Would you consider investing in a bond that earns more than three percent after accounting for inflation? What if that security has zero chance of default?
Such an opportunity exists today in US Treasury Inflation-Protected Securities (TIPS).
One more question: Would your answer change if the expected real return on stocks over the next ten years was well below three percent?
To wit, the scatter plot below shows the correlation between S&P 500 CAPE10 valuations and the 10-year forward real returns that ensued. While the graph doesn’t show the path of returns over the next ten years, the strong correlation allows us to reasonably forecast the S&P 500 annualized real return over the entire ten years. Based solely on the graph, we should expect a real return ranging from -1.4 % to -3.8% for the S&P 500.
We want to stress that the objective of this article is not to pound the table urging investors to sell stocks and buy 30-year 3 percent TIP bonds. Instead, it highlights current bond market dynamics and shows how cheap bonds have gotten.
For more on the topic, we recently summarized why long-term bond bull Lacy Hunt suddenly turned bearish.
What Are TIPS?
TIPS are a US Treasury debt security that have many similarities with regularly issued Treasury bonds but differ in an important way. Like nominal US Treasury securities, TIPS have a stated maturity and coupon rate. However, the TIPS principal value adjusts with the CPI inflation index every six months. This mechanism works through the inflation factor. Additionally, each period’s coupon payment is calculated off the inflation factor-adjusted principal amount rather than the original par value. As a result, a TIPS bond yield will always pay its holders the CPI inflation rate. Plus, when TIPS offer a positive yield, as they do today, the real (after inflation) return is guaranteed to be positive. No other liquid security provides a perfect inflation hedge!
The yield difference between a nominal and a TIPS bond of equal maturities provides the market’s expected inflation rate. If you think inflation will run above that expected rate, TIPS will offer a better return over the life of the bond and vice versa if you think inflation will be lower than the expected rate. TIPS, like nominal bonds, fluctuate in price. Thus, you face significant price losses or the potential for large gains if you sell TIPS before maturity.
Current Market Context
Before discussing how three percent 30-year TIPS yields compare to historical yields, it’s worth noting that the history for 30-year TIPS yields is limited. The Treasury first offered 30-year TIPS in April 1998 but discontinued the offerings in October 2001, when budget surplus projections suggested long-term borrowing wouldn’t be needed. The Treasury reintroduced them in February 2010. Thus, due to the low supply of bonds, liquidity was limited from 1998 to 2010, resulting in exaggerated yield volatility and patchy data.
During the short window from 1998 to 2001, they peaked at an all-time high yield of 4.40%. The graph below shows the history of 30-year TIPS yields since they were reintroduced in 2010.
As of mid-July 2026, the 30-year TIPS real yield is at 3.05%, the highest level since the security was reintroduced in 2010.
The yield on the newest 10-year TIPS auctioned on 7/30/2026 is 2.50%, trailing only the 2.85% recorded on October 8, 2008, in the middle of the financial crisis selloff. Per David Enna at tipswatch.com:
A chance to get the highest real yield at auction in nearly 18 years is appealing and tempting.
The fact that today’s yield is closing in on the yield during the most illiquid and stressful days of the financial crisis tells you how unusual this moment is.
The Conventional Bearish Case
Real yields rise when investors demand more compensation for holding government debt, and three reasons may be at play today.
Inflation Risk
If markets believe the Fed will struggle to contain inflation, they will demand a higher real return to compensate for that uncertainty. Many claim the jump in oil and related prices explains the recent surge in yields.
We don’t fully agree. Since the Iranian conflict started, 5-year inflation expectations have fallen by nearly 0.25%, and 30-year inflation expectations are at their lowest level since September 2024.
However, as we will explain, inflation sentiment, as judged solely by surveys, is poor.
Deficit Woes
The national debt is approaching $40 trillion, driven higher by net interest payments, the fastest-growing line item in the federal budget. While an ever-expanding supply of Treasury debt is a cause for concern for bond investors, it needs context to better assess the situation.
