CICC: Why Are US Treasury Yields Continuing to Rise?

As reported by Zhitong Finance APP, CICC released a research report stating that since the beginning of this year, US Treasury yields have continued to rise. To explore the underlying drivers, the bank used the New York Fed's ACM model to break down the 10-year US Treasury yield into expectations for future short-term interest rates and the term premium. The results show that from January to August this year, the 10-year US Treasury yield rose by a cumulative 48 basis points, of which 52 basis points came from the rise in expectations for future short-term rates, while the term premium actually fell by 4 basis points. This indicates that the rise in yields this year mainly reflects economic recovery driven by AI investment expansion and inflation risks resurfacing due to geopolitical tensions, which in turn has prompted the market to reprice the Fed's policy path.

Looking further, fiscal expansion does indeed lead to an accumulation of government debt and pushes up the term premium, but according to literature, for every 1% increase in the US government debt ratio, the term premium only rises by 2–3 basis points. This means that since the pandemic, the rise in the government debt ratio can explain only about a quarter of the rise in term premium and 15% of the overall yield increase, with the rest coming mostly from monetary policy, inflation compensation, and other factors.

Changes in the US macro landscape are also affecting the long-term equilibrium rate. After the 2008 financial crisis, the US economy stagnated due to housing deleveraging, compounded by a global savings glut, collectively resulting in long-term low rates. However, the situation is now different: spurred by the AI wave, US corporate investment is strong and financing demand is robust, pushing up the neutral rate. The US economy may be emerging from the "low growth, low inflation, low rates" environment since 2008 and entering a new investment cycle driven by AI.

Against this backdrop, the center of US Treasury yields has also shifted higher, which can be seen as "rate normalization." Over the past decade following 2008, investors became accustomed to zero rates, Fed QE, and abundant liquidity. But in hindsight, that period was a special downcycle in the financial cycle, while the present is more like a return to normal.

Looking ahead, the bank believes that as AI capex deepens and the US manufacturing cycle restarts, and the Fed adopts a hawkish monetary policy, US Treasury yields are likely to remain elevated or even rise further. From an investment perspective, high rates are not a "pure negative"—if they reflect fundamental economic improvement and strong corporate profits, equities can still be supported. But if they represent market worries over supply-side inflation (such as rising oil prices) and policy uncertainty, they will suppress risk appetite.

Why Are US Treasury Yields Rising?

To explore the drivers behind rising Treasury yields, the bank employs the term structure model introduced by Adrian, Crump, and Moench (ACM) of the New York Fed to decompose the 10-year Treasury yield into two parts: expectations for future short-term rates and the term premium (see Chart 1). The former reflects expectations of future Fed policy rate paths, while the latter reflects the risk compensation investors require for holding long-term bonds, such as inflation compensation, duration compensation, credit risk, etc.

Regarding the term premium, this concept can be traced back to Keynes’ theory of liquidity preference. Keynes argued that when people choose a savings vehicle between cash and bonds, those who believe future rates will be higher than current market rates will hold cash, while those who believe rates will be lower will buy bonds. When rates are very low, investors anticipate a return of rates to normal, higher levels in the future; in this case, those holding bonds would suffer capital losses (from falling bond prices) and therefore prefer cash. Under such circumstances, if the government wants to sell bonds, it must offer higher interest rates as compensation, which forms the theoretical basis of the term premium.

Subsequently, the Preferred Habitat Theory further developed this idea. This theory posits that investors do not universally dislike long-term bonds, but have preferred term structures. For instance, pension funds and insurers prefer long-term bonds, while money market funds prefer short-term bonds. However, markets are not completely segmented: if bonds outside investors' preferred maturities offer adequate return compensation, investors will be enticed out of their comfort zones to invest. The term premium, in this sense, is the risk compensation long-duration bonds offer to attract allocation.

Chart 1: The ACM model splits the 10-year Treasury yield into expectations for future short-term rates and the term premium

Source: New York Fed, CICC Research

So, which component is responsible for rising Treasury yields this year? According to the ACM model, from January to July 2026, the 10-year Treasury yield rose by approximately 48 basis points, of which about 52 basis points came from increased expected short-term rates, while the term premium actually fell by 4 basis points (see Chart 2). This means that the rise in Treasury yields in the first eight months mainly reflects the market repricing the Fed’s policy, moving from expectations of two to three rate cuts early in the year to expectations of rate hikes, rather than a significant expansion of the term premium.

