How should I build a TIPS income ladder?

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Browser
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How should I build a TIPS income ladder?

Post by Browser » Sun Oct 06, 2013 5:57 am

I wish to set up a bond ladder by purchasing individual TIPS maturing in each of the next ten years. The objective is to provide a known real (inflation adjusted) income flow of $10,000 over each of the next ten years (selected for illustration). How exactly do I go about determining how many TIPS (approximately) to purchase with 1-10 year maturities? What will be the total amount of the lump sum investment I have to make now in order to set up this ladder? Thanks for your help.
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Re: How should I build a TIPS income ladder?

Post by YDNAL » Sun Oct 06, 2013 6:45 am

Browser wrote:I wish to set up a bond ladder by purchasing individual TIPS maturing in each of the next ten years. The objective is to provide a known real (inflation adjusted) income flow of $10,000 over each of the next ten years (selected for illustration). How exactly do I go about determining how many TIPS (approximately) to purchase with 1-10 year maturities? What will be the total amount of the lump sum investment I have to make now in order to set up this ladder? Thanks for your help.
It depends on your timeframe. Each year for 5 years buy five year bonds and ten year bonds. It goes like this:
  • 1. Goal to invest $100,000 in TIPS with $10,000 in TIPS maturing in each of 10 consecutive years beginning in 5 years.
    2. Each year for the next 5 years, buy $10,000 of five year TIPS and $10,000 of ten year TIPS.
    3. In 5 years you have $10,000 in TIPS maturing each year for the next 10 years.
The ladder can easily be extended, for instance, if you wanted a 20 year ladder also buy twenty year bonds. After 5 years you will have 15 years of the ladder. I recall that BobK published an article on this about 5-6 years ago.
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Re: How should I build a TIPS income ladder?

Post by Browser » Sun Oct 06, 2013 7:01 am

Thanks, but I'm interested in constructing the TIPS ladder right now by purchasing in the secondary market. Want to figure out how many bonds of each maturity to buy to produce, say, $10K real income over each of the next 10 years and what the total investment needs to be. It's my understanding that the current real interest rates need to be taken into consideration; i.e., because rates are negative out to about 6 years, those bonds will return less than the purchase amount in real dollars when they mature so more than 10 bonds would need to be purchased. For positive real rates, less than 10 bonds would need to be purchased. There may not be enough spread in the real rates from 1-10 years to make much difference for only $10K per year, but there would be a difference for much larger amounts; e.g., $100K per year desired real income, so that may be a more exact illustration to work with.
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Re: How should I build a TIPS income ladder?

Post by YDNAL » Sun Oct 06, 2013 7:39 am

Browser wrote:Thanks, but I'm interested in constructing the TIPS ladder right now by purchasing in the secondary market. Want to figure out how many bonds of each maturity to buy to produce, say, $10K real income over each of the next 10 years and what the total investment needs to be. It's my understanding that the current real interest rates need to be taken into consideration; i.e., because rates are negative out to about 6 years, those bonds will return less than the purchase amount in real dollars when they mature so more than 10 bonds would need to be purchased. For positive real rates, less than 10 bonds would need to be purchased. There may not be enough spread in the real rates from 1-10 years to make much difference for only $10K per year, but there would be a difference for much larger amounts; e.g., $100K per year desired real income, so that may be a more exact illustration to work with.
This is above my pay grade because I don't invest in TIPS and have never placed much interest in learning about their intricacies. Perhaps (or not) at some later point I will educate myself on these things. Sure, negative yields will impact your purchase. If I was interested, that is what I would use as guideline to build the ladder... per Treasury Direct:
Cusip 912828UX6, maturing 4/15/2018, yields -0.127% and priced at $102.179146 per $100
Cusip 912828VM9, maturing 7/15/2023, yields 0.50% and priced at $99.178464 per $100

It would seem, though, that you can build a bridge for the immediate five years until you build a forward 10-year ladder. After all, inflation is relatively controlled and TIPS protect against UNexpected and much higher inflation and my concern would be 5, 10, 15 years out. If I may ask: why specifically 10 years and what's the *rush* saying "right now by purchasing in the secondary market" ?
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Re: How should I build a TIPS income ladder?

Post by Browser » Sun Oct 06, 2013 9:58 am

The method to my madness is that I'm investigating a portfolio decumulation strategy I recently ran across in which the proponents advocate putting a portion of the portfolio into a 10-year TIPS bond ladder to cover income needs for 10 years, and then investing the remainder in a diversified equity portfolio to be left untouched. After the 10 years is up, rinse and repeat, and so forth. In order to implement this strategy, you would have to purchase the TIPS ladder at one point in time in the secondary market so I'm trying to look at how the required total dollar amount would have to be calculated.
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Re: How should I build a TIPS income ladder?

Post by Raybo » Sun Oct 06, 2013 10:09 am

If you do a search of the forum (upper right box that says Google in it) for "TIPS spreadsheet" you will find a lot of entries.

Check out this thread for a useful spreadsheet that does exactly what you want: http://www.bogleheads.org/forum/viewtop ... 10&t=93849
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Re: How should I build a TIPS income ladder?

Post by CyberBob » Sun Oct 06, 2013 10:11 am

The Incomeladders calculators look pretty interesting too.

Bob

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Re: How should I build a TIPS income ladder?

