Short vs long TIPS inflation protection

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FlyingMoose
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Short vs long TIPS inflation protection

Post by FlyingMoose » Wed Apr 15, 2020 7:00 pm

I need some help understanding how the duration of tips affects their inflation protection.

I understand that regular bonds are more affected by interest rate changes if they have longer duration.

I have thought of TIPS as being regular bonds (where their duration affects interest rate sensitivity) plus an inflation adjustment that is unaffected by duration.

However, people here have said that TIPS only protect against unexpected inflation. I'm trying to get my head around this.

Does expected inflation cause the change NAV to change? (I would expect so, since they would be in more demand and fetch higher prices if people expect the inflation to continue).

But I am unclear on how this is affected by duration. Do the longer-duration TIPS provide better inflation protection? For example, does the short-term TIPS fund (average duration 2.6 years) only protect against inflation in the next 2.6 years because the bonds would roll over into bonds that are more expensive due to the higher expected inflation? The same way as a shorter-term CD only protects you against lower interest until it expires and renews at the new lower rate?

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Phineas J. Whoopee
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Re: Short vs long TIPS inflation protection

Post by Phineas J. Whoopee » Wed Apr 15, 2020 7:39 pm

All TIPS of all durations are adjusted for inflation by the same amounts on the same schedule. A portfolio of shorter-term TIPS, if maintained, offers just as much inflation protection as a portfolio of longer-term ones.

As you say, the market values of longer-term TIPS are more affected by changes in real yields than are shorter-term ones, as a person would expect from fixed income securities. They also have higher longer-term expected real returns, as one would imagine.

You pays your money and you takes your choice. One can choose a mixture, if one has a particular duration preference between the longer- and shorter-term.

PJW

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FlyingMoose
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Re: Short vs long TIPS inflation protection

Post by FlyingMoose » Wed Apr 15, 2020 8:23 pm

If the price of TIPS doesn't change based on inflation, why do the prices of TIPS fluctuate so much more than regular bonds? Are you saying that the expectation of future inflation has no influence on the price?

If so, why do TIPS supposedly protect against unexpected inflation?

You say that short term TIPS protect against inflation the same as long term TIPS. If those long-term TIPS cost more (lower real yield, as is currently the case), how can they protect as well as the short-term TIPS? By definition, they will return less real interest and thus not keep up with inflation as well.

I think that your assertion that they're all adjusted for inflation by the same amount doesn't take changes in NAV into account.

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Re: Short vs long TIPS inflation protection

Post by Dude2 » Wed Apr 15, 2020 9:44 pm

Here's a nice paper to read...
The long and short of TIPS.

TIPS do protect against unexpected inflation. That part is easy to understand. What is more difficult is the concept that TIPS are bonds that are concerned with real rates. We have to wrap our heads around what that even means. Apparently real rates aren't like our normal perception of what we consider interest rates, i.e. the 10 year treasury is paying 2% and long ago was paying 5%, etc. -- the typical yield curve that normally pays higher at longer duration versus shorter. Real rates in contrast just tend to stay flat for huge periods of time and have something to do with the economy as a whole. To grasp TIPS, it is better to translate yourself into a real universe versus a nominal one.
The amount of physical investment—in particular the purchasing of new machines and other productive capacity—that firms engage in depends on the level of real interest rates, because such purchases typically must be financed by issuing new bonds. If real interest rates are high, the cost of borrowing may exceed the real physical return of some potentially purchased machines (in the form of output produced); in that case those machines will not be purchased. Lower real interest rates would make it profitable to borrow to finance the purchasing of a greater number of machines.
When the real rate of interest is high, because demand for credit is high, then the usage of income will, all other things being equal, move from consumption to saving, and physical investment will fall. Conversely, when the real rate of interest is low, income usage will move from saving to consumption, and physical investment will rise.
https://en.wikipedia.org/wiki/Real_interest_rate#Importance_in_economic_theory

We might consider that longer TIPS would need to pay a higher real rate than short issues to make them attractive to investors (otherwise, why would they bother with long issues), but since the real yield curve can be flat for generations, that's probably not the case. Instead, it is more likely the long issues are attractive to insurance companies, pension funds, etc. where they are obligated to buy them.

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watchnerd
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Re: Short vs long TIPS inflation protection

Post by watchnerd » Wed Apr 15, 2020 10:11 pm

When it comes to NAV fluctuations, shorter duration TIPS funds exhibit more pure CPI exposure, while longer durations drown out the CPI exposure with interest rate noise.
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Re: Short vs long TIPS inflation protection

Post by Dominic » Wed Apr 15, 2020 11:02 pm

watchnerd wrote:
Wed Apr 15, 2020 10:11 pm
When it comes to NAV fluctuations, shorter duration TIPS funds exhibit more pure CPI exposure, while longer durations drown out the CPI exposure with interest rate noise.
If I understand correctly, short-term TIPS are more correlated with the inflation rate than long-term TIPS are, but their inflation protection is identical.

I imagine this makes short-term TIPS preferable, since they're as close to "pure inflation exposure" as one can get. Not sure if I'm missing an advantage of long-term TIPS.

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Phineas J. Whoopee
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Re: Short vs long TIPS inflation protection

Post by Phineas J. Whoopee » Wed Apr 15, 2020 11:30 pm

Dominic wrote:
Wed Apr 15, 2020 11:02 pm
watchnerd wrote:
Wed Apr 15, 2020 10:11 pm
When it comes to NAV fluctuations, shorter duration TIPS funds exhibit more pure CPI exposure, while longer durations drown out the CPI exposure with interest rate noise.
If I understand correctly, short-term TIPS are more correlated with the inflation rate than long-term TIPS are, but their inflation protection is identical.

I imagine this makes short-term TIPS preferable, since they're as close to "pure inflation exposure" as one can get. Not sure if I'm missing an advantage of long-term TIPS.
Others have helped with your questions since my first comment in this thread. Let me go a little further based on your most recent post here.

What I'm about to write is a tautology, but I'm using it to introduce something further. Whether short-term TIPS are preferable depends on what you prefer.

Yes, shorter-term TIPS are in fact more closely correlated with realized inflation year to year, but they're not very closely correlated once a person takes coupons, reinvestment of coupons, changes in face value, and changes of market value into account. If one expects close yearly tracking, most years one will be disappointed.

Closer is not the same as especially close.

If one has a long investment horizon, as many of us here do, longer-term TIPS probably will yield higher real returns. They're not guaranteed to do it over any particular interval, but over periods of quite a few years most likely they will.

If one has shorter-term spending needs, and the expenses are affected by inflation, then for at least a portion of the portfolio shorter-term TIPS may be appropriate.

Both are equally protected against inflation, as I wrote upthread. If one prefers closer, but not particularly close, correlation shorter-term TIPS are better. If one prefers protection but doesn't care very much about correlation, for at least a portion of their portfolio, then longer-term ones are very much worth consideration. If it's in between, a person could dial in a desired average real duration by mixing the two.

I hope that helps. If it didn't, or if it prompts new questions, please by all means say so and I'll try again.

