Yes, they do appear to be whole, unpeeled peaches. He doesn't seem to be actually muddling the peaches, just lightly poking at them and turning them around. Maybe he's just slightly piercing the skins. Hard to tell what instrument he's using (maybe a bar spoon?), but it's not a muddling stick. It's too far away in the two-shot of them, but in the next shot looking over Mildred's shoulder he's suddenly no longer whatever it is and is going to pour the champagne.
This reminded me of another classic film I saw recently - can't think of the title right now, dagnabbit - where champagne was poured over smaller, peeled peaches (or maybe it was pears). In any case it looked fantastic.
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