Post by #Cruncher » Sun Oct 06, 2013 10:32 am

Raybo wrote:Check out this thread for a useful spreadsheet that does exactly what you want: TIPS Ladder Spreadsheets in General & Two in Particular
I've just updated my spreadsheet discussed in the thread Raybo references to use WSJ TIPS prices 10/4/2013. You can set it up for the 10 year ladder you describe by
  1. Entering 10,000 for Desired Annual Real Amount;
  2. Blanking out the Years to Cover column for the Feb 2043 down thru the Jan 2025; and
  3. Entering 2023 in the Years to Cover column for the July 2023.
You'll then have a ladder made up of the April maturities from 2014 to 2018 and the July maturities from 2019 - 2023. (You can pick other months for each year if you wish.) It shows you need to buy 9 bonds for each year 2014 - 2020 and 10 bonds for each year 2021 - 2023. The total value of principal and interest in Oct 1, 2013 purchasing power is $100,744. The cost at current prices is $101,244.

You can download the spreadsheet from this web page: eyebonds.info/downloads/pages/TIPSLadder.html

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Re: How should I build a TIPS income ladder?

Post by bobcat2 » Sun Oct 06, 2013 10:38 am

I think you are trying to be over precise about this. You are worrying about the real interest rates being negative, but ignoring a larger factor. Each year's TIPS bond issue is in real term of that year's dollars. A TIPS bond issued in 2003 at maturity will be worth 1,000 in 2003 dollars. A TIPS bond issued in 2008 at maturity will be worth 1,000 in 2008 dollars. Because of cumulative inflation 1,000 in 2008 dollars is worth less than 1,000 in 2003 dollars, even if both bonds mature in the same year. Unless you are going to account for this second larger discrepancy, I wouldn't spend time worrying about the first.

My advice would be either adjust for both, or simply buy the same number of bonds for each year, or buy the same number of bonds for each year and make adjustments out of other safe assets such as Ibonds on a year by year basis at maturity. I would counsel against the complicated adjust for both method.

The above problem of TIPS real dollar amounts being different depending on the base year they were issued appears to be the primary reason we do not see zero coupon TIPS bonds. Those adjustments make construction of a zero coupon real bond considerably more complex than construction of a zero coupon nominal bond.

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Re: How should I build a TIPS income ladder?

Post by Browser » Sun Oct 06, 2013 10:40 am

Raybo wrote:If you do a search of the forum (upper right box that says Google in it) for "TIPS spreadsheet" you will find a lot of entries.

Check out this thread for a useful spreadsheet that does exactly what you want: http://www.bogleheads.org/forum/viewtop ... 10&t=93849
Thanks raybo! #Cruncher's spreadsheet looks like it is exactly what I was looking for. What a great tool. It looks like it is set up to do a 30-year ladder. Hopefully, he can chime in to advise how to use it for the 10-year ladder I'm interested in -- before I screw things up.
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Re: How should I build a TIPS income ladder?

Post by Raybo » Sun Oct 06, 2013 10:53 am

bobcat2 wrote:I think you are trying to be over precise about this. You are worrying about the real interest rates being negative, but ignoring a larger factor. Each year's TIPS bond issue is in real term of that year's dollars. A TIPS bond issued in 2003 at maturity will be worth 1,000 in 2003 dollars. A TIPS bond issued in 2008 at maturity will be worth 1,000 in 2008 dollars. Because of cumulative inflation 1,000 in 2008 dollars is worth less than 1,000 in 2003 dollars, even if both bonds mature in the same year. Unless you are going to account for this second larger discrepancy, I wouldn't spend time worrying about the first.
But, doesn't the bond's cumulative inflation factor adjust for this? If the 2003 TIPS 1000 face value was worth, say, 1500 in 2013 dollars, then the 2003 TIPS would have an inflation adjustment factor to cover this. While the bond would be more expensive, that is, all its inflation adjustment has to be purchased along with the bond's face value, it's value has been adjusted to today's value.

Or, are you talking about the fact that in 2013, buying a 2003 bond is some part face value and some part inflation factor?
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Re: How should I build a TIPS income ladder?

Post by Browser » Sun Oct 06, 2013 11:01 am

BobK - since TIPS throw off interest, the real annual cash flow produced has to take this into account. It would be great if there were zero-coupon TIPS that matured to a known inflation-adjusted principal value and that's all there was to it.
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Re: How should I build a TIPS income ladder?

Post by bobcat2 » Sun Oct 06, 2013 11:14 am

Raybo wrote:
bobcat2 wrote:I think you are trying to be over precise about this. You are worrying about the real interest rates being negative, but ignoring a larger factor. Each year's TIPS bond issue is in real term of that year's dollars. A TIPS bond issued in 2003 at maturity will be worth 1,000 in 2003 dollars. A TIPS bond issued in 2008 at maturity will be worth 1,000 in 2008 dollars. Because of cumulative inflation 1,000 in 2008 dollars is worth less than 1,000 in 2003 dollars, even if both bonds mature in the same year. Unless you are going to account for this second larger discrepancy, I wouldn't spend time worrying about the first.
But, doesn't the bond's cumulative inflation factor adjust for this? If the 2003 TIPS 1000 face value was worth, say, 1500 in 2013 dollars, then the 2003 TIPS would have an inflation adjustment factor to cover this. While the bond would be more expensive, that is, all its inflation adjustment has to be purchased along with the bond's face value, it's value has been adjusted to today's value.

Or, are you talking about the fact that in 2013, buying a 2003 bond is some part face value and some part inflation factor?
No. I buy a TIPS bond at auction this year. It will pay 1,000 in 2013 dollars at maturity. Inflation is 5% this year. Next year I buy a TIPS bond at auction. It will pay me 1,000 in 2014 dollars at maturity. That bond will be worth about 5% less at maturity than the earlier bond. A TIPS bond issued this year does not correct for last year's inflation, or for inflation two years ago, or for inflation the year before that, etc. TIPS bonds are adjusted to dollars in the year they are issued. They are not adjusted to today's value. Today $1,000 is worth - $1,000 :shock: .

