Anyone notice the use of short term TIPS fund in Target Funds?

[gavinsiu]

Target fund typically terminates with an allocation of 30%. I have notice that TIPS started to appear, but in the case of both Fidelity and Vanguard, they seemed to hold short term TIPS instead of TIPS (about 17-20%). Why do you think this is the case? I am thinking that short terms are probably better to hedge against inflation since high inflation are accompanied by rate hikes, which could expose TIPS to interest rate risk.

[grok87]

Target fund typically terminates with an allocation of 30%. I have notice that TIPS started to appear, but in the case of both Fidelity and Vanguard, they seemed to hold short term TIPS instead of TIPS (about 17-20%). Why do you think this is the case? I am thinking that short terms are probably better to hedge against inflation since high inflation are accompanied by rate hikes, which could expose TIPS to interest rate risk.

I think that is right.

the other way to think about it is that in the terminal end state, the target fund is allocated assuming one is drawing down from it- RMD's etc. The Vanguard Target Retirement Income fund (VTINX) has 17.2% in 0-5 year TIPS (VTAPX). So you could think of that as 5 years @3.44% withdrawal per year (5*3.44=17.2). So you can think of the fund as having 17.2% in a liabilty-matching portfolio (LMP) and a Risk portfolio (RP) where the 82.8% in the RP is allocated 36/64 stocks/bonds.

cheers,
grok

[jebmke]

That makes sense. They are sort of managing duration on a total portfolio basis which is how I tend to do it myself. Equity is 20-30 year asset (so call it 25), the nominals are probably 6-7 year assets and the short-term tips are probably 2-3 year assets. As you get closer to retirement the average duration of the holding will drop as they reduce equity and increase fixed income. This is essentially what I did on my own.

[dcabler]

Target fund typically terminates with an allocation of 30%. I have notice that TIPS started to appear, but in the case of both Fidelity and Vanguard, they seemed to hold short term TIPS instead of TIPS (about 17-20%). Why do you think this is the case? I am thinking that short terms are probably better to hedge against inflation since high inflation are accompanied by rate hikes, which could expose TIPS to interest rate risk.

I think that is right.

the other way to think about it is that in the terminal end state, the target fund is allocated assuming one is drawing down from it- RMD's etc. The Vanguard Target Retirement Income fund (VTINX) has 17.2% in 0-5 year TIPS (VTAPX). So you could think of that as 5 years @3.44% withdrawal per year (5*3.44=17.2). So you can think of the fund as having 17.2% in a liabilty-matching portfolio (LMP) and a Risk portfolio (RP) where the 82.8% in the RP is allocated 36/64 stocks/bonds.

cheers,
grok

The only problem there is that thinking of it in terms of LMP is that it implies a 5 year remaining lifespan for the individual. Like all target date funds, there are compromises made. This is the terminal fund that takes the retiree all the way to the end. And with their assumption of withdrawing beginning age 72, according to their website, you're right about RMD's. Most life expectancy tables are a good bit longer for a 72 year old than 5 years, however.

Now if somebody considers stock as having a duration, then it probably comes quite a bit closer as jebmke states upstream.

Cheers.

[Circle the Wagons]

I think that is right.

the other way to think about it is that in the terminal end state, the target fund is allocated assuming one is drawing down from it- RMD's etc. The Vanguard Target Retirement Income fund (VTINX) has 17.2% in 0-5 year TIPS (VTAPX). So you could think of that as 5 years @3.44% withdrawal per year (5*3.44=17.2). So you can think of the fund as having 17.2% in a liabilty-matching portfolio (LMP) and a Risk portfolio (RP) where the 82.8% in the RP is allocated 36/64 stocks/bonds.

cheers,
grok

The only problem there is that thinking of it in terms of LMP is that it implies a 5 year remaining lifespan for the individual. Like all target date funds, there are compromises made. This is the terminal fund that takes the retiree all the way to the end. And with their assumption of withdrawing beginning age 72, according to their website, you're right about RMD's. Most life expectancy tables are a good bit longer for a 72 year old than 5 years, however.

Now if somebody considers stock as having a duration, then it probably comes quite a bit closer as jebmke states upstream.