The debt-to-GDP ratio is at the same level today (1.22x) as it was five years ago. Thus, debt growth has been commensurate with economic activity. Further, had interest rates not risen precipitously over the last five years, the ratio would be 1.09x, not far from where it was before the pandemic.
Safe Haven Status
Term Premium measures the additional yield that investors demand for the risks of holding Treasury securities over longer periods. Today, some pundits claim higher yields reflect that long-term Treasuries are no longer the ideal safe haven security. That may sound good in theory, but the graph below sheds light on the term premium.
It shows 10-year UST yields compared with the 10-year inflation expectations index produced by the Cleveland Fed. The Fed expectations index includes three subcomponents: current CPI, breakeven CPI derived from TIPS, and surveyed inflation results.
Because inflation and inflation expectations are highly correlated with yields, the 37-basis-point difference can be a good proxy for the term premium. Given that it’s relatively low, the term premium, i.e., safe-haven status or deficit concerns, is not a major factor driving yields higher. We can thus deduce that the recent spurt higher in yields is more due to inflationary concerns.
As we stated, market-implied breakeven inflation rates have fallen since the Iranian conflict started. CPI jumped in March through May, with the annualized inflation rate since the hostilities being 3.91%. However, a more recent view of inflation over the last three months points to 0.50% annualized inflation.
Given that breakeven inflation expectations are flat to lower and CPI is normalizing quickly, surveyed inflation expectations are the main driver of higher yields. In our view, poor inflation sentiment due to higher oil prices, and to a lesser extent, political views, is the primary factor driving yields higher. As such, the fundamentals supported by market or actual inflation data point to lower yields once sentiment improves.
Another Explanation
Real yields do not rise only because of the three rationales we discussed: inflation, deficits, and concerns about safe-haven status. They may also rise when the market forecasts stronger long-run productivity growth, which may result in stronger economic growth.
For instance, the 10-year TIPS yield hit an all-time high of 4.41% in January 2000 when the internet and enterprise software were fundamentally reshaping the economy’s capacity to grow. High real yields reflected optimism that the American economy could sustain a faster underlying growth rate than it had in the prior three decades. Additionally, investors demanded additional compensation to hold fixed-rate instruments in markets where real returns on capital were rising rapidly.
We believe today’s setup has similarities to that period. Increasing adoption of AI tools across the economy is the main ingredient of productivity acceleration. While we have yet to see durable productivity benefits at scale, they are most likely to occur; the question is when.
While there are reasons to be hopeful that AI will drive stronger economic growth, ample evidence suggests productivity growth is disinflationary despite better growth. If fewer workers result in higher profits, corporations can lower prices or at least not raise them as much due to reduced compensation.
We suspect this battle between the growth benefits of AI and the disinflationary benefits for prices will create periods of bond volatility until the disinflationary benefits become evident.
It’s worth adding that the massive capital required for the AI buildout is also behind the push higher in yields. We discussed this capital scarcity problem in our article on Lacy Hunt.
Diversification Benefits
We led with a graphic showing expected real stock returns for the next ten years are negative. The last time expectations were that low was in 1999. If one bought the April 1999 issue of a 30-year TIP maturing in 2029 with a real yield of 3.89%, they would have earned 6% annually through July 2026. As we share below, for the first 20 years of the investment, the TIP would have outperformed the S&P 500.
We want to stress that we are not recommending selling equities to buy TIPS. But given stock valuations, there is a strong case for the diversification benefits of adding TIPS at three percent real yields to an equity portfolio.
Summary
We think today’s three percent real yields reflect a genuine blend of forces working simultaneously: a bond market demanding more premium for a growing supply of government debt and AI-related debt, inflation worries, speculative behaviors driving investors out of bonds to chase equity returns, and a budding productivity story.
The history of TIPS suggests that the last time yields were this elevated outside of a crisis, the American economy was in the early stages of one of its most productive periods in a century. Whether artificial intelligence delivers a comparable structural boost remains to be proven. But if it does, disinflationary forces are likely to accompany it, and three percent real yields may prove a valuable portfolio diversifier.