A closer look shows that the rise in short-term rate expectations mainly stems from two aspects: First, improvement in the US economic fundamentals. AI-driven capex is expansively robust, consumer spending remains resilient, the job market is solid, and the manufacturing PMI keeps ticking up, indicating economic recovery is expanding beyond AI investment to wider sectors.

Second, resurfacing inflation risks are prompting the Fed to maintain a neutral-to-tight monetary stance. Fed officials first released a more hawkish signal at the June FOMC via the dot plot, then, at the July FOMC, three members even voted for an immediate rate hike, showing that decision-makers’ focus is shifting back from jobs to inflation.

Since July, other forces have also pushed up the Treasury term premium, thereby supporting yields (see Chart 3). First, large-scale bond issuances by tech companies have acted as a liquidity drain on the Treasury market. Second, increased uncertainty in the Middle East has pushed oil prices higher, renewing inflation concerns. Third, the US Treasury's frequent and large-scale bond auctions have exacerbated periodic funding tightness. However, the bank believes these factors primarily reflect the supply-demand configuration for funds and geopolitical uncertainty, rather than a sudden market repricing of US credit risk. After all, concerns around US government debt are not new.

Chart 2: The rise in the 10-year Treasury yield since the beginning of the year is mainly driven by increased expectations for future short-term rates

Source: New York Fed, CICC Research

Chart 3: The term premium of the 10-year Treasury has fluctuated since the beginning of the year

Source: Haver, CICC Research

How Significant Is the Impact of Fiscal Deficits?

Although sovereign credit risk has not been the main factor behind the recent rise in US Treasury yields, it does not mean fiscal factors can be ignored. Persistent fiscal deficits and rising government debt ratios still affect long-term rates through various channels. How much, then, do fiscal factors contribute to higher Treasury yields? The bank offers further analysis below.

Government debt can push up Treasury yields via three channels: First, the preferred habitat mechanism (imperfect asset substitution). Fiscal expansion typically increases issuance of medium- and long-term government bonds. Investors who prefer long-duration bonds will demand a higher return for absorbing extra duration, thus pushing up the term premium.

Second, the sovereign risk premium mechanism. A high debt ratio undermines fiscal sustainability expectations, causing investors to require additional risk premiums for potential default and refinancing risks. In the past, Treasuries benefited from high liquidity and safety, causing the market to grant them high valuations and low yields. But as debt servicing costs keep rising, the market becomes more concerned about refinancing pressure.

Third, the inflation mechanism. Even when debt sustainability is not an issue, the market may still fear the government will resolve debt via inflation or the Fed will be forced to keep rates high, thus demanding a higher risk premium. In addition, private sector leveraging can fuel asset prices, but government leveraging can fuel inflation (since fiscal funds typically enter the real economy), even if this is not an intentional effort to inflate away debt.

The Fed’s research estimates show that every 1 percentage point rise in the US government debt-to-GDP ratio pushes the 10-year Treasury yield up about 4 basis points: 1–2 from expected short rates, 2–3 from the term premium. Based on this, from Q4 2019 to Q2 2026, the ratio of US Treasuries to GDP rose from 105.8% to 121.5%, an increase of 15.7 points, corresponding to a rise of roughly 31 to 47 basis points in the term premium (see Chart 4).

By comparison, the New York Fed ACM model shows that over the same period, the term premium and yield for 10-year Treasuries cumulatively rose by about 163 and 267 basis points, respectively. This means that government debt expansion explains only about a quarter of the term premium increase and 15% of the overall yield rise (see Chart 5). The repricing of the term premium is largely due to the rise in the equilibrium real rate, higher inflation risk, and structural shifts in long-term supply and demand for capital, not merely sovereign credit risk.

Of course, the above calculation mainly represents the historical average, not necessarily short-term fluctuations. In certain periods, the market can be highly sensitive to the US debt issue, causing yields to rise rapidly. Concerns about debt in Japan or Europe can also spill over to Treasuries.

Looking forward, the marginal impact of fiscal factors on future rates remains to be seen. According to CBO forecasts, the US government debt-to-GDP ratio is expected to reach 126.2% by 2030, up 4.7 percentage points from Q2 2026. By the aforementioned literature, this would raise term premium by just another 10–14 basis points. Even by 2036, with the debt ratio at 136.4%, the extra term premium rise would only be 30–45 basis points.