PJW

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Re: Short vs long TIPS inflation protection

Post by Northern Flicker » Wed Apr 15, 2020 11:38 pm

TIPS protect against all inflation (when their yield is non-negative, unlike today). When people say TIPS protect against unexpected inflation what they mean is that nominal bonds protect against expected inflation. TIPS protect against both expected and unexpected inflation,

Of course when a TIPS yield is negative, it will reduce the inflation correction instead of enhancing it. But nominal bonds won’t help with that. They will just have a negative expected real yield instead of a deterministic negative real yield.
Last edited by Northern Flicker on Thu Apr 16, 2020 2:06 pm, edited 1 time in total.
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Phineas J. Whoopee
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Re: Short vs long TIPS inflation protection

Post by Phineas J. Whoopee » Wed Apr 15, 2020 11:55 pm

Northern Flicker wrote:
Wed Apr 15, 2020 11:38 pm
TIPS protect against all inflation (when their yield is non-negative, unlike today). When people say TIPS protect against unexpected inflation what they mean is that nominal bonds protect against expected inflation. TIPS protected both expected and unexpected inflation,

Of course when a TIPS yield is negative, it will reduce the inflation correction instead of enhancing it. But nominal bonds won’t help with that. They will just have a negative expected real yield instead of a deterministic negative real yield.
I agree with Northern Flicker, but would like to add, with respect to the underlined words, the TIPS yield in question is real, that is to say, the inflation-adjusted yield. As Northern Flicker wrote, expected real yields of TIPS and other Treasuries of similar duration are about the same. Which one ends up ahead once they finally mature depends on inflation that in fact happens, something we can't know in advance. That's the difference between expected and unexpected inflation. The former is built into nominal Treasury prices as they're initially auctioned. The latter is what ends up happening.

There are arguments around the edges, but for normal purposes one should suppose expected real TIPS yields and other similar Treasury real yields are about the same. We won't know the outcome until the outcome has occurred.

PJW

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FlyingMoose
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Re: Short vs long TIPS inflation protection

Post by FlyingMoose » Thu Apr 16, 2020 12:18 am

I see. I got the impression from reading other threads about TIPS that the NAV will change with expected inflation in such a way as to cancel out the adjustment (in the same way that the NAV of regular bonds compensates for interest rate changes).

If inflation was 2% but everyone expected it to be 5% next year, wouldn't they buy TIPS, thus driving up the NAV (and driving down the real interest rate) until it compensates for this expected future income? Or are they a free lunch, where the NAV doesn't change with expected future inflation?

In other words, what's the point of buying TIPS now and not waiting until inflation goes up, if the real interest rate paid by TIPS isn't influenced by future inflation expectations?

Also, the real yield listed for Vanguard Short Term Tips fund is currently .69% (and .70% on the ETF). I asked in another thread and the response was that it must be a mistake, but I got the number from Vanguard's website (and not Morningstar or something), so I would expect it to be correct.

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Re: Short vs long TIPS inflation protection

Post by Dude2 » Thu Apr 16, 2020 9:14 am

FlyingMoose wrote:
Thu Apr 16, 2020 12:18 am
I see. I got the impression from reading other threads about TIPS that the NAV will change with expected inflation in such a way as to cancel out the adjustment (in the same way that the NAV of regular bonds compensates for interest rate changes).
Another way to see it, if you put yourself into a real rate universe (viewpoint), the NAV is affected by real rate changes.
If inflation was 2% but everyone expected it to be 5% next year, wouldn't they buy TIPS, thus driving up the NAV (and driving down the real interest rate) until it compensates for this expected future income? Or are they a free lunch, where the NAV doesn't change with expected future inflation?

In other words, what's the point of buying TIPS now and not waiting until inflation goes up, if the real interest rate paid by TIPS isn't influenced by future inflation expectations?
I think you aren't hearing what people are saying above -- that both nominals and TIPS price in expected inflation. If inflation is more than what was priced in, then TIPS will shine. If inflation is less than expected, nominals will shine.

Also, the real yield listed for Vanguard Short Term Tips fund is currently .69% (and .70% on the ETF). I asked in another thread and the response was that it must be a mistake, but I got the number from Vanguard's website (and not Morningstar or something), so I would expect it to be correct.
Seems legit to me. viewtopic.php?t=306517

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Re: Short vs long TIPS inflation protection

Post by watchnerd » Thu Apr 16, 2020 9:23 am

FlyingMoose wrote:
Thu Apr 16, 2020 12:18 am

Also, the real yield listed for Vanguard Short Term Tips fund is currently .69% (and .70% on the ETF). I asked in another thread and the response was that it must be a mistake, but I got the number from Vanguard's website (and not Morningstar or something), so I would expect it to be correct.
Yes, if accurate, that's a bit of a steal.

I'll be having my eye on today's 5 year auction re-open to see if the individual 5 year TIPS can beat it, but I'll be surprised if they do.
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Re: Short vs long TIPS inflation protection

Post by grabiner » Thu Apr 16, 2020 9:35 am

FlyingMoose wrote:
Wed Apr 15, 2020 7:00 pm
However, people here have said that TIPS only protect against unexpected inflation. I'm trying to get my head around this.
TIPS track inflation, whether it is expected or unexpected. If you buy a TIPS with a 0% yield, and inflation over its term is 4%, then inflation when you hold the bond to maturity is 4%.

But expected inflation is built into the yields of nominal bonds. If investors expect 2% inflation and TIPS have a 0% yield, they will only buy nominal bonds if those bonds have a 2% yield. If inflation matches expectations, TIPS and nominal bonds break even. If inflation is unexpectedly 4%, the nominal bondholder will fall 2% behind inflation, while the TIPS holder will keep up.
Does expected inflation cause the change NAV to change? (I would expect so, since they would be in more demand and fetch higher prices if people expect the inflation to continue).
The NAV of a TIPS fund does not change because the inflation adjustment is paid out as a dividend. The face value of individual TIPS does increase with inflation, so it remains the same in real dollars.

The NAV of a TIPS fund and the market price of a TIPS are affected by changes in TIPS yields. If you buy a 0% 10-year TIPS, and next year, 9-year TIPS are yielding 1%, your TIPS will lose 9% of its value (but will make up that 9% if held to maturity because it yields 1% above inflation for those 9 years). This is the same thing that happens for any other bond; the yield on that bond rises when the price falls.
But I am unclear on how this is affected by duration. Do the longer-duration TIPS provide better inflation protection? For example, does the short-term TIPS fund (average duration 2.6 years) only protect against inflation in the next 2.6 years because the bonds would roll over into bonds that are more expensive due to the higher expected inflation?
It is the same general idea. TIPS protect against inflation only as long as they last. When your TIPS matures, if you want more inflation protection, you can buy another TIPS, but the cost of that inflation protection may be different because TIPS yields will have changed.
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Re: Short vs long TIPS inflation protection

Post by dbr » Thu Apr 16, 2020 9:59 am

Dominic wrote:
Wed Apr 15, 2020 11:02 pm
watchnerd wrote:
Wed Apr 15, 2020 10:11 pm
When it comes to NAV fluctuations, shorter duration TIPS funds exhibit more pure CPI exposure, while longer durations drown out the CPI exposure with interest rate noise.
If I understand correctly, short-term TIPS are more correlated with the inflation rate than long-term TIPS are, but their inflation protection is identical.

I imagine this makes short-term TIPS preferable, since they're as close to "pure inflation exposure" as one can get. Not sure if I'm missing an advantage of long-term TIPS.
All TIPS have no inflation risk. All TIPS have more or less (real) interest rate risk. If you want the minimum of either risk, buy short. If you want no inflation risk but are willing to take interest rate risk for more (real) return, buy long. The yield curve runs from -.53% for 5 year TIPS to -.19% for 30 year TIPS. That is a very flat curve that would not justify going long in TIPS. Nominal bond yield curve is also very flat and real yields of nominal bonds are mostly negative or zero as well. Correlation with inflation is a red herring that has nothing to do with anything.