Cheers.

The second problem here, besides mismatched duration, is that it ignores the real rate of return on the TIPS fund.

[dcabler]

The only problem there is that thinking of it in terms of LMP is that it implies a 5 year remaining lifespan for the individual. Like all target date funds, there are compromises made. This is the terminal fund that takes the retiree all the way to the end. And with their assumption of withdrawing beginning age 72, according to their website, you're right about RMD's. Most life expectancy tables are a good bit longer for a 72 year old than 5 years, however.

Now if somebody considers stock as having a duration, then it probably comes quite a bit closer as jebmke states upstream.

Cheers.

The second problem here, besides mismatched duration, is that it ignores the real rate of return on the TIPS fund.

Yep - especially if one is leaving it up to RMDs to decide how much to withdraw each year vs. amortizing based on real rates of returns.

Cheers.

[nisiprius]

The duration of the intermediate-term TIPS fund, VAIPX, is 6.6 years.

Assume that a "safe" holding period is 1X to 2X duration.

Vanguard's glide slope methodology recognizes a "withdrawal" period beginning at age 72, with no changes in fund composition after that age. For some reason their chart stops at age 95, so I'll take "mid-retirement" as the midpoint of 72-95 is 83.5.



According to the IRS table (appendix B), unisex life expectancies are:
17.2 years at age 72
9.3 years at age 83
4 years at age 95

I am supposing they think a 6.6-year duration is a little too long for mid-retirement, and too long for late retirement.

VAIPX dropped -14.37% in 2022 and hasn't recovered yet.
VTIPX dropped -5.35% in 2022 and hasn't recovered yet.

At 17% of portfolio, you can attribute a 17% of -5.35% = -0.91% drop in VTINX to VTIPX.
If they had used VAPIX, it would have been 17% of -14.37% = -2.44%.

Overall, VTINX has dropped -17.01% but has recovered.

Honestly, personally, I think they're being a little timid, given how small the TIPS allocation is. VTINX dropped about -17% and presumably would have dropped in the ballpark of -19% if they'd used intermediate-term TIPS. But, still, I can see why they might have chosen caution.

Also, VTIPX is an index fund, while VAIPX isn't. I don't know whether that could have been a factor, or, if so, how.

[gavinsiu]

One newbie type question, how does the duration matching work. Suppose my life expectency is 6 years, duration matching would mean I pick a 6 year duration for my bonds?

[grok87]

One newbie type question, how does the duration matching work. Suppose my life expectency is 6 years, duration matching would mean I pick a 6 year duration for my bonds?

yes

[alluringreality]

One newbie type question, how does the duration matching work. Suppose my life expectency is 6 years, duration matching would mean I pick a 6 year duration for my bonds?

Here is one forum presentation around investment horizon or the concept of duration matching. As noted it uses "a real discount rate of zero" to simplify.
viewtopic.php?t=340252

Here is an alternate perspective regarding investment horizon, which does not necessarily match with various interpretations from the previous perspective.
https://disciplinefunds.com/defined-duration-investing/

[dbr]

The question I have always had about this Target Fund fixed income is why the ultimate allocation to TIPS is so little.

[nisiprius]

The question I have always had about this Target Fund fixed income is why the ultimate allocation to TIPS is so little.

Indeed. It's the single biggest reason why I can't seriously consider using it as our whole retirement portfolio. Ignoring share class details and rounding just a bit, VTINX is equivalent to

18% VTSAX Total Stock
12% VTIAX Total International
37% VBTLX Total Bond
16% VTABX Total International Bond
17% VTIPX Short-term Inflation-protected

For the red line, we don't use TIPS at all; just 54% Total Bond.

I added, but hid, a third portfolio in which I used VAIPX, the intermediate-term TIPS fund, instead of the short-term TIPS fund.

Source



The use of short-term TIPS barely moves the needle. 4.54% average return versus 4.46%. -17% maximum drawdown versus -19%. Sure, over this particular time period it's an improvement, but not much.