Of course, CBO has historically underestimated US government debt. If future fiscal deficits expand faster than expected, the market may re-evaluate the sustainability of US fiscal policy and require a higher term premium. But for now, this risk should not be over-interpreted. The Trump administration has yet to propose new fiscal expansion; its main policies such as tax cuts are largely priced in via the prior "Beautiful America Act", so the market is already quite prepared. Thus, in the absence of new fiscal stimulus, the gradual rise in government debt will need further observation to gauge the impact on long-term rates.

Chart 4: Since the pandemic, the US government debt ratio has risen from about 105% to about 121%, with further increases predicted by CBO

Source: Haver, CICC Research

Chart 5: Expansion of government debt explains about a quarter of the rise in term premium and 15% of the overall yield rise

Source: New York Fed, CICC Research

Rate Normalization Amid the AI Wave

The changing US macroeconomic landscape is also shaping long-term rates. After 2008, the US economy slipped into long-term stagnation after the housing bust, while a global savings glut drove long-lasting low rates. But the environment has changed: under the AI wave, US investment is strong and AI-related fixed asset investment as a share of GDP has already surpassed that of real estate (see Charts 6 and 7). Meanwhile, financing demand is robust, corporate bond issuance is strong, and bank C&I loan growth is accelerating (see Charts 8 and 9). This indicates the US may be emerging from the "low growth, low inflation, low interest rates" environment and entering a new investment cycle with AI at its core.

Fed Chair Walsh described this transformation as "a hinge point in history" at the 2026 Jackson Hole meeting. He further believes that as investment deepens, the chances of higher future growth potential are rising. The bank also notes that although the pace of future AI investment may fluctuate, the macro environment is already very different from the post-2008 period.

This view is also supported by data: Based on New York Fed estimates, trend growth in the US economy has rebounded from about 1.5% post-2008 to around 2.5%, and the real neutral rate (R*) has risen from the 0.5–1% range to 1.5–2% (see Chart 10). Meanwhile, nominal US GDP growth has also picked up, and in Q2 2026 this growth rate still reached as high as 6.5% (see Chart 11).

In this context, the center of US Treasury yields has also moved higher, which the bank describes as "rate normalization." For the past decade, the market became accustomed to zero rates, the Fed’s QE, and abundant liquidity, taking them as normal. But from a longer-term historical perspective, the truly special period was actually the decade after the 2008 financial crisis, whereas the present is more of a return to normalcy.

Looking ahead, the bank believes Treasury yields will remain elevated for longer, and could even go higher. First, the current AI-driven manufacturing cycle is still in an uptrend; the US ISM Manufacturing PMI has been rising since early 2026, while core capital goods orders are accelerating, indicating the spillover effect of AI investment is spreading to wider areas (see Charts 12 and 13). Second, to guard against inflation pressures from investment expansion and rising oil prices, the Fed could restart rate hikes, which could drive up expected short-term rates even further. Third, US household and corporate sector balance sheets are healthy, leverage is low, and debt servicing burdens are at historically low levels (see Charts 14 and 15). This means the private sector’s sensitivity to rising rates is limited and yields may need to go still higher to truly have a restrictive effect.

From an investment standpoint, the bank believes that high levels of rates are not "pure negatives"—if they reflect ongoing economic improvement and strong corporate earnings, equities will also benefit. But if they reflect worries about supply-side inflation (such as oil prices) and policy uncertainty, that is negative for equities. From January to August this year, the 10-year Treasury yield rose by 48 basis points, while over the same period, the S&P 500 index rose about 12%. This shows the market does have some ability to absorb higher rates.

Chart 6: US AI-related investment is growing strongly

Source: BEA, CICC Research

Chart 7: The share of AI-related investment has surpassed real estate

Source: BEA, CICC Research

Chart 8: Bond issuance by top five cloud computing companies is strong

Source: Bloomberg, CICC Research

Chart 9: Bank C&I lending is accelerating

Source: Haver, CICC Research

Chart 10: US trend growth and neutral rate are both rising

Source: New York Fed, CICC Research

Chart 11: US nominal GDP growth is rising

Source: Haver, CICC Research

Chart 12: ISM Manufacturing PMI continues to climb

Source: Haver, CICC Research

Chart 13: Growth in core capital goods orders accelerates

Source: Haver, CICC Research

Chart 14: Household leverage and debt servicing rates are low

Source: BIS, Fed, CICC Research

Chart 15: Corporate sector leverage and debt servicing rates are low