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Re: How should I build a TIPS income ladder?

Post by Raybo » Sun Oct 06, 2013 12:19 pm

bobcat2 wrote: No. I buy a TIPS bond at auction this year. It will pay 1,000 in 2013 dollars at maturity. Inflation is 5% this year. Next year I buy a TIPS bond at auction. It will pay me 1,000 in 2014 dollars at maturity. That bond will be worth about 5% less at maturity than the earlier bond. A TIPS bond issued this year does not correct for last year's inflation, or for inflation two years ago, or for inflation the year before that, etc. TIPS bonds are adjusted to dollars in the year they are issued. They are not adjusted to today's value. Today $1,000 is worth - $1,000 .
While that is true, if held to maturity, shouldn't TIPS return the same inflation adjusted $1000 in value, even though the nominal amounts will be different? Also, two TIPS bought a year apart and held to maturity might well return the same amount of money. This would happen if the first year's inflation rate equaled the last year's rate (the missed first year's rate was equal to the inflation rate of the last year of the second one).

Isn't the whole purpose of TIPS to return $1000 of inflation adjusted value, no more and no less? If I buy a 2003 20 year TIP today, it will cost me more than $1000 but won't it still be worth an inflation adjusted $1000 (in today's dollars as all the previous inflation has been factored in) in 2023? Thus, if I want $1,000 of value in 2023 does it matter which TIPS I buy today, as long as it matures in 2023?
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Re: How should I build a TIPS income ladder?

Post by bobcat2 » Sun Oct 06, 2013 1:01 pm

While that is true, if held to maturity, shouldn't TIPS return the same inflation adjusted $1000 in value, even though the nominal amounts will be different?
If the nominal amounts received are different, then the real amounts received are different. It isn't, I will give you a $1,000 for this and $800 for that, but don't fret because in real terms you are receiving the same amount of money for the two items.

Isn't the whole purpose of TIPS to return $1000 of inflation adjusted value, no more and no less?
Yes, in terms of the year issued.

Here's another way to think about this in terms of I-bonds. Suppose I-bonds always have a real interest rate of zero. In 1998 I buy a $1,000 of I-bonds. In 2006 I buy another $1,000 of I-bonds. I sell all my I-bonds this year. While I receive the same dollar amount back for each of my two $1,000 purchases of I-bonds? No. I will receive more dollars for the $1,000 of I-bonds purchased in 1998 because those bonds receive inflation adjustments for the years 1998-2006 that my 2006 purchase doesn't receive.

The $1,000 purchase of I-bonds in 2006 is in terms of $1,000 of 2006 dollars, not 1998 dollars. Similarly, the $1,000 purchase of I-bonds in 1998 is in terms of $1,000 of 1998 dollars, not 2006 dollars. Neither is in terms of 2013 dollars. In 2013 a real dollar with base year 1998 is worth more than a real dollar with base year 2006.

A 1998 real dollar means that whatever year after 1998 I use that dollar it will have the same purchasing power as it had in 1998. A 2006 real dollar means that whatever year after 2006 I use that dollar it will have the same purchasing power as it had in 2006. If there is cumulative inflation between 1998 and 2006 those two dollars will be worth different amounts from 2006 on.

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Re: How should I build a TIPS income ladder?

Post by #Cruncher » Sun Oct 06, 2013 2:12 pm

Browser wrote:Hopefully, he can chime in to advise how to use it for the 10-year ladder I'm interested in ...
I've already chimed, Browser. :wink: Instructions are in this post above.
bobcat2 wrote:You are ... ignoring a larger factor. Each year's TIPS bond issue is in real term of that year's dollars. [For example] A TIPS bond issued in 2003 at maturity will be worth 1,000 in 2003 dollars. A TIPS bond issued in 2008 at maturity will be worth 1,000 in 2008 dollars.
You're correct, bobcat. But this is very easy to adjust for. For example, assume one is building a ladder that includes the year 2018. Here are the three TIPS that mature that year. Two were issued in 2008 and one was issued this year. Assuming one needs $17,000 in "current" (1) dollars for the 2018 rung, one simply divides the current principal value of each bond into $17,000 to determine how many bonds to buy. (2)

Code: Select all

                                            Ref CPI on    Principal      #       Total
   Matures    Coupon   Term   Dated Date    Dated Date    per  Bond    Bonds   Principal
  ---------   ------   ----   ----------    ----------    ---------    -----   ---------
  Jul-15-18   1.375%    10     Jul-15-08     215.63997     1,083.27      16      17,332  
  Apr-15-18   0.125%     5     Apr-15-13     231.16013     1,010.54      17      17,179
  Jan-15-18   1.625%    10     Jan-15-08     209.49645     1,115.04      15      16,726
  1. These figures are from my spreadsheet based on real dollars as of 10/1/2013 when the Ref CPI is 233.596. So for example, the "current" principal value of the July 2018 maturity = $1,000 X (233.596 / 215.63997) = $1,083.27. The Ref CPI values are available from Ref CPI 2008 and Ref CPI 2013. Or one can directly look up the "index ratios" which show the result of dividing the Ref CPIs here: Index Ratios All TIPS 10/1/13 - 10/15/13.
  2. In most cases one is forced to buy TIPS in $1,000 face value increments, so the actual principal value can't be exactly $17,000.

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Re: How should I build a TIPS income ladder?