Furthermore, I think the difference is mostly due just to the use of a short-term bond fund. If we'd used an intermediate-term TIPS fund, the difference would have been even smaller:



At the end of 2021, which is close to the point of maximum difference, the total of dollars in the portfolio would have been

VTINX equivalent portfolio $15,148.64
No TIPS, all Total Bond $15,550.44
Change short-term TIPS to intermediate $15,403.67

and over that time period, VTINX was the worst of the three... but the point is, it was all "fifteen thousand dollars or so."

Vanguard has said something like "we add TIPS because as the stock allocation decreases, we need to get some of our inflation protection in fixed income." But it looks to me more like decoration or window dressing or nice words, while playing it safe by not making much of a change.

[gavinsiu]

I have been wondering about, too. Why don't we have more TIPS and why they are short. If we look at Fidelity's Index fund, it has only 20% short term TIPS, too.

[jebmke]

You're overthinking this.

Just add them separately. My recollection is that VG was slow to adopt tips in their planning.

[Lawrence of Suburbia]

At the risk of underthinking this, as a VTTVX owner myself I'm thinking that the TIPS might be enough to keep VTINX from slipping below the 'efficient frontier' of the 30/70-to-70/30 theory, performance-wise. Sort of secret-sauce-ing with the stocks, to keep one ahead of inflation ...?

Foolish perhaps, but I think of VTINX as more a like a 40/60 fund than a 30/70 (see it's NAV performance vs. Wellesley -- pretty close). (The new Portfolio Visualizer site doesn't work right on my phone, else I'd be referencing the total-return numbers.)



Bonus Question: in your estimation is VTINX 'good enough' as a sole holding for a retiree in their early 70s, to keep them ahead of inflation, presuming a sub-4% withdrawal rate?

[Random Musings]

TR 20xx funds, as discussed many times, most likely won't reflect what each individuals risk needs are at that point of time in the fund date. Let alone the fact that many investors on this board have both taxable and tax deferred accounts and setting up a portfolio to take that into account isn't too complicated (for a strong majority of members on this forum, I suspect). I also concur that they under utilize TIPs during the retirement phase.

Saying that, for general public consumption, there are far more paths, some of them outright dangerous, that won't get you to Dublin.

RM

[gavinsiu]

At the risk of underthinking this, as a VTTVX owner myself I'm thinking that the TIPS might be enough to keep VTINX from slipping below the 'efficient frontier' of the 30/70-to-70/30 theory, performance-wise. Sort of secret-sauce-ing with the stocks, to keep one ahead of inflation ...?

Foolish perhaps, but I think of VTINX as more a like a 40/60 fund than a 30/70 (see it's NAV performance vs. Wellesley -- pretty close). (The new Portfolio Visualizer site doesn't work right on my phone, else I'd be referencing the total-return numbers.)



Bonus Question: in your estimation is VTINX 'good enough' as a sole holding for a retiree in their early 70s, to keep them ahead of inflation, presuming a sub-4% withdrawal rate?

I would say that it's probably good enough to hold for a 4% + inflation withdraw for 30 years, which would exceed lifespan of most people in their 70's.

[Lawrence of Suburbia]

At the risk of underthinking this, as a VTTVX owner myself I'm thinking that the TIPS might be enough to keep VTINX from slipping below the 'efficient frontier' of the 30/70-to-70/30 theory, performance-wise. Sort of secret-sauce-ing with the stocks, to keep one ahead of inflation ...?

Foolish perhaps, but I think of VTINX as more a like a 40/60 fund than a 30/70 (see it's NAV performance vs. Wellesley -- pretty close). (The new Portfolio Visualizer site doesn't work right on my phone, else I'd be referencing the total-return numbers.)



Bonus Question: in your estimation is VTINX 'good enough' as a sole holding for a retiree in their early 70s, to keep them ahead of inflation, presuming a sub-4% withdrawal rate?

I would say that it's probably good enough to hold for a 4% + inflation withdraw for 30 years, which would exceed lifespan of most people in their 70's.

