U.S. Long-term Interest Rates Now Move Independently of the Fed Funds Rate

When the base interest rate rises, long-term interest rates usually rise, and when it falls, they follow suit.

Textbooks generally say so.

However, U.S. long-term interest rates are gradually drifting away from this formula. As the Fed and foreign central banks, which used to absorb U.S. Treasuries, have stepped back, private investors—who are far more sensitive to interest rates—have filled the void. This has caused the 10-year yield to climb by 204bp since the Fed began tightening.

Why long-term interest rates were more volatile during the week the Fed raised rates

On September 16, the Fed raised the base interest rate by 0.25 percentage points to 3.75–4.00% annually. It was the first hike in three years since July 2023.

Yet, the market was most shaken the following week.

On the 23rd, the U.S. 10-year yield jumped over 13bp in a single day, hitting 5.104%. This is the highest level since July 2007.

It was a day where strong economic indicators, Brent crude oil prices topping $100, and expectations for an additional hike in October all converged. Amidst this, what caught my eye was the 5-year Treasury auction held the same day. $70 billion was offered, but the bid-to-cover ratio was 2.21 times, falling short of the recent six-auction average of 2.33 times. The share of indirect bidders, which includes foreign central banks and institutions, was 54%, well below the usual 65%.

“Who came to buy Treasuries?" can be a more significant number than the base rate announcement itself.

Coincidentally, the Korea Center for International Finance (KCIF) released a report on September 23 that addresses exactly this.

The 204bp rise in U.S. Treasury yields cannot be explained by Fed expectations alone

According to the KCIF report, “Examining the Impact of Changing U.S. Treasury Investment Entities on Long-term Interest Rates”, the 10-year yield, which was 2.91% on June 1, 2022, when the Fed began quantitative tightening (QT), climbed to 4.95% by September 21 of this year. The report attributes a significant portion of this rise to the burden of Treasury supply and demand.

The indicator cited as evidence is the Treasury-OIS spread.

OIS rates can be viewed as “interest rates that contain only market expectations for future policy rates."

Subtracting this from the yield on a Treasury of the same maturity leaves a remainder that cannot be explained by policy rate expectations. It is a premium added because too many Treasuries are flooding the market or because trading has become illiquid.

Changes in the 10-year Treasury-OIS spread showing the supply-demand burden of U.S. Treasury yields

Date	10-year Yield	Treasury-OIS (SOFR) Spread
2022.6.1 (QT start)	2.91%	21bp
2025.4 (Mutual tariff shock)	—	60bp (peak)
2026.9.21	4.95%	39bp

Looking at the numbers alone, 18bp seems small—less than one-tenth of the 204bp total.

However, the Fed’s QT already ended on December 1, 2025. If the premium hasn’t returned to the 21bp level even though the Fed is no longer reducing its Treasury holdings, the problem must lie with the buyers rather than the sellers.

Where have the big hands that used to buy U.S. Treasuries gone?

As of the second quarter of 2026, there are $30.9 trillion in U.S. Treasuries in the market. 68% are held by domestic U.S. investors, and 32% by foreign investors. The change highlighted by the report is that both domestic and foreign holdings have shifted from public to private hands.

Within the U.S., the Fed has stepped back.

Since 2022, as the Fed’s net buying of U.S. Treasuries turned negative, its holdings dropped from $6.1 trillion in early 2022 to $4.1 trillion in Q2 2026. The Fed’s share of domestic holdings was halved from 39.8% to 20.7%. The BIS estimated that for every $215 billion reduction in Fed Treasury holdings, long-term interest rates must rise by approximately 10bp for the private sector to absorb the difference.

Internationally, central banks have retreated.

The public sector’s share of foreign holdings dropped from 53.2% in early 2022 to 40.8% in July 2026, while the private sector’s share rose from 46.8% to 59.2%. This aligns with the earlier observation of low indirect bidder participation in the 5-year auction.

Private investors who are 13 times more sensitive determine U.S. Treasury prices

BIS estimates reveal a clear difference in behavior.

When interest rates rise by 100bp, the increase in demand for U.S. Treasuries is 19.3% for the foreign private sector, compared to 1.5% for the foreign public sector. The private sector is about 13 times more sensitive.

Why such a stark difference?

Central banks buy U.S. Treasuries to store foreign exchange reserves safely and liquidly rather than for profit. Even if rates are low or prices are volatile, they buy and hold them.

Private investors are different. Whether they are hedge funds or asset managers, they place U.S. Treasuries side-by-side with stocks, corporate bonds, and other sovereign debt to compare. As the report puts it, they only increase their holdings when U.S. Treasury yields become sufficiently higher than other assets.

Honestly, I initially thought the opposite.

If there are many price-sensitive customers, wouldn’t they rush to buy as soon as rates rise, thereby preventing rates from spiking? That is half right.

What was missing was the starting point.

In the past, price-insensitive buyers silently absorbed huge chunks of supply.

Once that bulk disappears, all additional Treasuries must be sold to people who care about value, and rates must rise until they decide these bonds are better than other assets for a trade to occur. Furthermore, the willingness of the private sector to buy changes frequently depending on stock prices, risk appetite, and borrowing conditions.

This is why the report is concerned about increased interest rate volatility.

A structure where U.S. long-term rates spike more as fiscal deficits grow

Not only has the nature of the buyers changed, but the volume is also set to increase.

According to Bloomberg projections cited in the report, the U.S. fiscal deficit as a percentage of GDP will grow from 6.3% in 2026 to 6.4% in 2027. This means more Treasuries must be issued.

The private sector is also coming out to borrow money. Private investment growth is expected to rise from 3.9% in 2026 to 4.4% in 2027, and to secure investment funds, corporate bond issuance is likely to increase. It is a picture where government Treasuries and corporate bonds are competing for the same private investor wallets.

Barclays believes that U.S. long-term interest rates will be driven as much by supply and demand factors—such as Treasury and corporate bond supply and private demand—as by monetary policy expectations.

The report’s conclusion is the same.

If supply increases while reliance on the private sector has grown, long-term interest rates may have to rise by a larger margin than in the past to absorb that volume.

In an era where base rates and long-term rates diverge, what should we watch?

The final warning in the report is as follows:

If the supply-demand burden for Treasuries continues, even if the Fed lowers the base rate later, long-term interest rates may not easily follow, and short-term and long-term interest rates may move on different paths.

Currently, the Fed has shifted toward a tightening stance, so both rates are looking in the same direction.

The probability of an additional hike in October reflected in the market has risen to 66.4%. However, the core point of this report is that one shouldn’t expect long-term interest rates to follow suit as obediently as before even if a rate-cutting cycle returns.

Since U.S. 10-year yields act as a benchmark for global bond yields, those considering long-term loans or bond investments can hardly dismiss this as someone else’s problem.

Therefore, when I look at interest rate news going forward, I plan to keep an eye on three things alongside the FOMC dates:

The bid-to-cover ratio and indirect bidder share of U.S. Treasury auctions, whether the 10-year Treasury-OIS spread moves from 39bp, and whether the fiscal deficit forecast for next year climbs above 6.4%.