MARKET OUTLOOK / STRATEGY
Fourth Quarter 2025
Seattle is a beautiful port city nestled between the majestic Cascade and Olympic Mountain ranges. But Seattle is also known as the home of transformative industries including aerospace, technology, and iconic retailer brands. As we navigate a new phase of technological innovation and the accompanying disruption and uncertainty, the social and economic implications will be transformative and challenging. We embrace our roots in a city that is a major artificial intelligence hub and prepare for change.
As we turn the page to 2026, the Portfolio Management Committee anticipates moderate GDP growth, supported by abundant technological infrastructure and business investment, affluent consumer spending, and the benefits of stimulative policy from the One, Big, Beautiful Bill Act (OBBBA). We expect lower volatility relative to 2025. The approaching midterm elections should prompt less disruptive policies. The FOMC’s tilt toward the maximum employment portion of its dual mandate also encourages continued economic expansion. Inflation is likely to be stable to modestly lower.
In a period of transformation and rapid change there are risks. Labor market concerns, rising AI skepticism, and surprises around the path of inflation are on that list of risks. Geopolitical tensions and the prospect of monetary policy and Fed leadership uncertainty are additional concerns. Labor market weakness could rise even while moderate GDP growth is supported by increasing productivity and upper-income consumers. An equity market pullback, driven by stretched AI valuations, could be a negative for high-end consumers. Bifurcation of economic and financial impact between low- and high-end earners will likely continue.
Meanwhile, fixed income yields remain attractive. Rates are off their highs, but they still represent levels that are well above their 10-year averages across the curve. We expect portfolio returns to be determined primarily by coupon income. With the front end of the rates curve shaped by Fed policy, we believe a 10yr range of 3.5% to 4.75% is appropriate for the year. We plan to maintain a duration neutral bias.
An important theme for portfolio construction is diversification across sectors and issuers. It serves as a risk management lever in a tight spread environment and an alpha generator. At the sector level, we favor a modest overweight to corporates, MBS and CMBS, with a more meaningful overweight to ABS.
We maintain a modest overweight to Corporates, with an emphasis on security selection and shorter duration maturities given tight spreads. The sector is supported by strong earnings, reduced regulatory burdens, and the favorable provisions for corporates in the OBBBA. However, we construct this overweight recognizing that corporate spreads remain tight and that supply-demand technicals will likely be challenging if elevated AI-driven issuance from the technology and utility industries continues.
We are also drawn to opportunities in Structured Products given their appealing relative value to Corporates. We expect MBS to outperform Treasuries given our expectation of lower rate volatility. We expect ABS to outperform, driven by their short duration and attractive spreads. While rising concerns over consumer delinquencies pose a risk of wider spreads, they also create an opportunity to add exposure to well-structured collateral within this shorter-duration sector. Our approach to CMBS remains opportunistic and selective, given the sector’s ongoing recovery.
DISCLOSURE
Past performance is not a guarantee or a reliable indicator of future results. Investing involves risk; principal loss is possible. Investors should carefully consider risk when investing in bonds or other securities, which include, but are not limited to, default, credit rating, interest rate, duration, prepayment, liquidity, and structural risks. Securities are also subject to general market risks due to factors that affect the overall market, which may include, but are not limited to, government actions, investor behavior, and economic conditions. Economic conditions may be influenced by liquidity risk, geopolitical risks, monetary and fiscal policy, interest rate risk, and inflation, among others. There is no guarantee that investment strategies presented will work under all market conditions. Risk management processes including diversification cannot eliminate the risk of losses nor assure the likelihood of a gain. Each investor should evaluate their ability to invest for the long-term, especially during periods of downturn or volatility in the market. Refer to the Legal & Disclosures section for additional disclaimers and disclosures regarding performance, risk, and investment process.
Information presented is for informational purposes only. It is not intended as investment advice nor an opinion or a recommendation as to the appropriateness of investing in any particular security, asset class, strategy, or product. Nothing in this publication is intended to be relied upon as a forecast or research; legal, tax, securities, or investment advice. Nothing in this publication is a solicitation of any type.
This commentary contains Pugh Capital’s opinions based on the information available at the time of the analysis. Opinions, outlook, and strategies are subject to change without notice. Statements concerning financial market trends are based on information available and current market conditions which will fluctuate. Information contained herein has been obtained from sources believed to be reliable, but not guaranteed.
This report is intended for U.S. institutional investors only. No part of this material may be modified, distributed or duplicated without the explicit permission of Pugh Capital Management.
Source: Pugh Capital, Bloomberg, and Bloomberg Indices.
As of December 31, 2025.