Thanks. Currently VTTVX is my main (~55%) holding in tax-deferred, which 'settles' into VTINX when I turn 80. So my CFP's advice seems pretty good right now. I keep Wellesley as a nod towards thoughtful active management and current income, DODWX in my Roth to keep growing for future needs, TIAA Traditional to convert to a SPIA in near future (unless inflation takes off as threatened by the clickbait brigade on YouTube).

[Northern Flicker]

I think that is right.

the other way to think about it is that in the terminal end state, the target fund is allocated assuming one is drawing down from it- RMD's etc. The Vanguard Target Retirement Income fund (VTINX) has 17.2% in 0-5 year TIPS (VTAPX). So you could think of that as 5 years @3.44% withdrawal per year (5*3.44=17.2). So you can think of the fund as having 17.2% in a liabilty-matching portfolio (LMP) and a Risk portfolio (RP) where the 82.8% in the RP is allocated 36/64 stocks/bonds.

cheers,
grok

The only problem there is that thinking of it in terms of LMP is that it implies a 5 year remaining lifespan for the individual.

They are not intended to be an LMP.

They are to provide a good source of liquidity when inflation accelerates, and intermediate bonds and stocks are repricing due to increases in discount rates.

There was a Vanguard white paper about it, which I've been unable to find. I've posted about the strategy before based on Vanguard's description of it (and before the recent bout of accelerating inflation). The strategy worked as projected in 2021-2023.

Fidelity essentially copied Vanguard by incorporating short TIPS and hedged int'l bonds into their Freedom Index product suite.

[grok87]

The only problem there is that thinking of it in terms of LMP is that it implies a 5 year remaining lifespan for the individual.

They are not intended to be an LMP.

They are to provide a good source of liquidity when inflation accelerates, and intermediate bonds and stocks are repricing due to increases in discount rates.

There was a Vanguard white paper about it, which I've been unable to find. I've posted about the strategy before based on Vanguard's description of it (and before the recent bout of accelerating inflation). The strategy worked as projected in 2021-2023.

Fidelity essentially copied Vanguard by incorporating short TIPS and hedged int'l bonds into their Freedom Index product suite.

thanks for mentioning the white paper. i think this is it?
https://institutional.vanguard.com/cont ... Online.pdf

cheers,
grok

Short-term Treasury Inflation-Protected
Securities (TIPS)
A downward-sloping glide path ensures that throughout their lifetime, investors will balance
stability and growth. In most cases, their wages can be seen as a recurring bond coupon, providing
stability. Hence, balance is achieved by changing the risk taken in their financial capital. Entering
the retirement phase, the typical investor’s human capital is much smaller than their financial
capital. This would make it prudent to reduce their overall equity exposure. To mitigate
exposure to short-term inflation shocks at the same time, we allocate an increasing proportion
of bonds toward short-term TIPS, which have a much higher inflation beta than U.S. bonds, as
shown in Figure 6. Inflation beta represents how reactive or variable the asset is to unexpected
inflation. A well-correlated asset with high inflation beta can be a good choice to help secure
spending from the portfolio

[jimkinny]

Sure, but with 60-70% bonds, why take inflation risk at all? I understand a 30 year old taking inflation risk, but why should someone near retirement or in retirement take that risk. I do not understand why Vanguard keeps nominal bonds in these high percentage bonds, target date funds.

[gavinsiu]

Sure, but with 60-70% bonds, why take inflation risk at all? I understand a 30 year old taking inflation risk, but why should someone near retirement or in retirement take that risk. I do not understand why Vanguard keeps nominal bonds in these high percentage bonds, target date funds.

What about deflation scenarios? It's hard to think of them now, but certain country like China have been having a bit of deflation.

[jimkinny]

Sure, but with 60-70% bonds, why take inflation risk at all? I understand a 30 year old taking inflation risk, but why should someone near retirement or in retirement take that risk. I do not understand why Vanguard keeps nominal bonds in these high percentage bonds, target date funds.

What about deflation scenarios? It's hard to think of them now, but certain country like China have been having a bit of deflation.

Vanguard's ST TIPS fund as of several weeks ago held notes maturing from 2025 to 2029 and indicate they will hold 0-5 years maturity. Not certain of course but even if they would sell a note short of maturity, the markets would account for redemption at mautiry at face value. That's my theory and I am sticking to it, for now anyway.

