Fixed Income Strategy Report (Q3 2025)

U.S. rates should outperform on a relative basis

As the global trade paradigm shifts, countries are reassessing old economic configurations.
Consider, that with the United States retreating from free trade, developed market economies can now expect the contribution from net trade to economic growth to decline in the coming years. Indeed, those same economies will now need to chart a different course as the degree of access to U.S. markets has changed dramatically.
Additionally, the U.S. has sent signals that any geopolitical security guarantees could be more conditional than they have been.
For these countries, one antidote to the new reality is to commit to increased spending and wider budget deficits. Several developed market economies have already taken steps in this direction by announcing massive spending programs aimed at boosting infrastructure and defense output.
Germany and the U.K. are among the more notable examples, while Canadian PM Mark Carney was also elected in late April on a platform promising a heavy degree of spending on infrastructure and defense.
NATO allies have also agreed to a new defense spending target of 5% of GDP.
For the most part, these spending programs won’t have revenue offsets. This suggests wider budget deficits – with the takeaway being more bond issuance and supply that the rates markets will have to absorb. Indeed, we expect this to remain an important theme for several quarters to come.
Meanwhile, in the U.S., the focus remains on the passage of the “One Big, Beautiful Bill” which will ensure that the Trump tax cuts from 2017 are extended instead of being allowed to expire at the end of this year, while also introducing new tax cuts and spending initiatives. Projections from the Congressional Budget Office suggest that debt could grow from 100% of GDP to 124% by 2034.
The Treasury’s ‘Quarterly Refunding Announcement’ suggests that issuance should remain consistent for the coming quarters. Nevertheless, the expectation is that coupon issuance should rise into late-2025 and early 2026.
However, there is a good chance that the supply/demand profile will look a bit different in the U.S. relative to other countries. The reason for this is that we expect that the Fed may need to ease a bit more than the market expects. At the same time, most developed market central banks are close to the end of their easing cycles (with the exception of Japan).
The less advantageous supply/demand backdrop implies fixed income as an asset class might struggle. However, we do see scope for U.S. rates to outperform in the period ahead. As such, we have made some changes to our portfolio that reflect our more optimistic slant towards the U.S. – including establishing a new core position in ZUAG.F (BMO US Aggregate Bond Index ETF – hedged, for currency risk) as well as a new tactical position in ZAAA.F (BMO AAA CLO ETF – hedged, for currency risk).
On the currency front, while we acknowledge near-term risks that the USD could rally as investors are short, we still expect the CAD to outperform in the coming quarters. As such, our preference is to hedge our U.S. rates exposure on a go-forward basis.

Fixed Income model portfolio

ETF Name	Ticker	Weight	Duration	YTM*	Mgmt Fee	Exposure	Position
BMO Discount Bond Index ETF	ZDB	5.0%	7.12	3.40%	0.09%	Canada	Core
BMO Laddered Preferred Share Index ETF	ZPR	20.0%	3.05	6.65%	0.45%	Canada	Core
BMO Canadian Bank Income Index ETF	ZBI	15.0%	2.13	4.08%	0.25%	Canada	Core
BMO Short-Term US TIPS Index	ZTIP	15.0%	2.35	4.06%	0.20%	United States	Non-Traditional
BMO US Aggregate Bond Index ETF (Hedged Units)	ZUAG.F	25.0%	6.05	4.63%	0.25%	United States	Core
BMO AAA CLO ETF (Hedged Units)	ZAAA.F	20.0%	0.13	5.35%	0.20%	United States	Non-Traditional

Total Portfolio		100.0%	3.18	4.95%	0.26%

BMO Global Asset Management. For illustrative purposes only. The information contained herein is not, and should not be construed as, investment, tax or legal advice to any party. These are not recommendations to buy or sell any particular security. Particular investments and/or trading strategies should be evaluated relative to the individual’s risk profile and investment objectives. Professional advice should be obtained with respect to any circumstance.

* Weighted average yield to maturity: The market value-weighted average yield to maturity includes coupon payments and any capital gain or loss that the investor will realize by holding the bonds to maturity.

Source: Bloomberg, BMO Asset Management Inc., as of June 30, 2025.

Performance (%)

Ticker	Year-to-date	1-month	3-month	6-month	1-year	3-year	5-year	10-year	Since inception	Inception date
ZDB	1.38	0.01	-0.62	1.38	6.00	4.24	-0.46	1.75	2.30	02/10/14
ZPR	8.03	2.98	5.78	8.03	18.50	9.87	12.93	4.99	2.98	11/14/12
ZBI	2.44	0.62	1.29	2.44	7.71	6.23	-	-	3.90	02/07/22
ZTIP	-1.49	-0.29	-4.47	-1.49	5.92	5.83	-	-	5.09	01/20/21
ZUAG.F	3.16	1.36	0.75	3.16	4.36	-	-	-	1.91	01/23/23
ZAAA.F	Returns are not available as there is less than one year’s performance data.									04/30/25

Source: Bloomberg, as of June 30, 2025. Past Performance is not indicative of future results.

Credit Summary

Credit quality summary of model fixed income portfolio. Ratings are composite scoring from various ratings agencies for the underlying securities. BMO Global Asset Management. Bloomberg, June 30, 2025.

Term Summary

Term summary showing breakdown of average duration of model portfolio securities.
BMO Global Asset Management, Bloomberg, as of June 30, 2025.

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For advisor use only.

The portfolio holdings are subject to change without notice and only represent a small percentage of portfolio holdings. They are not recommendations to buy or sell any particular security.

Any statement that necessarily depends on future events may be a forward-looking statement. Forward-looking statements are not guarantees of performance. They involve risks, uncertainties and assumptions. Although such statements are based on assumptions that are believed to be reasonable, there can be no assurance that actual results will not differ materially from expectations. Investors are cautioned not to rely unduly on any forward-looking statements. In connection with any forward-looking statements, investors should carefully consider the areas of risk described in the most recent prospectus.

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