diff --git a/src/llama_stack/core/utils/context.py b/src/llama_stack/core/utils/context.py
index 87ad553e9..e7c61a8ed 100644
--- a/src/llama_stack/core/utils/context.py
+++ b/src/llama_stack/core/utils/context.py
@@ -7,6 +7,8 @@
 from collections.abc import AsyncGenerator
 from contextvars import ContextVar
 
+from llama_stack.core.telemetry.tracing import CURRENT_TRACE_CONTEXT
+
 _MISSING = object()
 
 
@@ -26,7 +28,8 @@ def preserve_contexts_async_generator[T](
             previous_values: dict[ContextVar, object] = {}
             tokens: dict[ContextVar, object] = {}
 
-            # Restore context values before any await and capture previous state
+            # Restore ALL context values before any await and capture previous state
+            # This is needed to propagate context across async generator boundaries
             for context_var in context_vars:
                 try:
                     previous_values[context_var] = context_var.get()
@@ -52,11 +55,13 @@ def preserve_contexts_async_generator[T](
             try:
                 item = await gen.__anext__()
             except StopAsyncIteration:
-                # Restore context vars before exiting to prevent leaks
+                # Restore all context vars before exiting to prevent leaks
+                # Use _restore_context_var for all vars to properly restore to previous values
                 for context_var in context_vars:
                     _restore_context_var(context_var)
                 break
             except Exception:
+                # Restore all context vars on exception
                 for context_var in context_vars:
                     _restore_context_var(context_var)
                 raise
@@ -64,11 +69,16 @@ def preserve_contexts_async_generator[T](
             try:
                 yield item
                 # Update our tracked values with any changes made during this iteration
+                # Only for non-trace context vars - trace context must persist across yields
+                # to allow nested span tracking for telemetry
                 for context_var in context_vars:
-                    initial_context_values[context_var.name] = context_var.get()
+                    if context_var is not CURRENT_TRACE_CONTEXT:
+                        initial_context_values[context_var.name] = context_var.get()
             finally:
-                # Restore context vars after each yield to prevent leaks between requests
+                # Restore non-trace context vars after each yield to prevent leaks between requests
+                # CURRENT_TRACE_CONTEXT is NOT restored here to preserve telemetry span stack
                 for context_var in context_vars:
-                    _restore_context_var(context_var)
+                    if context_var is not CURRENT_TRACE_CONTEXT:
+                        _restore_context_var(context_var)
 
     return wrapper()