[gavinsiu]

Part of it may be reluctance to use tips for some reason. It may take time for an asset to be adopted. This may be good since it prevents untested assets like bitcoin to be added.

[Northern Flicker]

Sure, but with 60-70% bonds, why take inflation risk at all? I understand a 30 year old taking inflation risk, but why should someone near retirement or in retirement take that risk. I do not understand why Vanguard keeps nominal bonds in these high percentage bonds, target date funds.

We may agree or disagree with Vanguard's position, but the position is that a mix of stock and nominal bonds protect against inflation over medium and long term periods, while short TIPS are available to withdraw from over shorter periods.

There are other lifecycle models that would hold say 20-25% stock and 75-80% TIPS. I've even seen a proposed retiree portfolio that is a mix of VT, VTIP, and VAIPX posted on BH.

[Northern Flicker]

They are not intended to be an LMP.

They are to provide a good source of liquidity when inflation accelerates, and intermediate bonds and stocks are repricing due to increases in discount rates.

There was a Vanguard white paper about it, which I've been unable to find. I've posted about the strategy before based on Vanguard's description of it (and before the recent bout of accelerating inflation). The strategy worked as projected in 2021-2023.

Fidelity essentially copied Vanguard by incorporating short TIPS and hedged int'l bonds into their Freedom Index product suite.

thanks for mentioning the white paper. i think this is it?
https://institutional.vanguard.com/cont ... Online.pdf

cheers,
grok

That seems to be a different, but even more comprehensive description than what I remember (which maybe just is a memory fault on my part).

[Curly]

Schwab's target date index funds show SCHP starting to phase in with the 2030 fund (SWYEX). SCHP is a fund with longer duration compared to the shorter-term TIPS Vanguard uses.

The Schwab funds show SCHO (short-term treasuries) phasing in with the 2045 fund (SWYHX), with SCHO and SCHP being roughly equal to each other by percentages starting between the 2030 and 2025 funds.

Forum members who have more knowledge about TIPS than I do might have some good comments about the merits of the Schwab portfolio vs the merits of the VG portfolio.

[muffins14]

One newbie type question, how does the duration matching work. Suppose my life expectency is 6 years, duration matching would mean I pick a 6 year duration for my bonds?

3 years, assuming you spend equally all 6 years

[jimkinny]

Sure, but with 60-70% bonds, why take inflation risk at all? I understand a 30 year old taking inflation risk, but why should someone near retirement or in retirement take that risk. I do not understand why Vanguard keeps nominal bonds in these high percentage bonds, target date funds.

We may agree or disagree with Vanguard's position, but the position is that a mix of stock and nominal bonds protect against inflation over medium and long term periods, while short TIPS are available to withdraw from over shorter periods.

There are other lifecycle models that would hold say 20-25% stock and 75-80% TIPS. I've even seen a proposed retiree portfolio that is a mix of VT, VTIP, and VAIPX posted on BH.

Explain how nominal bonds protect against inflation? Stocks do.

[AlwaysLearningMore]

Sure, but with 60-70% bonds, why take inflation risk at all? I understand a 30 year old taking inflation risk, but why should someone near retirement or in retirement take that risk. I do not understand why Vanguard keeps nominal bonds in these high percentage bonds, target date funds.

TIPS availability? (Guessing)

[Northern Flicker]

Schwab's target date index funds show SCHP starting to phase in with the 2030 fund (SWYEX). SCHP is a fund with longer duration compared to the shorter-term TIPS Vanguard uses.

The Schwab funds show SCHO (short-term treasuries) phasing in with the 2045 fund (SWYHX), with SCHO and SCHP being roughly equal to each other by percentages starting between the 2030 and 2025 funds.

Forum members who have more knowledge about TIPS than I do might have some good comments about the merits of the Schwab portfolio vs the merits of the VG portfolio.

Vanguard uses a mix of total bond and hedged int'l bonds for their nominal bond portfolio, whereas short TIPS and intermediate treasuries would be the better comparison with short treasuries and intermediate TIPS.