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Re: Short vs long TIPS inflation protection

Post by JackoC » Thu Apr 16, 2020 10:02 am

FlyingMoose wrote:
Wed Apr 15, 2020 7:00 pm


However, people here have said that TIPS only protect against unexpected inflation. I'm trying to get my head around this.
I've always found that formulation 'expected' v 'unexpected' inflation to be prone to confusion. Nominal bonds offer a particular nominal yield. Whether you think of part of that yield as 'compensation for expected inflation' or just don't think about it much, it's still the same yield, regardless of future realized inflation. :happy TIPS give a real yield (positive or negative) plus future realized inflation (defined as the change in the index 'CPI-U Non Seasonally Adjusted'), subject to some details if inflation is less than zero which don't change the basic point.

As to short v. long, as a general rule short TIPS have a less positive/more negative (now) real yield than longer TIPS. Against that, it's reasonable to expect, with no gtee, that a general rise in inflation expectations would make all TIPS real yields more positive. As long as one assumes the higher inflation was enough to imply less accommodative Fed monetary policy, IOW higher future short term rates. The yield on TIPS should accord with the market's (risk adjusted) expectation of future real short rates.

Therefore, the possible intuition that you could buy short TIPS now but miss the boat when inflation soars later, and everyone wants TIPS, and real yields on the replacement TIPS are far lower than now... is probably not right. TIPS probably have the favorable characteristic from an inflation hedging investor POV that higher inflation will make them cheaper. Which IMO is a serious reason to think twice about buying TIPS at all at negative real yield. I believe a very high and sudden burst of inflation is needed for negative real yield TIPS to work out well as investment, beyond any rise in inflation seen before in the US.

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Re: Short vs long TIPS inflation protection

Post by SimpleGift » Thu Apr 16, 2020 11:10 am

FlyingMoose wrote:
Wed Apr 15, 2020 7:00 pm
However, people here have said that TIPS only protect against unexpected inflation. I'm trying to get my head around this.
Perhaps an example with numbers will help (it helped me at one point understand TIPS and unexpected inflation):

In the example below, the expected return for a nominal Treasury bond is simply the yield to maturity. For TIPS, the expected return is the yield to maturity plus the expected inflation adjustment. Notice in the example that the expected returns between the two bonds are the same:
  • ................................Nominal Bond..............TIPS Bond
    Yield to Maturity..............1.5%........................-0.5%
    Expected Inflation............2.0%..........................2.0%
    Expected Return.................1.5%.................................1.5%
If actual inflation turns out to exceed 2.0%, then TIPS will have been the better investment. If inflation is less than expected, the nominal bond will have won out. Hope this helps.

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Re: Short vs long TIPS inflation protection

Post by watchnerd » Thu Apr 16, 2020 12:06 pm

SimpleGift wrote:
Thu Apr 16, 2020 11:10 am
FlyingMoose wrote:
Wed Apr 15, 2020 7:00 pm
However, people here have said that TIPS only protect against unexpected inflation. I'm trying to get my head around this.
Perhaps an example with numbers will help (it helped me at one point understand TIPS and unexpected inflation):

In the example below, the expected return for a nominal Treasury bond is simply the yield to maturity. For TIPS, the expected return is the yield to maturity plus the expected inflation adjustment. Notice in the example that the expected returns between the two bonds are the same:
  • ................................Nominal Bond..............TIPS Bond
    Yield to Maturity..............1.5%........................-0.5%
    Expected Inflation............2.0%..........................2.0%
    Expected Return.................1.5%.................................1.5%
If actual inflation turns out to exceed 2.0%, then TIPS will have been the better investment. If inflation is less than expected, the nominal bond will have won out. Hope this helps.
This is one reason I hold both nominals and TIPS.
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Re: Short vs long TIPS inflation protection

Post by Hector » Thu Apr 16, 2020 12:15 pm

watchnerd wrote:
Thu Apr 16, 2020 12:06 pm
SimpleGift wrote:
Thu Apr 16, 2020 11:10 am
FlyingMoose wrote:
Wed Apr 15, 2020 7:00 pm
However, people here have said that TIPS only protect against unexpected inflation. I'm trying to get my head around this.
Perhaps an example with numbers will help (it helped me at one point understand TIPS and unexpected inflation):

In the example below, the expected return for a nominal Treasury bond is simply the yield to maturity. For TIPS, the expected return is the yield to maturity plus the expected inflation adjustment. Notice in the example that the expected returns between the two bonds are the same:
  • ................................Nominal Bond..............TIPS Bond
    Yield to Maturity..............1.5%........................-0.5%
    Expected Inflation............2.0%..........................2.0%
    Expected Return.................1.5%.................................1.5%
If actual inflation turns out to exceed 2.0%, then TIPS will have been the better investment. If inflation is less than expected, the nominal bond will have won out. Hope this helps.
This is one reason I hold both nominals and TIPS.
I see in your signature that you hold short term TIPS. Short term bonds adjust to inflation quickly so one can argue that there is not much difference in holding short term TIPS vs short term nominal Treasurys. In the normal yield curve, you get the additional return from nominal Treasurys from roll return. What is the advantage of short term TIPS over short term Treasurys?

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Re: Short vs long TIPS inflation protection

Post by watchnerd » Thu Apr 16, 2020 12:23 pm

Hector wrote:
Thu Apr 16, 2020 12:15 pm

I see in your signature that you hold short term TIPS. Short term bonds adjust to inflation quickly so one can argue that there is not much difference in holding short term TIPS vs short term nominal Treasurys. In the normal yield curve, you get the additional return from nominal Treasurys from roll return. What is the advantage of short term TIPS over short term Treasurys?
CPI exposure with less duration noise than long TIPS.
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Re: Short vs long TIPS inflation protection

Post by SimpleGift » Thu Apr 16, 2020 1:06 pm

watchnerd wrote:
Thu Apr 16, 2020 12:06 pm
This is one reason I hold both nominals and TIPS.
Right. Forecasts of expected inflation rates, both by professional economists and the market itself (through the breakeven rate) have historically been quite poor (chart below).
In retirement, we also hold both nominal bonds and TIPS, as one can't know which will outperform in the future.

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Re: Short vs long TIPS inflation protection

Post by gmaynardkrebs » Thu Apr 16, 2020 1:58 pm

I favor long TIPS over shorter TIPS based on this view:

1. There's not a lot of interest in TIPS right now because people aren't worried about inflation -- they haven't seen it for decades. That makes TIPS cheaper than they would otherwise be.

2. People will be very interested in TIPS if and when inflation rears its ugly head.

3. However, by then it will be too late, because TIPS will be much more expensive than they are now.

4. Why will they be more expensive? Because real rates will be much lower than they are now.

5. Real rates will be much lower because the Fed wants low real rates to stimulate a stagnant economy.

6. They way to achieve low real rates is to create higher inflation while suppressing nominal interest rates through QE or traditional open market operations. A form of "financial repression."

7. What's wrong with short TIPS is not inflation protection, but reinvestment risk ie., they are likely to be expensive just when you need them the most, when inflation starts to become scary.

