Although the Federal Reserve has been cutting interest rates, the facts are buried beneath the headline. The Fed only sets short-term interest rates for lenders. Investors are still able to bid up or down on various assets such as long-term Treasury bonds.

That’s why yields have risen over the past few months on long-dated assets, even as rates have been cut. And longer-dated yields can have a huge impact on the economy that counteract the decline in short-term rates.

That’s particularly true with the 10-year U.S. Treasury yield, which still pays about 4.4%.

This sticky yield on the 10-year is causing the yield curve to steepen out. The yield curve universion suggests trouble ahead for the economy.

The good news? Investors can still lock in relatively high bond yields, particularly on longer-dated notes.

Longer-term rates may even be able to trend higher, if that reflects strength in the real economy.

Meanwhile, shorter-dated yields should continue to trend lower. Keeping short-term rates lower help smooth out the cost of government borrowing. That’s because most government bonds are short-dated notes and bills running from 30 days to two years.

For stock investors, higher yields essentially compete with stocks, particularly dividend-paying stocks. Investors may want to scale out of stocks, especially after the market’s strong performance over the past two years.

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2024 is on track as one of the strongest years ever. Even with a strong year, it still provided a number of twists and turns that could have shaken out investors at any time. One of the biggest factors impacting the market this year occurred in the bond market.

That’s because interest rates started to come down this year, at least those set by the Federal Reserve. Meanwhile, bond yields continued to inch higher instead.

This mismatch suggests that the market is looking out for further inflation in 2025. And the latest inflation data shows that higher prices remain “sticky.” It’s still not clear if inflation can get back down to the Fed’s 2% target range, especially after cutting rates in 2024.

For now, markets have remained bullish even with long-dated interest rates ticking higher. But that may not last forever.

Investors also saw a continued push into large-cap U.S. stocks. The S&P 500 rallied 27%. Comparatively, the small-cap Russell 2000 index rose about 16%, and about 7% for global stocks. That continues off the market trend from 2023, but there’s no guarantee it will hold in 2025.

Given overall valuations in large-cap U.S. stocks, there’s a chance for a sizeable market pullback in 2025. Investors will want to keep an eye on this big trend and get out of large-cap stocks if they show signs of slowing down.

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