If we compare short treasuries plus intermediate TIPS eith short TIPS plus intermediate treasuries, I'd think it is close to a wash. If the mix of fixed and inflation-indexed yield, and duration are both held approximately constant, whether the inflation indexing is done for the short or intermediate assets generally won't have a major impact.

The drivers of differences would be how inflation expectations and thus TIPS breakevens are changing at different points on the yield curve, as that determines how much of an interest rate change is nominal rates moving and how much of it is real rates moving.

When stocks are added to the mix, the difference is further diluted. Here is a backtest covering the recent inflationary period that compares 50% stock, 25% short TIPS, 25% intermediate treasuries with 50% stock, 25% short treasuries, 25% intermediate TIPS:

https://www.portfoliovisualizer.com/bac ... cniSCMr3XX

[Northern Flicker]

We may agree or disagree with Vanguard's position, but the position is that a mix of stock and nominal bonds protect against inflation over medium and long term periods, while short TIPS are available to withdraw from over shorter periods.

There are other lifecycle models that would hold say 20-25% stock and 75-80% TIPS. I've even seen a proposed retiree portfolio that is a mix of VT, VTIP, and VAIPX posted on BH.

Explain how nominal bonds protect against inflation? Stocks do.

Over intermediate and longer terms, appropriate mixes of stocks and nominal bonds generally offer inflation protection. Portfolio behavior is what matters. Stocks and TIPS with no nominal bonds may offer even better inflation protection, but are more exposed to other risks.

We can define inflation risk as the risk of inflation being higher than expected. Or we can define it more broadly as the risk of a negative or too low of real return regardless of macroeconomic outcome. Stocks can have a negative real return under any condition, but are especially vulnerable to that in times of deflation. TIPS are a poor diversifier of that risk.

[Circle the Wagons]

Explain how nominal bonds protect against inflation? Stocks do.

Over intermediate and longer terms, appropriate mixes of stocks and nominal bonds offer inflation protection. Portfolio behavior is what matters. Stocks and TIPS with no nominal bonds may offer even better inflation protection, but are more exposed to other risks.

Such as?

[grok87]

Over intermediate and longer terms, appropriate mixes of stocks and nominal bonds offer inflation protection. Portfolio behavior is what matters. Stocks and TIPS with no nominal bonds may offer even better inflation protection, but are more exposed to other risks.

Such as?

deflation

[Northern Flicker]

Over intermediate and longer terms, appropriate mixes of stocks and nominal bonds offer inflation protection. Portfolio behavior is what matters. Stocks and TIPS with no nominal bonds may offer even better inflation protection, but are more exposed to other risks.

Such as?

I updated the posting to clarify further.

[Curly]

Northern Flicker,

Thanks for posting this analysis and comparison--it was helpful.

Curly 

Schwab's target date index funds show SCHP starting to phase in with the 2030 fund (SWYEX). SCHP is a fund with longer duration compared to the shorter-term TIPS Vanguard uses.

The Schwab funds show SCHO (short-term treasuries) phasing in with the 2045 fund (SWYHX), with SCHO and SCHP being roughly equal to each other by percentages starting between the 2030 and 2025 funds.

Forum members who have more knowledge about TIPS than I do might have some good comments about the merits of the Schwab portfolio vs the merits of the VG portfolio.

Vanguard uses a mix of total bond and hedged int'l bonds for their nominal bond portfolio, whereas short TIPS and intermediate treasuries would be the better comparison with short treasuries and intermediate TIPS.

If we compare short treasuries plus intermediate TIPS eith short TIPS plus intermediate treasuries, I'd think it is close to a wash. If the mix of fixed and inflation-indexed yield, and duration are both held approximately constant, whether the inflation indexing is done for the short or intermediate assets generally won't have a major impact.

The drivers of differences would be how inflation expectations and thus TIPS breakevens are changing at different points on the yield curve, as that determines how much of an interest rate change is nominal rates moving snd how much of it is real rates moving.

When stocks are added to the mix, the difference is fairly diluted. Here is a backtest covering the recent inflationary period that compares 50% stock, 25% short TIPS, 25% internediate treasuries with 50% stock, 25% short treasuries, 25% intermediate TIPS:

https://www.portfoliovisualizer.com/bac ... cniSCMr3XX

[Circle the Wagons]

Explain how nominal bonds protect against inflation? Stocks do.