8. But won't the Fed raise real rates to control inflation, as Volcker did?

9: No, because the reason we'll have inflation is that the Fed wants it. Why would it kill its own creation? (See 5 and 6, above).

As I say, just the way I look at it.

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Re: Short vs long TIPS inflation protection

Post by Northern Flicker » Thu Apr 16, 2020 2:20 pm


If inflation was 2% but everyone expected it to be 5% next year, wouldn't they buy TIPS, thus driving up the NAV (and driving down the real interest rate) until it compensates for this expected future income? Or are they a free lunch, where the NAV doesn't change with expected future inflation?

In other words, what's the point of buying TIPS now and not waiting until inflation goes up, if the real interest rate paid by TIPS isn't influenced by future inflation expectations?
If inflation were to heat up, what would happen to real rates is not very predictable, but having real rates go strongly negative is certainly a realistic possibility. The way to defend against that risk is not to wait for unexpected inflation to purchase TIPS. Managing that risk also is an input into the determination of duration for a TIPS portfolio.
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Re: Short vs long TIPS inflation protection

Post by watchnerd » Thu Apr 16, 2020 2:40 pm

Northern Flicker wrote:
Thu Apr 16, 2020 2:20 pm

If inflation was 2% but everyone expected it to be 5% next year, wouldn't they buy TIPS, thus driving up the NAV (and driving down the real interest rate) until it compensates for this expected future income? Or are they a free lunch, where the NAV doesn't change with expected future inflation?

In other words, what's the point of buying TIPS now and not waiting until inflation goes up, if the real interest rate paid by TIPS isn't influenced by future inflation expectations?
If inflation were to heat up, what would happen to real rates is not very predictable, but having real rates go strongly negative is certainly a realistic possibility. The way to defend against that risk is not to wait for unexpected inflation to purchase TIPS. Managing that risk also is an input into the determination of duration for a TIPS portfolio.
Today's 5 Year TIPS auction:

Indicative Yield: - 0.351%
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Re: Short vs long TIPS inflation protection

Post by tipswatcher » Thu Apr 16, 2020 2:56 pm

The idea that TIPS will get "more expensive" if inflation heats up always makes me ponder: How would they be more expensive, in the sense that I am buying a new issue TIPS today at an auction? The 10-year TIPS currently has a real yield of -0.50%, and it will cost me about $10,550 for $10,000 of value for a TIPS with a coupon rate of 0.125% That seems "expensive" to me. But ... the inflation breakeven rate at this point is 1.2%, versus a nominal 10-year Treasury yielding 0.63%. Well, that makes the TIPS "inexpensive."

Let's say inflation heats up, forcing interest rates higher and the 10-year nominal Treasury is now yielding 2.50%, and the 10-year TIPS real yield rises to 0.50%. If I bought a new TIPS at auction, I'd pay about $10,000 for $10,000 of value, and get a coupon rate of 0.50%. That seems less expensive -- and certainly preferable -- to our current situation. However ... the inflation breakeven rate has risen to 2.0%, so technically TIPS are now "more expensive."

It seems like the only way to judge the value of a TIPS is to compare it to the comparable value of a nominal Treasury of the same term. If the spread -- the inflation breakeven rate -- falls to a very low level (as it is now) TIPS are cheap. If it rises above something like 2.25%, then TIPS are expensive.

But being cheap versus nominals doesn't make a TIPS more "attractive." In my simplistic view, I'd just rather have the higher real yield.
TIPS: Perfect investment for imperfect times?

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Re: Short vs long TIPS inflation protection

Post by FIREchief » Thu Apr 16, 2020 3:22 pm

watchnerd wrote:
Thu Apr 16, 2020 9:23 am
FlyingMoose wrote:
Thu Apr 16, 2020 12:18 am

Also, the real yield listed for Vanguard Short Term Tips fund is currently .69% (and .70% on the ETF). I asked in another thread and the response was that it must be a mistake, but I got the number from Vanguard's website (and not Morningstar or something), so I would expect it to be correct.
Yes, if accurate, that's a bit of a steal.

I'll be having my eye on today's 5 year auction re-open to see if the individual 5 year TIPS can beat it, but I'll be surprised if they do.
That's the 30 day sec yield of the fund, not the real yield of the underlying issues. I believe it is "high" because of the recent drop in real yields on the secondary markets.
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gmaynardkrebs
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Re: Short vs long TIPS inflation protection

Post by gmaynardkrebs » Thu Apr 16, 2020 4:17 pm

tipswatcher wrote:
Thu Apr 16, 2020 2:56 pm
The idea that TIPS will get "more expensive" if inflation heats up always makes me ponder: How would they be more expensive, in the sense that I am buying a new issue TIPS today at an auction? The 10-year TIPS currently has a real yield of -0.50%, and it will cost me about $10,550 for $10,000 of value for a TIPS with a coupon rate of 0.125% That seems "expensive" to me. But ... the inflation breakeven rate at this point is 1.2%, versus a nominal 10-year Treasury yielding 0.63%. Well, that makes the TIPS "inexpensive."

Let's say inflation heats up, forcing interest rates higher and the 10-year nominal Treasury is now yielding 2.50%, and the 10-year TIPS real yield rises to 0.50%. If I bought a new TIPS at auction, I'd pay about $10,000 for $10,000 of value, and get a coupon rate of 0.50%. That seems less expensive -- and certainly preferable -- to our current situation. However ... the inflation breakeven rate has risen to 2.0%, so technically TIPS are now "more expensive."

It seems like the only way to judge the value of a TIPS is to compare it to the comparable value of a nominal Treasury of the same term. If the spread -- the inflation breakeven rate -- falls to a very low level (as it is now) TIPS are cheap. If it rises above something like 2.25%, then TIPS are expensive.

But being cheap versus nominals doesn't make a TIPS more "attractive." In my simplistic view, I'd just rather have the higher real yield.
To me, a new TIPS that costs $1000 and pays 4% real is the bargain of a lifetime, while a new TIPS $1000 paying -.5% is no bargain at all. If TIPS ever got back to 2% real, I'd back up the truck, and not worry about whether someone, somewhere is making a killing with something else.

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Re: Short vs long TIPS inflation protection

Post by FIREchief » Thu Apr 16, 2020 4:26 pm

gmaynardkrebs wrote:
Thu Apr 16, 2020 4:17 pm
tipswatcher wrote:
Thu Apr 16, 2020 2:56 pm
The idea that TIPS will get "more expensive" if inflation heats up always makes me ponder: How would they be more expensive, in the sense that I am buying a new issue TIPS today at an auction? The 10-year TIPS currently has a real yield of -0.50%, and it will cost me about $10,550 for $10,000 of value for a TIPS with a coupon rate of 0.125% That seems "expensive" to me. But ... the inflation breakeven rate at this point is 1.2%, versus a nominal 10-year Treasury yielding 0.63%. Well, that makes the TIPS "inexpensive."

Let's say inflation heats up, forcing interest rates higher and the 10-year nominal Treasury is now yielding 2.50%, and the 10-year TIPS real yield rises to 0.50%. If I bought a new TIPS at auction, I'd pay about $10,000 for $10,000 of value, and get a coupon rate of 0.50%. That seems less expensive -- and certainly preferable -- to our current situation. However ... the inflation breakeven rate has risen to 2.0%, so technically TIPS are now "more expensive."

