September Volatility Implications for Fixed Income Investors

What Happened?

What Happened?

The third quarter of 2025 was a strong one for all assets, with 93 of the 96 indices tracked by OAM finishing in positive territory. From an economic standpoint, though, momentum slowed as the quarter went on, particularly in the labor market. By September 17, the Fed responded with a 25 basis point cut, bringing the policy rate to 4.00–4.25 percent. The move was broadly expected and nearly unanimous, with only new Governor Stephen Miran favoring a larger 50 bp cut.

The main concern was weaker job creation. At the same time, jobless claims stayed contained and consumer spending held steady.

• Job Creation: The three-month average of nonfarm payrolls slowed to 29k versus 55k in Q2 and 111k in Q1.
• Claims: Initial jobless claims (four-week moving average) were 237k, essentially flat versus 241k in Q2 and 223k in Q1.
• Unemployment rate: Stable at 4.3%, versus 4.1% in Q2 and 3.9% in Q1. The stability likely reflects a lower labor force participation rate tied to aging demographics.
• Spending and income: Personal spending rose 0.6% in the latest release after 0.5% in Q2 and 0.8% in Q1, supported by steady total payrolls.
• Inflation: Core PCE rose 0.2% month-over-month, down from 0.3%, not showing large tariff pass-through so far.

Reference yields moved lower during the month, on softer employment & contained inflation: 

• 5-year Treasury: 3.70% → 3.74% 
• 5-year AAA muni: 2.37% → 2.32% (Taxable Equivalent Yield ~3.92%)
• 10-year Treasury: 4.23% → 4.15% 
• 10-year AAA muni: 3.22% → 2.92% (Taxable Equivalent Yield ~4.93%)

Reference Risk/Return snapshot for the month:

All yield figures represent gross market yields and do not reflect the impact of fees or expenses. Index performance is not indicative of the performance of any particular investment. Indexes are unmanaged and their returns do not take into account any of the costs associated with buying and selling individual securities. Individuals cannot invest directly in an index. Past performance is not indicative of future results.

What Are We Thinking?

With rate cuts now underway, the Fed’s focus has shifted toward “risk management.” Inflation is still sticky (CPI 3.1 percent YoY, PCE 2.7 percent YoY), but the slowdown in job creation has become the priority. Tariff effects are being treated as a one-time price shock, leaving the employment mandate at the center of policy.

Their policy trade off seems to be clear. Higher rates cannot stop tariff inflation, but they can deepen labor market weakness if left inadvertently restrictive. Powell’s repeated references to uncertainty—echoing his 2018 language—in our view, highlight that when the outlook is cloudy, the Fed manages risks first. Unless payrolls deliver a major upside surprise (median September forecast +52k, with a wide range of +109k to –20k, and possible delay from the government shutdown), the slow path lower in rates looks set to continue. Our base case is for two more cuts before year-end, broadly in line with market expectations.

To its credit, the Fed has raised rates 11 times since March 2022, paused 14 times, and now cut four times without tipping the economy into recession. We believe this track record suggests the committee is navigating the current cycle with notable skill and caution.

In Taxable Fixed Income: Solid macro and corporate fundamentals, coupled with persistent institutional demand and limited net new supply, have anchored credit spreads and performance. We expect fundamentals and technical factors to remain supportive through year-end. Corporate bond demand remains strong on the back of attractive all-in yields.

In Tax-exempt fixed income: Municipals finally joined the broader fixed income rally, with long maturities benefiting from weaker employment data and muted tariff pass-through. Performance is now more in line with taxable markets, while concerns about elevated supply earlier this year are fading as we move closer to year-end.

Bottom line: We expect fixed income to stay well supported against the Fed’s lower rate path as we head into the fourth quarter. The key risks to monitor are the Supreme Court’s ruling on tariffs, widening fiscal deficit pressures, and renewed debate over Fed independence. We believe any of these could push term premia higher and represent the next challenge for markets.