Post by Aptenodytes » Sun Oct 06, 2013 2:25 pm

You need to consider the hassle factor with schemes such as this. If I were in your shoes I would approach the task a bit differently, ending up with almost everything you seek but with far less complexity.

1) For spending in the next five years, just continue to rely on what you've got -- I'm assuming a large fraction in bond funds as well as some index stock funds. Rely on dividends, return, principal if needed, just as you were going to do before you got the idea for a TIPS ladder. A ladder is not going to bring any substantial benefit over the next five years, as Landy points out.

2) Buy 5-year TIPS each year for the next five years, to cover spending in years 6-10.

3) Start buying 10-year TIPS each year and continue indefinitely, to cover spending in years 11 and onward.

You'll be sort of double-sequestering for the first five years, since you'll be buying both 5 and 10-year tips in the same years. But that will be mirrored at the end of your life with a period when you can stop buying 10-year TIPs and shift to fives (a 90-year-old doesn't really need 10-year TIPS). So all balances out.

I am about 10 years from retirement, and I'm doing something similar. I am buying approximately enough 10-year TIPS each year to cover estimated spending not met by SS. Because I'm starting before retirement, sticking to 10-year TIPS is sufficient to meet my needs.

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Re: How should I build a TIPS income ladder?

Post by bobcat2 » Sun Oct 06, 2013 2:34 pm

#Cruncher wrote:
bobcat2 wrote:You are ... ignoring a larger factor. Each year's TIPS bond issue is in real term of that year's dollars. [For example] A TIPS bond issued in 2003 at maturity will be worth 1,000 in 2003 dollars. A TIPS bond issued in 2008 at maturity will be worth 1,000 in 2008 dollars.
You're correct, bobcat. But this is very easy to adjust for. For example, assume one is building a ladder that includes the year 2018. Here are the three TIPS that mature that year. Two were issued in 2008 and one was issued this year. Assuming one needs $17,000 in "current" (1) dollars for the 2018 rung, one simply divides the current principal value of each bond into $17,000 to determine how many bonds to buy. (2)

Code: Select all

                                            Ref CPI on    Principal      #       Total
   Matures    Coupon   Term   Dated Date    Dated Date    per  Bond    Bonds   Principal
  ---------   ------   ----   ----------    ----------    ---------    -----   ---------
  Jul-15-18   1.375%    10     Jul-15-08     215.63997     1,083.27      16      17,332  
  Apr-15-18   0.125%     5     Apr-15-13     231.16013     1,010.54      17      17,179
  Jan-15-18   1.625%    10     Jan-15-08     209.49645     1,115.04      15      16,726
  1. These figures are from my spreadsheet based on real dollars as of 10/1/2013 when the Ref CPI is 233.596. So for example, the "current" principal value of the July 2018 maturity = $1,000 X (233.596 / 215.63997) = $1,083.27. The Ref CPI values are available from Ref CPI 2008 and Ref CPI 2013. Or one can directly look up the "index ratios" which show the result of dividing the Ref CPIs here: Index Ratios All TIPS 10/1/13 - 10/15/13.
  2. In most cases one is forced to buy TIPS in $1,000 face value increments, so the actual principal value can't be exactly $17,000.
Given that you have to do that for each year of the ladder and the bonds are in $1,000 increments, it doesn't seem to me that this will be that easy for most people. But going back to my initial point why is the OP worrying about negative interest rates when he not only doesn't adjust for this, but probably has never even thought about this. The fact is most people don't understand this, so how likely is it that they will adjust for it correctly. It seems to me getting this even roughly right is good enough.

BobK
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I bought a ladder using #Cruncher's spreadsheet

Post by Whiggish Boffin » Sun Oct 06, 2013 4:22 pm

Browser --

This summer, I used #Cruncher's spreadsheet to make an 8-year TIPS ladder, and then bought the ladder through Vanguard. The spreadsheet made a daunting task doable, and I am grateful for #Cruncher's service.

What Bobcat2 is saying is true, but #Cruncher's spreadsheet accounts for it. You want to buy a TIPS ladder as a one-time purchase on the secondary market, to cover 2014-2023. The spreadsheet will account for the inflation adjustments of all the bonds, and tell you how many to buy to get the desired purchasing power at maturity, and what that will cost you at present bond prices. The spreadsheet gives you a shopping list of how many bonds to buy of each CUSIP number.

Each year, you receive the principal of that year's rung, and the interest from the future rungs. The early rungs have older bonds that have seen more inflation adjustment to their principal, so they cost more and pay more at maturity. Thus, the early rungs with older bonds need fewer bonds than the later rungs with newer bonds.

Save the original spreadsheet, and experiment with a copy. The spreadsheet has an Instructions page. The instructions are exacting. Read them closely, and follow them carefully.

(If you're not looking at the spreadsheet, the following won't make much sense.)

Use the links in the instructions to download and paste the Wall Street Journal data on TIPS prices and Reference CPI's. On the spreadsheet's first page, enter the annual real-dollar amount, reference date, and reference CPI for your ladder's purchasing power. So, if you want your ladder to pay $50,00/year in terms of the 1 Jan. 2013 dollar, you'd enter:
$50,000 for Desired Annual Real Amount,
01-01-2013 for Real Dollar Base Date, and
229.10400 for Ref CPI on Base Date (That's taken from the Wall Street Journal Reference CPI page. It's the CPI for 1 Oct. 2012, because TIPS use a 3-month lag in reference dates. That's all in the instructions)

Set Purchase Size to 0, probably, because you'll have to buy your TIPS in $1,000 increments, not $100. (The rung values won't come out exact, but within $1k or so. Don't worry about it.)

