the highest since early 2021, while families' assessments of their current financial situation turned negative for the first time in nearly four years.
Manufacturing remains weak: The Richmond Fed Manufacturing Index improved to -7 from -15 in November, though still in contraction territory. More encouraging was the forward-looking business conditions index, which surged to +16 from +1, suggesting optimism for 2026. Durable goods orders declined 2.2% in October, worse than the -1.5% consensus, dragged by a 20.1% drop in nondefense aircraft orders following Boeing delivery disruptions.
Federal Reserve Policy Outlook
The Federal Reserve held rates at 3.50-3.75% following its December 10 meeting, which featured an unusual three dissents highlighting internal divisions over the appropriate policy path. Cleveland Fed President Beth Hammack dissented in favor of holding, stating that rates should remain steady for "several months" to assess incoming data. The updated dot plot showed the median projection for 2026 cuts fell to just one 25 basis point reduction—a notably hawkish shift from September's guidance.
Market pricing reflects this hawkish turn, with fed funds futures showing 72-86% probability of no change at the January 28-29 FOMC meeting. Looking further out, markets price approximately two 25bp cuts through 2026, implying a terminal rate around 3.0-3.25%—still above the Fed's median projection. The disconnect between the Fed's one-cut guidance and market expectations for two cuts will likely narrow as Q1 data accumulates. Key uncertainties include the Fed chair transition, with Powell's term expiring May 15, 2026.
Treasury Auction and Liquidity Dynamics
The week's $183 billion in coupon supply drew mixed demand amid holiday-thinned markets. The 2-year auction on December 22 placed $69 billion at a 3.499% high yield with a 2.54x bid-to-cover ratio—below the 2.60x ten-auction average. The 5-year auction cleared $70 billion at 3.747% with a slight 0.1 basis point tail, while indirect bidders took 59.5%. The 7-year auction awarded $44 billion at 3.930% with a 2.51x bid-to-cover, marginally below the 2.55x average.
Liquidity conditions remained adequate despite holiday constraints. The Fed's reserve management purchases of approximately $40 billion in Treasury bills continued following the December 1 conclusion of quantitative tightening. Bank reserves stood around $2.83-2.89 trillion, providing a comfortable cushion above the $2.5-2.7 trillion threshold. Year-end positioning dominated flows, with limited directional conviction among dealers and asset managers.
Week Ahead: Year-End Positioning and January Preview
- Pending Home Sales (December 30): November data expected to show continued pressure from mortgage rates above 7% and low inventory. Consensus looking for modest improvement from October's depressed levels.
- Chicago PMI (December 31): December reading will provide fresh signal on manufacturing activity heading into 2026. Regional surveys have shown mixed signals, with some improvement in forward-looking components.
- Initial Jobless Claims (January 2): Weekly data continues to anchor the labor market narrative. Holiday-related distortions typically create volatility in late December/early January readings.
- ISM Manufacturing (January 3): December PMI expected near 48.0, remaining in contraction territory. New orders and employment components warrant close attention for 2026 signals.
- FOMC Minutes (January 8): December meeting minutes will provide additional context on the three dissents and Committee's inflation outlook. Markets will parse for signals on 2026 rate path.
Global Context and Cross-Asset Dynamics
Global central bank divergence remained a key theme, with the Bank of Japan's December 19 rate hike to 0.75%—the highest since 1995—supporting yen strength and creating technical ripples across developed market bond curves. The BOJ's move lifted the 10-year JGB yield above 2% for the first time in over a decade. Meanwhile, gold surged to fresh records at $4,534/oz on Friday, up 71% year-to-date—the strongest annual performance since 1979—reflecting continued safe-haven demand amid geopolitical tensions and dollar weakness. The DXY dollar index fell approximately 1.5-2% for the week, heading toward its worst annual performance since 2017.
US equity markets touched record highs on Christmas Eve, with the S&P 500 and Dow closing at all-time peaks before pulling back modestly on Friday. The Nasdaq led gains at 22.2% year-to-date, while the S&P 500 returned 17.8% for 2025. The combination of equity strength, credit compression, and low volatility suggests markets are pricing continued expansion—a benign scenario that leaves limited cushion for disappointment in Q1 2026.
Frequently Asked Questions
What does the Q3 GDP growth of 4.3% mean for Treasury yields in 2026?
The 4.3% Q3 GDP growth—the fastest pace in two years—suggests economic momentum that could support higher yields if sustained. However, the data is backward-looking and was released late due to the government shutdown. For yields to rise materially, the Fed would need to see this growth translate into renewed inflation pressure. Current market pricing suggests yields will remain range-bound until inflation data provides clearer direction.
Why are credit spreads at 5-year lows despite Fed rate uncertainty?
Credit spreads remain compressed due to strong corporate fundamentals, low default rates near 4.8%, and sustained investor demand for yield. The combination of record equity prices, robust GDP growth, and contained unemployment supports risk appetite. However, spreads at the 5th percentile offer minimal cushion for unexpected deterioration, making current levels vulnerable to rapid repricing if conditions change.
How many Fed rate cuts does the market expect in 2026?
Fed funds futures currently price approximately two 25 basis point cuts in 2026, implying a terminal rate around 3.0-3.25%. This exceeds the Fed's December dot plot projection of just one cut. The January FOMC meeting shows 72-86% probability of a hold, with the first cut not fully priced until mid-2026. This gap between market and Fed expectations will likely narrow as economic data accumulates.
What risks should fixed income investors monitor heading into 2026?
Key risks include potential inflation surprises from tariff pass-through, the Fed chair transition with Powell's term expiring in May, heavy January bond issuance testing demand at tight spread levels, and consumer weakness despite headline GDP strength. The consumer confidence decline to 89.1—the lowest since April's tariff rollout—warrants particular attention as a leading indicator.
Key Articles of the Week
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U.S. Economy Grows by 4.3% in Third Quarter, Much More Than ExpectedCNBCDecember 23, 2025Read Article
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US Jobless Claims Fall to 214,000 During Volatile Holiday SeasonBloombergDecember 24, 2025Read Article
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US Consumer Confidence Drops for Fifth Straight MonthBloombergDecember 23, 2025Read Article
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10-Year Treasury Yield Moves Lower Following Strong GDP DataCNBCDecember 24, 2025Read Article
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Stock Market Today: Dow, S&P 500 Notch Records Ahead of Christmas HolidayYahoo FinanceDecember 24, 2025Read Article
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Consumer Confidence Drops to Lowest Level Since April Tariff RolloutPBS NewsDecember 23, 2025Read Article
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Gross Domestic Product, 3rd Quarter 2025 (Initial Estimate)U.S. Bureau of Economic AnalysisDecember 23, 2025Read Article
