Or asked another way; why is demand greater for long duration bonds vs. short?
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The general rule in finance is that more risk demands more reward. This manifests in a lot of different ways, but the way that matters for our discussion is tying up your money in an instrument is riskier the longer that instrument lasts. This makes sense, as if your money is tied up, you won’t get to use it on potentially lucrative investments that come along during the duration – you demand a higher interest rate for foregoing all of that opportunity.
This means that a normal yield curve sees interest rates go up the longer duration the investment is. A 3-year bond will have a lower interest rate than a 5-year, which will have a lower interest rate than a 10-year, and so on.
When you see an _inverted_ yield curve, that means that investors are afraid that there _won’t_ be lucrative investment opportunities in the future – when their investment matures in X years, the opportunities to reinvest will be few and far between. They are willing to accept lower interest rates _today_ because they are guaranteed that return for the duration.
A fear that there will not be good investments in the future is one _potential_ indicator that a recession in on the way. I stress potential, as an IYC is not proof positive that a recession is coming – it just means that bankers think that one _might_ be coming. There is an old joke in finance that the IYC as correctly predicted seven of the last four recessions.
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