Then, go to the Years to Cover column. Clear the contents of the bonds you don't want in your ladder. For each year year you want covered, enter it in the row of a bond maturing that year, or a range of years if the available maturities don't match your needs. In your case, you'd enter 2014 on a 2014 row (either CUSIP 912828CP3, ..KM1, or ..BW8). Continue, to 2021 on a 2021 row. There are no TIPS maturing in 2023, so you'd enter 2022-2023 in a 2022 row. You'd get two years' worth of TIPS maturing in 2022, to cover you for 2022 and 2023.

(I tried entering 2017, 2022 in the 2017 row, intending to roll the 2022 money from a maturing 2017 into a 5-yr 2022 at the 2017 auction. The spreadsheet won't take that.)

Choosing 10-year TIPS, the spreadsheet has you buying 35 bonds of the 2014 10-year (..CP3), 37 of the 2015 (..EA4), continuing up to 48 of the 2021 (..QV5), and 98 of the 2022 (..SA9) to cover the last two years. Total cost is ~$507k

Once I had the spreadsheet to my liking, I went to my Vanguard account. The Buy and Sell | Bonds and CDs | My Ladders page lets you enter the CUSIP and quantity from the #Cruncher spreadsheet, and gives you current prices, returns, YTM, etc. You can save several proposed ladders and reload them on future visits. There's a Buy button beside each rung, for when you're ready to purchase.

(Aptenodytes posted while I was writing this. His approach is sensible. If I had a secure job, ten years to go until retirement, and confidence that inflation will be low for a few years, I'd have done it his way. But my job has been hanging by a thread since 2007, my fear of inflation is born of starting my career in the late 1970s, and I'm glad I have whole ladder right now. I could be wrong.)

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Re: How should I build a TIPS income ladder?

Post by LH » Sun Oct 06, 2013 4:31 pm

Neat thread.

For those who have done it in reality at an actual point in time:

Please post what you in reality bought to construct your tips ladder. Its always good to see pedal to the medal application. Kinda like posting ones actual AA composition.

Thanks,

LH

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LH wants to see our ladders. Here's mine.

Post by Whiggish Boffin » Sun Oct 06, 2013 5:43 pm

Very well --

I wanted $45k/year in 2012 dollars, for eight years from 2014 to 2021. I used the #Cruncher spreadsheet to make my shopping list. On 19 July, I bought
33 x 10-year 2014 TIPS (912828CP3, 2.000%) for $42,290, ytm -1.741%
34 x 10-year 2015 TIPS (912828EA4, 1.875%) for $43,571, ytm -1.603%
36 x 10-year 2016 TIPS (912828FL9, 2.500%) for $46,436, ytm -1.387%
38 x 10-year 2017 TIPS (912828GX2, 2.625%) for $49,056, ytm -1.026%
41 x 10-year 2018 TIPS (912828JE1, 1.375%) for $48,956, ytm -0.761%
41 x 10-year 2019 TIPS (912828LA6, 1.875%) for $51,224, ytm -0.516%
43 x 10-year 2020 TIPS (912828NM8, 1.250%) for $50,820, ytm -0.265%
45 x 10-year 2021 TIPS (912828QV5, 0.625%) for $49,087, ytm -0.059%

So, I paid S381,518 total, to get back $360,000 in 2012 purchasing power over 8 years. Thus, I paid $21k for eight years of inflation protection. Was this unwise? Please discuss.

Every year that I can hang onto a job, even at half my present pay, I can roll that years' rung to a 2022 TIPS. I'll claim Social Security in 2022 at age 70. I will also buy an SPIA with CPI rider, to top up Social Security to $45k/year in 2012 dollars. This will secure me in genteel poverty as long as I live, and if I get stupid I'll only have to manage two monthly checks. This is consistent with Zvi Bodie's approach that Bobcat2 has often told us about -- use minimum-risk investments to guarantee basic needs, and restrict risky investments to funding aspirational goals.

My nest egg, including the ladder, is almost all in tax-deferred retirement accounts. I won't have to pay the TIPS phantom inflation tax until I withdraw.

The ladder is almost half my nest egg. The rest is in a Swensen allocation. (That's 30% US stock index, 15% developed-world index, 10% emerging-market index, 15% US real estate, 15% nominal Treasury bonds, 15% TIPS.) I can buy some toys, treats, and trips with that, so I'll probably be better off than genteel poverty. But it's good to know I won't do any worse.

(Edited, in response to LH's prod, to show negative yield-to-maturity on every blasted bond.)
Last edited by Whiggish Boffin on Sun Oct 06, 2013 8:40 pm, edited 2 times in total.

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Re: How should I build a TIPS income ladder?

Post by Browser » Sun Oct 06, 2013 5:52 pm

Wow! Thanks for all the help, foremost to #Cruncher for the great spreadsheet tool, and a nod to Whiggish Boffin for the great detailed info regarding how you used it to do what I'm trying to do. If I've forgotten to mention anyone who helped me reach this pinnacle of knowledge, my apologies -- you know who you are. :wink:
We don't know where we are, or where we're going -- but we're making good time.

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Re: LH wants to see our ladders. Here's mine.

