Calamos Fixed Income Suite: Positioned for a Steepening Yield Curve

Matt Freund, CFA, Christian Brobst, and Chuck Carmody, CFA

Summary Points:

We believe:

• Supported by a respectable albeit softening job market and consumer spending, the US economy is positioned for continued slow growth through 2026; a growth recession remains unlikely.
• Although inflation remains stubbornly above the 2% mark, the Fed is justified in resuming the rate-cutting cycle it began in the fall of 2024.
• An active easing cycle, Fed independence, and structural challenges around fiscal deficits, term premia, and inflation uncertainty will likely keep the curve steepening bias in place.

Credit markets performed well in the third quarter, reflected in the Bloomberg US High Yield 2% Issuer Capped Index’s gain of 2.5%. Investors were cheered by a surprisingly resilient economy, fading tariff concerns, and the resumption of the Federal Reserve’s monetary easing program. Despite a growing economy (current GDP estimates are over 3% for the third quarter), job data has been notably softer as companies slow hiring. Additionally, retroactive revisions to the survey showed employment gains were overstated by more than 900,000 jobs (for the year ended March 31, 2025). Nevertheless, the unemployment rate remains low at 4.3% and jobless claims have moderated after an unusually high print in early September.¹ Inflation continues to run around 3%, well above the Fed’s 2% target.

Chair Powell and his Fed colleagues indicated their September 25 basis point rate cut was a “risk management” exercise in the wake of the softer employment backdrop. While additional rate cuts are broadly expected, the question becomes whether the market is overestimating the speed with which they will occur. The yield curve is now pricing a 3% terminal rate for this cycle, to be reached by the first quarter of 2027. That would be five additional cuts merely to get back to neutral (versus the 3% median estimate of the long-term neutral rate in September). Not surprisingly, Fed governors have varying opinions about where the neutral rate lies, with a low-to-high range of 2.625% to 3.875%. A new Fed chair on the horizon introduces a wildcard to the debate.

Both hard economic data and survey results show a bifurcated consumer backdrop. High earners are doing well, continuing to expand consumption and skewing aggregate data. Meanwhile, the bottom half of earners face increased burdens, from higher prices for necessities and the impact of policy changes.² We believe 3% is an appropriate goal for short-term rates and that the timing is less important than the current headlines imply. Lower interest rates, lower tax bills (the President’s landmark tax legislation should result in larger refunds and reduced withholdings in 2026), reduced onerous regulatory burdens, and the resolution of tariff uncertainty should provide a positive economic backdrop. Even so, it is unclear if the distribution of benefits will match the distribution of the costs of higher import prices and reduced healthcare subsidies. That said, so long as layoff activity remains low, we believe that the US economy will avoid a growth recession in 2026.

Corporate fundamentals are moderating as margins continue to decline and leverage metrics are increasing. Even so, balance sheets remain healthy, the fundamental backdrop is still solid, capital market liquidity is abundant, and the overall credit quality of the high yield market is above average. These factors contribute to a default rate below long-term averages. We expect default activity to remain muted into 2026.

The technical backdrop remains very strong, as evidenced by significant inflows into high-yield and loan funds, limited net new debt issuance, and anecdotally strong demand for most new issues. The combination of solid fundamentals and strong technicals has led to credit spreads trading near the tightest levels witnessed in recent years.

Positioning Implications

The Fed faces a challenging task with both sides of its dual mandate out of balance simultaneously, and a patient approach to raising rates driven by fear of a mistake may result in analysis paralysis. Regardless, an active easing cycle and Fed independence, combined with structural challenges around fiscal deficits, term premia, and inflation uncertainty, are likely to keep the curve steepening bias in place.

These expectations result in Calamos Short-Term Bond Fund having a duration long of its benchmark, while that of Calamos Total Return Bond Fund is neutral to its benchmark. In Calamos High Income Opportunities Fund, where interest-rate sensitivity has a lower impact on returns, the fund is positioned short of benchmark duration.

Tight trading ranges in credit spreads should hold as long as technical factors remain supportive. Nevertheless, spread compression across rating categories has allowed the team to migrate credit quality higher across strategies in recent months while maintaining an attractive level of income. We will continue to position the funds defensively until relative value opportunities to move down in credit improve.