It seems like the only way to judge the value of a TIPS is to compare it to the comparable value of a nominal Treasury of the same term. If the spread -- the inflation breakeven rate -- falls to a very low level (as it is now) TIPS are cheap. If it rises above something like 2.25%, then TIPS are expensive.

But being cheap versus nominals doesn't make a TIPS more "attractive." In my simplistic view, I'd just rather have the higher real yield.
To me, a new TIPS that costs $1000 and pays 4% real is the bargain of a lifetime, while a new TIPS $1000 paying -.5% is no bargain at all. If TIPS ever got back to 2% real, I'd back up the truck, and not worry about whether someone, somewhere is making a killing with something else.
There are no bargains. It's a free market and, by definition, the pricing is "fair." Would you be happier with a nominal treasury yielding -0.5% real (which could wind up yielding -1.0% real or -1.5% real if inflation exceeds the breakeven inflation rate)? I'll likely be buying ten years at a negative real yield in the May reopening, and I'm just fine with that. It's what the market is right now. Hopefully we'll be yielding higher by the Jan 2021 ten year auction when one of my ladder rungs rolls. Regardless, TIPS do what I need them to do at fair market pricing.
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Re: Short vs long TIPS inflation protection

Post by watchnerd » Thu Apr 16, 2020 4:29 pm

gmaynardkrebs wrote:
Thu Apr 16, 2020 4:17 pm
To me, a new TIPS that costs $1000 and pays 4% real is the bargain of a lifetime, while a new TIPS $1000 paying -.5% is no bargain at all. If TIPS ever got back to 2% real, I'd back up the truck, and not worry about whether someone, somewhere is making a killing with something else.
I think you're going to wait forever to see 2% real TIPS again unless we have massive deflation.
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Re: Short vs long TIPS inflation protection

Post by tipswatcher » Thu Apr 16, 2020 4:44 pm

There are no bargains. It's a free market and, by definition, the pricing is "fair."
I'd mostly agree with you.

But then, on March 19 -- less than a month ago -- a 10-year TIPS auctioned with a real yield of 0.68% and a breakeven rate of 0.43%. That was a "free market" BARGAIN. Crazy stuff does happen, and with TIPS, crazy stuff happens a little more often, it seems.
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Re: Short vs long TIPS inflation protection

Post by gmaynardkrebs » Thu Apr 16, 2020 4:56 pm

watchnerd wrote:
Thu Apr 16, 2020 4:29 pm
gmaynardkrebs wrote:
Thu Apr 16, 2020 4:17 pm
To me, a new TIPS that costs $1000 and pays 4% real is the bargain of a lifetime, while a new TIPS $1000 paying -.5% is no bargain at all. If TIPS ever got back to 2% real, I'd back up the truck, and not worry about whether someone, somewhere is making a killing with something else.
I think you're going to wait forever to see 2% real TIPS again unless we have massive deflation.
Not sure I follow. TIPS were at/near 2% real for a long time in the pre crash 2000s.
If you mean 2% real now would cause deflation, I'd probably agree.

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Re: Short vs long TIPS inflation protection

Post by gmaynardkrebs » Thu Apr 16, 2020 5:00 pm

FIREchief wrote:
Thu Apr 16, 2020 4:26 pm
gmaynardkrebs wrote:
Thu Apr 16, 2020 4:17 pm
tipswatcher wrote:
Thu Apr 16, 2020 2:56 pm
The idea that TIPS will get "more expensive" if inflation heats up always makes me ponder: How would they be more expensive, in the sense that I am buying a new issue TIPS today at an auction? The 10-year TIPS currently has a real yield of -0.50%, and it will cost me about $10,550 for $10,000 of value for a TIPS with a coupon rate of 0.125% That seems "expensive" to me. But ... the inflation breakeven rate at this point is 1.2%, versus a nominal 10-year Treasury yielding 0.63%. Well, that makes the TIPS "inexpensive."

Let's say inflation heats up, forcing interest rates higher and the 10-year nominal Treasury is now yielding 2.50%, and the 10-year TIPS real yield rises to 0.50%. If I bought a new TIPS at auction, I'd pay about $10,000 for $10,000 of value, and get a coupon rate of 0.50%. That seems less expensive -- and certainly preferable -- to our current situation. However ... the inflation breakeven rate has risen to 2.0%, so technically TIPS are now "more expensive."

It seems like the only way to judge the value of a TIPS is to compare it to the comparable value of a nominal Treasury of the same term. If the spread -- the inflation breakeven rate -- falls to a very low level (as it is now) TIPS are cheap. If it rises above something like 2.25%, then TIPS are expensive.

But being cheap versus nominals doesn't make a TIPS more "attractive." In my simplistic view, I'd just rather have the higher real yield.
To me, a new TIPS that costs $1000 and pays 4% real is the bargain of a lifetime, while a new TIPS $1000 paying -.5% is no bargain at all. If TIPS ever got back to 2% real, I'd back up the truck, and not worry about whether someone, somewhere is making a killing with something else.
There are no bargains. It's a free market and, by definition, the pricing is "fair." Would you be happier with a nominal treasury yielding -0.5% real (which could wind up yielding -1.0% real or -1.5% real if inflation exceeds the breakeven inflation rate)? I'll likely be buying ten years at a negative real yield in the May reopening, and I'm just fine with that. It's what the market is right now. Hopefully we'll be yielding higher by the Jan 2021 ten year auction when one of my ladder rungs rolls. Regardless, TIPS do what I need them to do at fair market pricing.
I'd say a totally safe investment investment that came damn close to the expected future real return of equities (right now, about 4% real IIRC) is a bargain under any scenario. Too bad TIPS don't do that anymore.
Last edited by gmaynardkrebs on Thu Apr 16, 2020 5:03 pm, edited 1 time in total.

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Re: Short vs long TIPS inflation protection

Post by watchnerd » Thu Apr 16, 2020 5:02 pm

gmaynardkrebs wrote:
Thu Apr 16, 2020 4:56 pm
watchnerd wrote:
Thu Apr 16, 2020 4:29 pm
gmaynardkrebs wrote:
Thu Apr 16, 2020 4:17 pm
To me, a new TIPS that costs $1000 and pays 4% real is the bargain of a lifetime, while a new TIPS $1000 paying -.5% is no bargain at all. If TIPS ever got back to 2% real, I'd back up the truck, and not worry about whether someone, somewhere is making a killing with something else.
I think you're going to wait forever to see 2% real TIPS again unless we have massive deflation.
Not sure I follow. TIPS were at/near 2% real for a long time in the pre crash 2000s.
If you mean 2% real now would cause deflation, I'd probably agree.
Pre-cash 2000s they were still pretty new.

I think they were not efficiently priced in the first few years.

Plus, QE hadn't happened, raising demand for inflation insurance in a post-QE world.
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Re: Short vs long TIPS inflation protection

Post by Hector » Thu Apr 16, 2020 6:28 pm

watchnerd wrote:
Thu Apr 16, 2020 4:29 pm
gmaynardkrebs wrote:
Thu Apr 16, 2020 4:17 pm
To me, a new TIPS that costs $1000 and pays 4% real is the bargain of a lifetime, while a new TIPS $1000 paying -.5% is no bargain at all. If TIPS ever got back to 2% real, I'd back up the truck, and not worry about whether someone, somewhere is making a killing with something else.
I think you're going to wait forever to see 2% real TIPS again unless we have massive deflation.
I think secondary TIPS were yielding higher than what we have seen in a while for a few days in mid-march.

