Rising Yields and the Paradox of Growing Demand for U.S. Long-Duration Bonds

The recent surge in U.S. long-duration bond yields has sparked a paradox: higher yields, traditionally a sign of waning demand, appear to coexist with growing investor appetite for duration. This apparent contradiction demands closer scrutiny. According to a report by T. Rowe Price, the 10-year U.S. Treasury yield reached 4.79% in January 2025, up from 0.51% in August 2020, while the 30-year yield climbed to 4.78% by September 2025, compared to 4.02% in the same period the previous year How high could the 10-year U.S. Treasury yield go? | T. Rowe Price^[1]. These figures reflect not a collapse in demand but a recalibration of expectations in a shifting macroeconomic landscape.

The Drivers of Rising Yields: Inflation, Policy, and Uncertainty

The upward trajectory of long-end yields is underpinned by three interrelated forces. First, sticky inflation has eroded confidence in the Federal Reserve's ability to meet its 2% target. The 10-year breakeven inflation rate, a market-based gauge of inflation expectations, rose from 2.03% in September 2024 to 2.40% by January 2025 How high could the 10-year U.S. Treasury yield go? | T. Rowe Price^[1]. Second, the Fed's updated Summary of Economic Projections (SEP) in late 2024 signaled a long-term federal funds rate of 3–4%, a stark departure from pre-pandemic norms How high could the 10-year U.S. Treasury yield go? | T. Rowe Price^[1]. Third, political uncertainties—particularly around the Trump administration's policy agenda—have heightened inflation risks, with investors pricing in the possibility of expansionary fiscal measures Treasury yield curve steepens as 10-, 30-year yields end at almost 7-month highs^[2].

These dynamics have reshaped the Treasury yield curve. As of September 2025, the curve steepened sharply, with long-end yields rising more rapidly than short-term rates Treasury yield curve steepens as 10-, 30-year yields end at almost 7-month highs^[2]. This steepness is not merely a reflection of inflation expectations but also of a growing term premium—the additional yield investors demand for holding long-term bonds. According to RBC Global Asset Management, such term premiums have returned to levels last seen in the early 2000s, underscoring the market's demand for compensation in an environment of fiscal and macroeconomic uncertainty Global fixed income markets - Summer 2025^[3].

Investor Behavior: Outflows vs. Institutional Demand

While retail investors have shown caution, institutional investors have increasingly allocated capital to long-duration bonds. Data from Morningstar and Yahoo Finance reveal that long-term bond funds faced outflows of $312 million in a recent week and nearly $11 billion in Q2 2025 US Fund Flows: In August, Bond Funds Stay Hot, While Stock Funds Do Not^[4]. However, these outflows mask a more nuanced picture. Institutional investors, particularly pension funds and endowments, have sought to lock in higher yields by extending duration, anticipating that the Fed's rate-cutting cycle—expected to begin in late 2025—will drive bond prices higher Institutional Investors Increasing Exposure to Long-Duration Bonds^[5].

This strategy hinges on historical patterns: yields often rise 3–4 months before the Fed initiates rate cuts, creating opportunities for capital appreciation Institutional Investors Increasing Exposure to Long-Duration Bonds^[5]. Vanguard's suite of long-duration bond ETFs, which include Treasuries, corporate bonds, and international instruments, has seen renewed interest as investors hedge against the volatility of equities and the diminishing diversification benefits of traditional safe-haven assets like gold Institutional Investors Increasing Exposure to Long-Duration Bonds^[5].

Implications for the Market and Investors

The current environment presents both risks and opportunities. On the one hand, the U.S. fiscal outlook—marked by rising deficits and debt—has made investors more selective, demanding higher yields to offset inflation and default risks US Fund Flows: In August, Bond Funds Stay Hot, While Stock Funds Do Not^[4]. On the other, the steepening yield curve and elevated term premiums suggest that long-duration bonds could offer attractive risk-adjusted returns, particularly if rate cuts materialize as expected.

For investors, the key lies in balancing duration exposure with liquidity and diversification. As BlackRock notes in its 2025 systematic fixed-income outlook, the traditional role of bonds as a diversifier has been challenged by high inflation and trade policy uncertainty 2025 Systematic Fixed Income Outlook | BlackRock^[6]. Yet, with central banks poised to cut rates, the potential for capital gains in bonds—especially those with long maturities—remains compelling 2025 Systematic Fixed Income Outlook | BlackRock^[6].

Conclusion

The rise in U.S. long-duration bond yields is not a sign of declining demand but a reflection of evolving investor expectations in a world of persistent inflation, fiscal uncertainty, and shifting monetary policy. While retail investors have retreated, institutional buyers are positioning for a future where duration delivers both income and capital appreciation. For those willing to navigate the complexities of this environment, long-duration bonds may yet prove to be a cornerstone of a resilient portfolio.