Post by LH » Sun Oct 06, 2013 5:56 pm

Whiggish Boffin wrote:Very well --

I wanted $45k/year in 2012 dollars, for eight years from 2014 to 2021. I used the #Cruncher spreadsheet to make my shopping list. On 19 July, I bought
33 x 10-year 2014 TIPS (912828CP3, 2.000%) for $42,290
34 x 10-year 2015 TIPS (912828EA4, 1.875%) for $43,571
36 x 10-year 2016 TIPS (912828FL9, 2.500%) for $46,436
38 x 10-year 2017 TIPS (912828GX2, 2.625%) for $49,056
41 x 10-year 2018 TIPS (912828JE1, 1.375%) for $48,956
41 x 10-year 2019 TIPS (912828LA6, 1.875%) for $51,224
43 x 10-year 2020 TIPS (912828NM8, 1.250%) for $50,820
45 x 10-year 2021 TIPS (912828QV5, 0.625%) for $49,087

So, I paid S381,518 total, to get back $360,000 in 2012 purchasing power over 8 years. Thus, I paid $21k for eight years of inflation protection. Was this unwise? Please discuss.

Every year that I can hang onto a job, even at half my present pay, I can roll that years' rung to a 2022 TIPS. I'll claim Social Security in 2022 at age 70. I will also buy an SPIA with CPI rider, to top up Social Security to $45k/year in 2012 dollars. This will secure me in genteel poverty as long as I live, and if I get stupid I'll only have to manage two monthly checks. This is consistent with Zvi Bodie's approach that Bobcat2 has often told us about -- use minimum-risk investments to guarantee basic needs, and restrict risky investments to funding aspirational goals.

My nest egg, including the ladder, is almost all in tax-deferred retirement accounts. I won't have to pay the TIPS phantom inflation tax until I withdraw.

The ladder is almost half my nest egg. The rest is in a Swensen allocation. (That's 30% US stock index, 15% developed-world index, 10% emerging-market index, 15% US real estate, 15% nominal Treasury bonds, 15% TIPS.) I can buy some toys, treats, and trips with that, so I'll probably be better off than genteel poverrty. But it's good to know I won't do any worse.
Thanks for the reply, very much appreciated.

The concept is a bit alien to me, I would have to chew on it to come up with a lightly held guess as to say if its unwise or not. Paid 381K to get back 360K real.......

33 x 10-year 2014 TIPS (912828CP3, 2.000%) for $42,290

so that 2.000% rate, is not the rate you receive, its the posted rate on the bond, so in general, you are recieving negative rates then to get the 381K converted down to 260K.

On that bond, what is the real rate you recieve when you bought it? how do you calculate it?

I think I remember talk a couple years ago about tips ladder being used to generate real return safely, or "risk free". Times change quick. Good to see how they are actually being put to use, to achieve negative real return, but some safety, and not 100 percent TIPS ladders, but in conjunction with traditional passive indexing portfolios, which have some possibility of achieving some real return. Examples previously where kinda lax, in terms of the postulated 100 percent TIPS portfolio, as hard to achieve return from negative real rates.

Good to see the pedal hit the metal in reality, and what that means. You seem to have thought it through in hard numbers 381K to get back 360K via a TIPS ladder.

CPI-u may not be your inflation rate, but I suspect you know this already, would be the main risk caveat. So there is real risk there as well. I have been, and still am, highly uncertain about 100 percent TIPS ladders, and even your approach of 50 percent tips ladders.

Its just unclear to me, and appears uncertain to me, how that CPI-U, (even if its not changed to chained cpi etc, there is risk of that, it might not even be the cpi-u as we know it now) is going to correlate to your inflation..... There is uncertain certainty there in TIPS in my opinion. I am glad though, that the real risk showed up early (in the negative rates of tips ladders now) versus years down the road, where people would have been going 100 percent TIPS with expectation of getting "risk free" TIP Ladder return, and having to roll into negative TIPS in reality, having given up on the market expectated rate of return via passive indexing for a nonexistant "risk free" 100 percent TIPS ladder approach. Imagine someone who had planned on bare minimum, 100 percent tips ladder, for 40 years, then hit the negative rate time, and fell below their bare minimum "risk free guarantee".... Not a pretty picture. Thankfully, more information is now extant. To me, this clearly parallels the "guaranteed" private annuity income stream over 30 years. I expect to be reading about some sad stories in the next tens of years.

But you have it down, seems a reasonable mixed approach on first glance, to my current state of knowledge. Only kicker is cpi-u versus your inflation, also versus an "Argentinian 2013" approach to government stated inflation rates. Boy would I hate to be holding "Argentinian TIPS" using Argentinian official inflation rate eh? But we are in USA, for what that is worth, and your ladder is only 8 years long. And hopefully the current messing with the cpi calcs, ends with the cpi-u to chained cpi recent change (to some other rate maybe SS?), only took what, .1 percent point a year away (very hazy recollection).

Thanks again for the reply,

LH

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Re: How should I build a TIPS income ladder?

Post by Whiggish Boffin » Sun Oct 06, 2013 8:27 pm

LH--

I edited my last post, to show the yield-to-maturity (ytm) of the TIPS when I bought them. The #Cruncher spreadsheet and the Vanguard "My Ladders" page show the ytm of each bond and of the whole ladder. I took their word for it and didn't calculate ytm for myself.

Yes, every last one of the bonds has negative ytm. I was queasy about buying the ladder at negative ytm -- the point of investing is to get positive yields, isn't it? Of course the best strategy would have been to buy sooner when ytm was positive, but I was just learning about balanced indexed portfolios then -- missed my chance. Maybe I should have waited for better ytm, but that would be market timing, and yields might not go up for a while. They're more negative now than when I bought.

So, maybe I did the best I could at the time, and for some time to come.

You are leery of calling the income from a TIPS ladder "risk-free". I agree. I called it "minimum-risk". Do you agree? Granting that all the bad things you mention could happen (negative-yield TIPS, dummied CPI-U, failing SPIAs, Argentine inflation) -- what would have been safer? (Not a rhetorical question -- I'd like to know your thoughts.)