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Re: Short vs long TIPS inflation protection

Post by watchnerd » Thu Apr 16, 2020 9:18 pm

Hector wrote:
Thu Apr 16, 2020 6:28 pm
watchnerd wrote:
Thu Apr 16, 2020 4:29 pm
gmaynardkrebs wrote:
Thu Apr 16, 2020 4:17 pm
To me, a new TIPS that costs $1000 and pays 4% real is the bargain of a lifetime, while a new TIPS $1000 paying -.5% is no bargain at all. If TIPS ever got back to 2% real, I'd back up the truck, and not worry about whether someone, somewhere is making a killing with something else.
I think you're going to wait forever to see 2% real TIPS again unless we have massive deflation.
I think secondary TIPS were yielding higher than what we have seen in a while for a few days in mid-march.
Well I hope I'm wrong, as I'd love to buy some.

But today's 5 year auction opening today showed nothing of the sort.
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Re: Short vs long TIPS inflation protection

Post by Dioremius » Thu Apr 16, 2020 10:51 pm

I'm also curious about the posed question, but actually nowadays: I'm struggling to see how TIPS of any duration (sub-zero real yield) have a plausible chance of outperforming bank CDs (nominal ~1.7% APY).

Given similar expected yields, sure I'd prefer to have some of my bonds be inflation-protected and some nominal, for diverification. But both of these are now eclipsed, in expected value, by bank CDs (which happen to be all nominal).

I'm on the verge of dumping my VTIP holdings and moving them to CDs (as I already did for most of my nominal bonds). Convince me otherwise?

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Re: Short vs long TIPS inflation protection

Post by Dude2 » Thu Apr 16, 2020 11:28 pm

Dioremius wrote:
Thu Apr 16, 2020 10:51 pm
I'm also curious about the posed question, but actually nowadays: I'm struggling to see how TIPS of any duration (sub-zero real yield) have a plausible chance of outperforming bank CDs (nominal ~1.7% APY).

Given similar expected yields, sure I'd prefer to have some of my bonds be inflation-protected and some nominal, for diverification. But both of these are now eclipsed, in expected value, by bank CDs (which happen to be all nominal).

I'm on the verge of dumping my VTIP holdings and moving them to CDs (as I already did for most of my nominal bonds). Convince me otherwise?
Do you want nominal or inflation indexed in your portfolio? Since I don't know the right answer going forward, I keep both. We surely aren't going to achieve our financial goals on the bond side. The purpose of bonds in my portfolio is to

-- establish a level of risk that I can live with
-- viewing the portfolio as a whole, dampen volatility to allow me to stay the course

Not arguing against CDs, but not trying to engage in having to pick the asset class I expect to shine because I'll likely be wrong. My father for his entire life invested only in CDs (zero stock), chasing yields, without a care in the world about inflation. Surprisingly, he is doing fine in retirement. At particular times of trouble, it made him seem like an absolute genius. His secret weapon was making a good living and having a rather large company match percentage in his retirement plan. Point being that what is most important is our ability to earn.

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Re: Short vs long TIPS inflation protection

Post by JackoC » Fri Apr 17, 2020 8:40 am

gmaynardkrebs wrote:
Thu Apr 16, 2020 1:58 pm
I favor long TIPS over shorter TIPS based on this view:

1. There's not a lot of interest in TIPS right now because people aren't worried about inflation -- they haven't seen it for decades. That makes TIPS cheaper than they would otherwise be.

2. People will be very interested in TIPS if and when inflation rears its ugly head.

3. However, by then it will be too late, because TIPS will be much more expensive than they are now.

4. Why will they be more expensive? Because real rates will be much lower than they are now.

5. Real rates will be much lower because the Fed wants low real rates to stimulate a stagnant economy.
I think that's a *possible* scenario, but unlikely if we're talking about levels of inflation high enough to do serious damage to a portfolio. I could see your scenario if say the Fed reaches its inflation target, CPI-U increase of say 2.3%* whereas the 'TIPS breakeven' is only ~1.03% in 10yrs. In that case Fed would probably still hold short rates low/negative real to keep inflation from dropping, and TIPS wouldn't necessarily cheapen. However, if inflation takes off to even 3 or 4%, your scenario for TIPS price reaction is much less likely IMO. Then the Fed would highly likely set higher real short rates to fight it, even more likely the market would *expect* that at the outset, and TIPS would cheapen perhaps pretty dramatically. And retail investors might be more interested in TIPS then but the US fed govt now needs to issue a mountain of new debt on top of the mountain range prior to the pandemic. In a reflated world economy world central banks probably wouldn't buy as many rich country govt bonds generally and the US can always shift its huge issuance more toward TIPS if that's where investor interest shifts. Just increased retail interest in TIPS won't necessarily push the price up IMO, as it would artificially assuming a fixed supply and no decrease in demand by gigantic central bank buyers of rich country debt.

And to me the main value of inflation adjusted bonds is against really significant increases in inflation. Best 5 yr CD's have zero pre tax return at 2.2% CPI inflation, ~1.7% above the 5 yr TIPS breakeven (currently ballpark 0.5%). Only really serious inflation would turn a 5 yr CD investment into a disaster (besides which you could withdraw early with penalty if much higher inflation/much higher CD rates). TIPS to me is mainly about 'well how about if the inflation increase is big and fast?'...but in that case TIPS will almost surely get cheaper as the market anticipates the Fed fighting that high inflation. I haven't sold the limited TIPS allocation I have (I did sell some in IRA at -27 and bought back at +55 in the late March TIPS swoon) but I don't see much attractiveness to TIPS at inflation minus when best CD's inflation breakeven is ~4 times the TIPS breakeven in 5 yrs. If inflation is much higher than any of those current break evens, TIPS will probably also be cheaper than now.

I think you actually can have your cake and eat it too with TIPS: buy them in quantity after serious inflation breaks out, or in a liquidity panics. The current one seems to have only lasted those few days in March. In 2009 there was a more prolonged period where TIPS were attractive due to extreme liquidity premium.

*the Fed targets ~2%, but that's on the PCE deflator, which has tended to run a few 0.1%'s pa lower than CPI-U increase in recent years.

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Re: Short vs long TIPS inflation protection

Post by vineviz » Fri Apr 17, 2020 9:02 am

Dioremius wrote:
Thu Apr 16, 2020 10:51 pm
I'm also curious about the posed question, but actually nowadays: I'm struggling to see how TIPS of any duration (sub-zero real yield) have a plausible chance of outperforming bank CDs (nominal ~1.7% APY).

Given similar expected yields, sure I'd prefer to have some of my bonds be inflation-protected and some nominal, for diverification. But both of these are now eclipsed, in expected value, by bank CDs (which happen to be all nominal).

