The US Treasury market is enduring its most severe return cycle in over a hundred years, yet the elevated yields are giving some investors renewed reason to enter the fray.

The 10-year Treasury yield briefly surpassed 5% earlier this week, reaching its highest point in 19 years. In a move to counter persistent inflation pressures that remain above target, the new Federal Reserve Chair, Warsh, announced the first rate hike in three years this week.

According to the latest analysis from Goldman Sachs strategy team, the five-year rolling return on 10-year Treasuries has dropped to its lowest level in over a century. Even in real terms, the dismal performance rivals that of the periods following World War I, World War II, and the stagflation era of the 1970s.

Despite the lingering clouds over the bond market, capital has not fled entirely. Data from EPFR shows that US bond funds have recorded net inflows for 71 consecutive weeks, with the high yields drawing some new capital back into the fixed-income space.

A Century of Worst Performance: The Dual Squeeze of Inflation and Rate Hikes

The Bloomberg Aggregate Bond Index, often seen as the bond market's equivalent to the S&P 500, has declined by 1.6% on a total return basis so far this year through Wednesday's close. The index encompasses US Treasuries, corporate bonds, mortgage-backed securities, and other government-backed debt, though it excludes ultra-short-term bills.

The index's performance fluctuated between gains and losses early in the year, but it has steadily trended lower since August as global crude prices climbed toward nearly $100 per barrel. Higher oil prices fueled inflation expectations, directly eroding the real purchasing power of fixed-income assets, with a particularly sharp impact on longer-duration bonds.

In a report released Thursday, the Goldman Sachs strategy team led by Christian Mueller-Glissmann described the current state of 10-year Treasuries as the worst in over a century, measured by five-year rolling returns. The report noted that even without adjusting for inflation, nominal returns are already extremely poor. After adjusting for inflation, the real returns are "almost as bad as those after World War I, after World War II, and during the 1970s."

George Catrambone, Head of Americas Fixed Income at DWS, attributed this situation to two main factors: first, "the Fed and the market have lost patience with inflation running persistently above target," and second, the prolonged Iran war continues to pressure markets.

The 5% Threshold: A Signal for New Capital

The sharp rise in yields, while hammering existing holders, has also created more attractive entry conditions for new capital.

"The higher the yield, the more tempting it becomes to park money in bonds, at least for new funds," said Brian Rehling, Co-Head of Global Fixed Income Strategy at Wells Fargo Investment Institute.

Cullen Roche, Founder and Chief Investment Officer of Discipline Fund, shares a similar view. He noted that the poor bond returns over the past five years stemmed fundamentally from yields being at rock-bottom levels and interest rate risk being excessively amplified. Five years ago, the 10-year Treasury yield was around 1.3%. "But as yields rise and prices fall, these assets are becoming more attractive," he said.

Roche likened the current logic of buying long-dated bonds to purchasing a discounted used car. Over time, the pace of decline in bond values slows, and the fixed coupon income they generate annually remains unchanged regardless of market price fluctuations.

Bob Michele, Chief Investment Officer at JPMorgan Asset Management, has also indicated that his team has begun buying long-dated government bonds in the US, Japan, and Australia, viewing current prices as "extremely cheap." He pointed out that policy coordination among the European Central Bank, the Fed, and the Bank of Japan would form a support chain for the bond market. Bessent's recently launched long-term Treasury repurchase program is also seen as a critical stabilizing force, with room for further policy measures.

Fund Flows: Short-Term Bonds Fancied, Long-Term Bonds Still Shunned

Despite the overall pressure on the bond market, fund inflows have not halted, though the structure shows clear divergence.

According to EPFR liquidity analyst Winston Chua, US bond funds have seen net inflows for 71 consecutive weeks. During this period, short-term bond funds absorbed capital equivalent to 12.2% of their assets under management (approximately $139.9 billion), while long-term bond funds took in only 2.9% of assets (approximately $19.3 billion).

Notably, these inflows occurred against a backdrop where short-term bond performance was roughly flat, while long-term bond fund net asset values fell by nearly 5%.

However, optimism about the bond market should remain cautious. The Fed projected Wednesday that inflation could close around 3.7% this year and may not return to its 2% policy target until 2029.

When asked about the Treasury sell-off, Warsh attributed the pressure to multiple global "hot spots" and various other factors, emphasizing that the 10-year Treasury is "the most important asset in the world" and serves as "the risk-free benchmark for pricing virtually all assets."

Roche admitted, "Long-term bonds still carry risks, but they have become more attractive; short-term bonds are already very appealing." The uncertainty over the trajectory of the Iran war and whether inflation will fall as expected remain two major variables hanging over the bond market.