Seems to me, if the real economy isn't productive, portfolio selection won't make up for it. Other measures are necessary. In Bernstein's Devastation or Confiscation scenarios, I'd be in bad shape, and I'd have lots of company. (See Kipling, "The Gods of the Copybook Headings", verse 6.) (Also Ferfal the Argentine apocalypse-survival guy?)

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Re: How should I build a TIPS income ladder?

Post by #Cruncher » Sun Oct 06, 2013 9:36 pm

Whiggish Boffin wrote:This summer, I used #Cruncher's spreadsheet to make an 8-year TIPS ladder, ... and I am grateful for [his] service.
Thanks for the kind words, WB; I'm glad you found it useful. And thank you for taking the time to provide instructions based on your experience.
Whiggish Boffin wrote:if you want your ladder to pay $50,00/year in terms of the 1 Jan. 2013 dollar, you'd enter: ... 01-01-2013 for Real Dollar Base Date, and 229.10400 for Ref CPI on Base Date. It's the CPI for 1 Oct. 2012, because TIPS use a 3-month lag in reference dates.
To value your TIPS in Jan 1, 2013 dollars, you should enter the Ref CPI for 1/1/2013, not the one for 10/1/2012. It is 231.317 from Ref CPI for 2013 which is the same as the October 2012 CPI from CPI-U Since 1961. This will not materially effect your ladder: When I use 231.317 on a version of the spreadsheet with your holdings, the "Real (01/01/2013) Dollars Collected" total $368,961, a little more than $360,000.
Whiggish Boffin wrote:There are no TIPS maturing in 2023, so you'd enter 2022-2023 in a 2022 row. You'd get two years' worth of TIPS maturing in 2022, to cover you for 2022 and 2023.
There are TIPS issued this year that mature in January and July 2023. But I was lazy and didn't add them to the spreadsheet until last month.
Whiggish Boffin wrote:(I tried entering 2017, 2022 in the 2017 row, intending to roll the 2022 money from a maturing 2017 into a 5-yr 2022 at the 2017 auction. The spreadsheet won't take that.)
That is certainly a good method. But you're right that the spreadsheet can't handle it. If I have some time and can think of a good user interface, maybe I'll modify it to accept rollovers like that.
Whiggish Boffin wrote:So, I paid S381,518 total, to get back $360,000 in 2012 purchasing power over 8 years. Thus, I paid $21k for eight years of inflation protection. Was this unwise? Please discuss.
Not at all unwise, in my opinion. You have to accept what the market offers. If you want to avoid credit risk and inflation risk, you need TIPS. If you want to also avoid interest rate risk, you need short-term TIPS. Currently these have negative yields. So be it. My only suggestion might be to consider taking some more risk in your other fixed income investments.

Code: Select all

   Safe   Speculative     Total
  -----   -----------    ------
   -          35.0%       35.0%   Stocks including Real Estate
   -           7.5%        7.5%   Nominal Treasury bonds
  50.0%        7.5%       57.5%   TIPS
  -----   -----------    ------
  50.0%       50.0%      100.0%   Total
I would probably move the 15% in nominal Treasuries and TIPS in the "speculative" half of my portfolio into investment grade corporate bonds -- or municipals if held in a taxable account.
Whiggish Boffin wrote:Yes, every last one of the bonds has negative ytm. I was queasy about buying the ladder at negative ytm ... Maybe I should have waited for better ytm ... They're more negative now than when I bought.
Actually yields are slightly higher now (maybe 0.1% - 0.3% points) according to the WSJ TIPS Quotes 7/19/2013 and 10/04/2013. But you shouldn't fret. An 8 year ladder has an average duration of about 4 years, and therefore not much sensitivity to rising interest rates.

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Re: How should I build a TIPS income ladder?

Post by Browser » Mon Oct 07, 2013 10:57 am

Whiggish Boffin wrote:LH--

Yes, every last one of the bonds has negative ytm. I was queasy about buying the ladder at negative ytm -- the point of investing is to get positive yields, isn't it? Of course the best strategy would have been to buy sooner when ytm was positive, but I was just learning about balanced indexed portfolios then -- missed my chance. Maybe I should have waited for better ytm, but that would be market timing, and yields might not go up for a while. They're more negative now than when I bought.
Here's the way I see this. Yes, it would have been better to buy sooner when YTM was positive. But only because the cost of your ladder would have been lower than after yields declined. If you had bought when real yields were higher, guess what? Those same bonds now have a lower (negative) YTM from this point forward. The bonds are the same bonds either way - the ones purchased at low/negative yields are not "tainted" in some way. If you wanted to own them to provide a known real income stream that's what they will do, regardless of what the YTM is at the time of purchase. The difference is that you paid more for an equivalent amount of them when the yields went lower than you would have when they were higher.

Had you bought them when yields were higher (as I did set up a TIPS ladder when the yields spiked up in 2008-09), you would have the dilemma of holding onto them, now that their yields have dropped, vs. selling them to realize the capital gains. It amounts to holding onto bonds that you know are worth a lot more than you paid for the benefit of a puny real yield from this point forward. Holding onto them is equivalent to the same decision as buying them now if I didn't already own them. (Remember - a decision to hold an existing investment is the same as the decision to buy that investment now).
We don't know where we are, or where we're going -- but we're making good time.

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Re: How should I build a TIPS income ladder?

Post by grayfox » Tue Oct 08, 2013 11:59 am

Fantastic spreadsheet! I downloaded it and ran it under OpenOffice.org Calc.