I'm on the verge of dumping my VTIP holdings and moving them to CDs (as I already did for most of my nominal bonds). Convince me otherwise?
I'm reluctant to try to convince you of anything, but you're taking on more risk (interest rate risk, inflation risk) by moving from VTIP to cash. Only you can decide whether the risk is sufficient reward for the increase in current yield.
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Re: Short vs long TIPS inflation protection

Post by jeffyscott » Fri Apr 17, 2020 9:31 am

watchnerd wrote:
Thu Apr 16, 2020 9:18 pm
Hector wrote:
Thu Apr 16, 2020 6:28 pm
watchnerd wrote:
Thu Apr 16, 2020 4:29 pm
gmaynardkrebs wrote:
Thu Apr 16, 2020 4:17 pm
To me, a new TIPS that costs $1000 and pays 4% real is the bargain of a lifetime, while a new TIPS $1000 paying -.5% is no bargain at all. If TIPS ever got back to 2% real, I'd back up the truck, and not worry about whether someone, somewhere is making a killing with something else.
I think you're going to wait forever to see 2% real TIPS again unless we have massive deflation.
I think secondary TIPS were yielding higher than what we have seen in a while for a few days in mid-march.
Well I hope I'm wrong, as I'd love to buy some.

But today's 5 year auction opening today showed nothing of the sort.
I'd hoped the movement in March (which came nowhere near 2%, or even 1%) was a new trend and that I'd be buying the 5 year at today's auction. But with an expected negative real yield, I am no longer interested.
Time is your friend; impulse is your enemy. - John C. Bogle

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Re: Short vs long TIPS inflation protection

Post by watchnerd » Fri Apr 17, 2020 9:32 am

Dioremius wrote:
Thu Apr 16, 2020 10:51 pm
Convince me otherwise?
No thanks.

If you're not clear on why swapping inflation-adjusted assets for more nominals, instead of striking a balance between the two, is changing the nature of your risk exposure, I can't help you.
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Re: Short vs long TIPS inflation protection

Post by JackoC » Fri Apr 17, 2020 10:18 am

Dioremius wrote:
Thu Apr 16, 2020 10:51 pm
I'm also curious about the posed question, but actually nowadays: I'm struggling to see how TIPS of any duration (sub-zero real yield) have a plausible chance of outperforming bank CDs (nominal ~1.7% APY).

Given similar expected yields, sure I'd prefer to have some of my bonds be inflation-protected and some nominal, for diverification. But both of these are now eclipsed, in expected value, by bank CDs (which happen to be all nominal).

I'm on the verge of dumping my VTIP holdings and moving them to CDs (as I already did for most of my nominal bonds). Convince me otherwise?
There is a chance, and you are changing your risk profile to switch from TIPS to CD's. However, I agree with your implication that the chance of TIPS beating best CD's from here, for the typical term of direct CD's (say 5 yrs, I just bought one for 2.20%) is now much lower than usual. Especially considering that in a portfolio of CD's it's very unlikely you would not be able to exercise the option to withdraw early and get new CD's at much higher rates if inflation moved up a lot, high enough to come out ahead after the Early Withdrawal Penalty. Occasionally some bank might refuse early withdrawal, but in a CD *portfolio* it's a marginal risk. You own maybe 90% of the put option you think you do, some people bring up this possibility as if it means you can ignore the put option altogether.

What you lose with the CD is some liquidity. TIPS don't perform all that well in panics on a mark to market basis. But you can sell them at no penalty in normal times, w/ CD's you'd always have the penalty. But assuming buy and hold I agree best CD's are highly attractive relative to TIPS right now for moderate term. And if you really need exposure to long nominal rates, you can always go long bond futures, you don't need to give up the 1.5%+ spread of CD's over the nominal treasury curve to do that.

I still have a CD allocation around 1/4 the size of my CD allocation, TIPS I bought at (now) big positive real yields during the 2009 episode. Maybe I'm 'trading in the rearview mirror' not to get rid of those (like I said I did sell some at -27, but when the market went briefly back close to 1% I bought them back, though only achieved around +55 by the time I pulled the trigger). OTOH, who knows about any feature of the future, scenario's where TIPS actually do outperform best CD's. But I agree that seems much less likely than usual now. Seems the same people here have been saying 'well I don't know about CD's...' for years pretty non-quantitatively. Their arguments don't seem to follow the changes in yields and spreads, which have shifted pretty massively in favor of CD's v TIPS compared to some times in the recent past. I think you'd have to at least admit the anti-CD argument is weaker now, and it takes a more extreme preference for the advantages of TIPS (let alone nominal treasuries) to buy them over CD's than it used to.

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Re: Short vs long TIPS inflation protection

Post by gmaynardkrebs » Fri Apr 17, 2020 10:33 am

JackoC wrote:
Fri Apr 17, 2020 8:40 am
gmaynardkrebs wrote:
Thu Apr 16, 2020 1:58 pm
I favor long TIPS over shorter TIPS based on this view:

1. There's not a lot of interest in TIPS right now because people aren't worried about inflation -- they haven't seen it for decades. That makes TIPS cheaper than they would otherwise be.

2. People will be very interested in TIPS if and when inflation rears its ugly head.

3. However, by then it will be too late, because TIPS will be much more expensive than they are now.

4. Why will they be more expensive? Because real rates will be much lower than they are now.

5. Real rates will be much lower because the Fed wants low real rates to stimulate a stagnant economy.
I think that's a *possible* scenario, but unlikely if we're talking about levels of inflation high enough to do serious damage to a portfolio. I could see your scenario if say the Fed reaches its inflation target, CPI-U increase of say 2.3%* whereas the 'TIPS breakeven' is only ~1.03% in 10yrs. In that case Fed would probably still hold short rates low/negative real to keep inflation from dropping, and TIPS wouldn't necessarily cheapen. However, if inflation takes off to even 3 or 4%, your scenario for TIPS price reaction is much less likely IMO. Then the Fed would highly likely set higher real short rates to fight it, even more likely the market would *expect* that at the outset, and TIPS would cheapen perhaps pretty dramatically. And retail investors might be more interested in TIPS then but the US fed govt now needs to issue a mountain of new debt on top of the mountain range prior to the pandemic. In a reflated world economy world central banks probably wouldn't buy as many rich country govt bonds generally and the US can always shift its huge issuance more toward TIPS if that's where investor interest shifts. Just increased retail interest in TIPS won't necessarily push the price up IMO, as it would artificially assuming a fixed supply and no decrease in demand by gigantic central bank buyers of rich country debt.

And to me the main value of inflation adjusted bonds is against really significant increases in inflation. Best 5 yr CD's have zero pre tax return at 2.2% CPI inflation, ~1.7% above the 5 yr TIPS breakeven (currently ballpark 0.5%). Only really serious inflation would turn a 5 yr CD investment into a disaster (besides which you could withdraw early with penalty if much higher inflation/much higher CD rates). TIPS to me is mainly about 'well how about if the inflation increase is big and fast?'...but in that case TIPS will almost surely get cheaper as the market anticipates the Fed fighting that high inflation. I haven't sold the limited TIPS allocation I have (I did sell some in IRA at -27 and bought back at +55 in the late March TIPS swoon) but I don't see much attractiveness to TIPS at inflation minus when best CD's inflation breakeven is ~4 times the TIPS breakeven in 5 yrs. If inflation is much higher than any of those current break evens, TIPS will probably also be cheaper than now.

I think you actually can have your cake and eat it too with TIPS: buy them in quantity after serious inflation breaks out, or in a liquidity panics. The current one seems to have only lasted those few days in March. In 2009 there was a more prolonged period where TIPS were attractive due to extreme liquidity premium.

*the Fed targets ~2%, but that's on the PCE deflator, which has tended to run a few 0.1%'s pa lower than CPI-U increase in recent years.
You seem to be focused largely on the 5-year time frame. My focus is on the 20-30 year time frame. I look as TIPS as insurance against relatively high, unexpected inflation. Between today and 2025, I'm not worried either. However, the longer the time frame, the greater the risk. Some say, "well, if ten years from inflation breaks out, you can just buy short TIPS." I think that's like saying, "I'll wait and see if a I have a heart attack, and buy life insurance then." You can get it, but it won't be cheap.

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Re: Short vs long TIPS inflation protection

Post by jeffyscott » Fri Apr 17, 2020 11:28 am

gmaynardkrebs wrote:
Fri Apr 17, 2020 10:33 am
Some say, "well, if ten years from inflation breaks out, you can just buy short TIPS." I think that's like saying, "I'll wait and see if a I have a heart attack, and buy life insurance then." You can get it, but it won't be cheap.
The problem is that buying (or holding) now is just locking in a return of about -0.5% per year. That seems like a pretty high deductible on your inflation insurance? 10 years of compounding will put you at about -5% vs. inflation. So every $10,000 invested will be worth about $9500. Are you not doing the equivalent of buying after that heart attack right now?
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Re: Short vs long TIPS inflation protection

Post by gmaynardkrebs » Fri Apr 17, 2020 12:00 pm

jeffyscott wrote:
Fri Apr 17, 2020 11:28 am
gmaynardkrebs wrote:
Fri Apr 17, 2020 10:33 am
Some say, "well, if ten years from inflation breaks out, you can just buy short TIPS." I think that's like saying, "I'll wait and see if a I have a heart attack, and buy life insurance then." You can get it, but it won't be cheap.
The problem is that buying (or holding) now is just locking in a return of about -0.5% per year. That seems like a pretty high deductible on your inflation insurance? 10 years of compounding will put you at about -5% vs. inflation. So every $10,000 invested will be worth about $9500. Are you not doing the equivalent of buying after that heart attack right now?
As Larry Swedroe often says, you can't buy at yesterday's rates. But, point taken. Maybe not a heart attack, but some definite angina in the TIPS clinical history now.
I moved a little money to LTPZ in March when it swooned for a day or two, but not interested now.

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#Cruncher
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Re: Short vs long TIPS inflation protection

Post by #Cruncher » Fri Apr 17, 2020 2:50 pm

watchnerd wrote:
Thu Apr 16, 2020 9:23 am
I'll be having my eye on today's 5 year auction re-open ...
watchnerd wrote:
Thu Apr 16, 2020 2:40 pm
Today's 5 Year TIPS auction: Indicative Yield: - 0.351%
watchnerd wrote:
Thu Apr 16, 2020 9:18 pm
But today's 5 year auction opening today showed ...
jeffyscott wrote:
Fri Apr 17, 2020 9:31 am
I'd hoped the movement in March ... was a new trend and that I'd be buying the 5 year at today's auction.
For the record, there is no TIPS auction this week. However, there will be one next week: an initial offering of 5-year TIPS Thursday April 23rd. See the thread, Five Year TIPS auction next week, and the Announcement PDF file.

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Re: Short vs long TIPS inflation protection

Post by watchnerd » Fri Apr 17, 2020 2:58 pm

#Cruncher wrote:
Fri Apr 17, 2020 2:50 pm
watchnerd wrote:
Thu Apr 16, 2020 9:23 am
I'll be having my eye on today's 5 year auction re-open ...
watchnerd wrote:
Thu Apr 16, 2020 2:40 pm
Today's 5 Year TIPS auction: Indicative Yield: - 0.351%
watchnerd wrote:
Thu Apr 16, 2020 9:18 pm
But today's 5 year auction opening today showed ...
jeffyscott wrote:
Fri Apr 17, 2020 9:31 am
I'd hoped the movement in March ... was a new trend and that I'd be buying the 5 year at today's auction.
For the record, there is no TIPS auction this week. However, there will be one next week: an initial offering of 5-year TIPS Thursday April 23rd. See the thread, Five Year TIPS auction next week, and the [url=https://treasurydirect.gov/instit/annce ... nre/2020/A_
20200416_3.pdf]Announcement PDF file[/url].
It closes 4/23.

It opened 4/16.

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jeffyscott
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Re: Short vs long TIPS inflation protection

Post by jeffyscott » Fri Apr 17, 2020 5:01 pm

#Cruncher wrote:
Fri Apr 17, 2020 2:50 pm
watchnerd wrote:
Thu Apr 16, 2020 9:23 am
I'll be having my eye on today's 5 year auction re-open ...
watchnerd wrote:
Thu Apr 16, 2020 2:40 pm
Today's 5 Year TIPS auction: Indicative Yield: - 0.351%
watchnerd wrote:
Thu Apr 16, 2020 9:18 pm
But today's 5 year auction opening today showed ...
jeffyscott wrote:
Fri Apr 17, 2020 9:31 am
I'd hoped the movement in March ... was a new trend and that I'd be buying the 5 year at today's auction.
For the record, there is no TIPS auction this week. However, there will be one next week: an initial offering of 5-year TIPS Thursday April 23rd. See the thread, Five Year TIPS auction next week, and the Announcement PDF file.
Thanks, I'd forgotten that there is a week between the announcement and auction, never having bought one at auction. I guess I will take a look at the 5 year TIPS rate on the 22nd and/or early on the 23rd, just in case there is another big change.
Time is your friend; impulse is your enemy. - John C. Bogle

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Re: Short vs long TIPS inflation protection

Post by Northern Flicker » Sat Apr 18, 2020 1:10 am

tipswatcher wrote: The idea that TIPS will get "more expensive" if inflation heats up always makes me ponder: How would they be more expensive, in the sense that I am buying a new issue TIPS today at an auction?
They would become more expensive if the buyers at auction bid up the price higher and/or the buyers on a secondary market bid up the price higher. This would in turn cause their real yield to fall.
Risk is not a guarantor of return.

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Re: Short vs long TIPS inflation protection

Post by gmaynardkrebs » Sat Apr 18, 2020 6:03 am

Northern Flicker wrote:
Sat Apr 18, 2020 1:10 am
tipswatcher wrote: The idea that TIPS will get "more expensive" if inflation heats up always makes me ponder: How would they be more expensive, in the sense that I am buying a new issue TIPS today at an auction?
They would become more expensive if the buyers at auction bid up the price higher and/or the buyers on a secondary market bid up the price higher. This would in turn cause their real yield to fall.
There's also the possibility that Treasury would stop issuing TIPS if inflation surged. TIPS allow borrowers to circumvent a policy of financial repression/monetization of debt.

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Re: Short vs long TIPS inflation protection

Post by jeffyscott » Sat Apr 18, 2020 6:42 am

Northern Flicker wrote:
Sat Apr 18, 2020 1:10 am
tipswatcher wrote: The idea that TIPS will get "more expensive" if inflation heats up always makes me ponder: How would they be more expensive, in the sense that I am buying a new issue TIPS today at an auction?
They would become more expensive if the buyers at auction bid up the price higher and/or the buyers on a secondary market bid up the price higher. This would in turn cause their real yield to fall.
But it seems more likely, that just like today, the prices/yields would depend on what the prices/yields of nominals are. If high inflation leads to high prices for TIPS and thus low real yields, it seems like the opposite should also be true. But instead, we currently have low inflation and even deflation with high TIPS prices and low real yields. TIPS real yields are low because nominal yields (and expected real yields) are low.
Time is your friend; impulse is your enemy. - John C. Bogle

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