Just for fun I put in $40,000 for Desired Annual Real Amount.
Using 04-Oct-2013 WSJ Quotes. It calculated Total Cost of Ladder $1,040,097

So would that be a 40,000 / 1,040,097 = 0.038458 = 3.8458% Safe Withdrawal Rate?

It would be interesting to see how this fluctuates over time as real interest rates change.

:thumbsup Good work!

Edit: I updated to the latest the WSJ quote to Monday, October 07, 2013
Total Cost of Ladder $1,042,857
The ladder got a little more expensive since Oct 04, 2013.

:?: Wait. Where do you get Ref CPI on WSJ Quote Date?

Here? http://www.treasurydirect.gov/instit/an ... hiscpi.htm

October 7, 2013 Ref CPI is 233.65939
That changes the Total Cost of Ladder to $1,042,979

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Re: How should I build a TIPS income ladder?

Post by #Cruncher » Tue Oct 08, 2013 1:14 pm

Glad you liked the spreadsheet, grayfox. And good to know it works with Open Office.
grayfox wrote:It calculated Total Cost of Ladder $1,040,097 ... So would that be a 40,000 / 1,040,097 = 0.038458 = 3.8458% Safe Withdrawal Rate?
It's only safe if you don't live past the last year of the ladder. :wink:
grayfox wrote:Where do you get Ref CPI on WSJ Quote Date? Here? www.treasurydirect.gov/instit/annceresu ... hiscpi.htm ... October 7, 2013 Ref CPI is 233.65939
Yes, you can get it from there. Or you can get it from TreasuryDirect's monthly sheet for each outstanding TIPS listed on this web page. But I prefer to get them from Ref CPI 2013. By the way on 10/7/13 it is 233.65039, not 233.65939. (That's why I always copy and paste!)

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Re: How should I build a TIPS income ladder?

Post by 1210sda » Sun Mar 30, 2014 7:18 pm

YDNAL wrote:It depends on your timeframe. Each year for 5 years buy five year bonds and ten year bonds. It goes like this:
  • 1. Goal to invest $100,000 in TIPS with $10,000 in TIPS maturing in each of 10 consecutive years beginning in 5 years.
    2. Each year for the next 5 years, buy $10,000 of five year TIPS and $10,000 of ten year TIPS.
    3. In 5 years you have $10,000 in TIPS maturing each year for the next 10 years.
The ladder can easily be extended, for instance, if you wanted a 20 year ladder also buy twenty year bonds. After 5 years you will have 15 years of the ladder. I recall that BobK published an article on this about 5-6 years ago.
Couple of questions:
1. I can't find any reference currently to 20 yr tips bonds. Are they still available ?
2. For 30yr time frame, can I just continue buying 5 and 10 yr tips? Are they available every year?
3. Can it be done with only 5 yr tips? (for the 30 yr horizon)
4. Is it really that simple? If so, maybe I don't need a spreadsheet. Maybe?

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Re: How should I build a TIPS income ladder?

Post by #Cruncher » Sun Mar 30, 2014 11:06 pm

1210sda wrote:
YDNAL wrote:It depends on your timeframe. ...
Couple of questions:
1. I can't find any reference currently to 20 yr tips bonds. Are they still available ?
2. For 30yr time frame, can I just continue buying 5 and 10 yr tips? Are they available every year? ...
Unfortunately 20-year TIPS haven't been issued since 2009. (See 20-year TIPS Auctions.) This makes it harder to construct a ladder of 20 or more years. Currently the Treasury issues only 5, 10, and 30 year TIPS with the following schedule.

Code: Select all

  10-year maturing in January  issued in January  reissued March     & May
  30-year maturing in February issued in February reissued June      & October
   5-year maturing in April    issued in April    reissued August    & December
  10-year maturing in July     issued in July     reissued September & November
For the tentative auction dates see the Tentative Auction Schedule of U.S. Treasury Securities PDF file. TIPS auctions are highlighted in blue. Upon announcement the official auction date will be shown on Upcoming Auctions.

To build a 30-year ladder you must purchase 30-year bonds; it can't be done with only 5 or 10 year maturities. You could construct this ladder buying only at auction; but it would take 20 years. Say you want a 30-year ladder with $R real principal maturing each year. For the next 20 years you'd buy $R of a 30-year TIPS at auction. Beginning in 10 years and continuing for the next 10 years, you'd also buy $R of a 10-year TIPS at auction. At the end of this 20 year period, you'd have $R of principal maturing each year for the next 30 years.

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Re: How should I build a TIPS income ladder?

Post by Bill M » Mon Mar 31, 2014 6:57 am

1210sda wrote: 4. Is it really that simple? If so, maybe I don't need a spreadsheet. Maybe?
If you are buying the ladder over time, like at successive or annual auctions, a spreadsheet is definitely helpful. The reason is that the number of bonds to purchase increases over time.

As a simple example, if I want $10K in TIPS in each of the next 10 years, and inflation is currently 10% -- buy $10K now, next year buy $11K, year after that buy $12.1K, etc. The par value of your investment in each issue would then be equal.

As a more realistic example, look at the Ref-CPI figure from the offering announcement of the first issue in the ladder, and calculate Q=$10K/RefCPI. Remember this quotient; at the following auctions, the amount to purchase is Q*RefCPI. A spreadsheet certainly makes this calculation easier.

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Re: How should I build a TIPS income ladder?

Post by Artsdoctor » Mon Jun 30, 2014 9:16 pm

Superb work, #cruncher.

Those years without maturing bonds are very difficult to work around, especially the 7-year stretch.

And right now, buying the ladder would be mighty expensive. But to phase in, your spreadsheet is indispensable.

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