Over intermediate and longer terms, appropriate mixes of stocks and nominal bonds generally offer inflation protection. Portfolio behavior is what matters. Stocks and TIPS with no nominal bonds may offer even better inflation protection, but are more exposed to other risks.

We can define inflation risk as the risk of inflation being higher than expected. Or we can define it more broadly as the risk of a negative or too low of real return regardless of macroeconomic outcome. Stocks can have a negative real return under any condition, but are especially vulnerable to that in times of deflation. TIPS are a poor diversifier of that risk.

TIPS have no deflation risk in real dollar terms.

In fact, if you preference auction or low inflation factor TIPS, you might hit the jackpot under deflation given the floor of return of original principal.

(If you even believe sustained deflation is more than a miniscule risk)

[gavinsiu]

TIPS have no deflation risk in real dollar terms.

In fact, if you preference auction or low inflation factor TIPS, you might hit the jackpot under deflation given the floor of return of original principal.

(If you even believe sustained deflation is more than a miniscule risk)

While you will get your principal back netting you a real return it’s still so so compare to a nominal bond. If you know deflation is coming you probably want to have nominal bonds.

I guess that’s always a debate I have on how much tip vs nominal I should have. I have been indecisive and carry half nominal and half tips.

[Northern Flicker]

Over intermediate and longer terms, appropriate mixes of stocks and nominal bonds generally offer inflation protection. Portfolio behavior is what matters. Stocks and TIPS with no nominal bonds may offer even better inflation protection, but are more exposed to other risks.

We can define inflation risk as the risk of inflation being higher than expected. Or we can define it more broadly as the risk of a negative or too low of real return regardless of macroeconomic outcome. Stocks can have a negative real return under any condition, but are especially vulnerable to that in times of deflation. TIPS are a poor diversifier of that risk.

TIPS have no deflation risk in real dollar terms.

Stocks do though, and TIPS do not do a good job of diversifying that risk.

[Tyler Aspect]

No doubt good portfolio construction analysts will have noticed short term TIPs as a replacement of mortgage backed securities. If the simulated environments have higher inflation or wider interest rate swings this change would be pretty safe to make.

[Tramper Al]

My investment plan calls for a certain % of asset allocation to TIPS, which way back when meant the standard TIPS index fund (say duration 6.6 years) - I guess we would call that intermediate term? Anyway, now forced into these short term TIPS (duration 2.4 years) funds in a workplace account, for example, does anyone have an opinion as to how to account for them? I reason that I am getting roughly the same CPI-inflation protection exposure? But somewhat less of a duration, in terms of real rates? Anything less than 100% vs. the old TIPS funds I would call cash. My spreadsheet is smart enough to fix things like this - say for instance an emerging markets fund is only 80% EM - but only if I am smart enough to give it some weightings to work with. Thanks.

[sycamore]

My investment plan calls for a certain % of asset allocation to TIPS, which way back when meant the standard TIPS index fund (say duration 6.6 years) - I guess we would call that intermediate term? Anyway, now forced into these short term TIPS (duration 2.4 years) funds in a workplace account, for example, does anyone have an opinion as to how to account for them? I reason that I am getting roughly the same CPI-inflation protection exposure? But somewhat less of a duration, in terms of real rates? Anything less than 100% vs. the old TIPS funds I would call cash. My spreadsheet is smart enough to fix things like this - say for instance an emerging markets fund is only 80% EM - but only if I am smart enough to give it some weightings to work with. Thanks.

My two cents: VTIP is not like cash. The fund had a max drop of 4.5% during the recent period of rising rates.

Short-term it may be, but it's still made of bonds.

[Tramper Al]

My investment plan calls for a certain % of asset allocation to TIPS, which way back when meant the standard TIPS index fund (say duration 6.6 years) - I guess we would call that intermediate term? Anyway, now forced into these short term TIPS (duration 2.4 years) funds in a workplace account, for example, does anyone have an opinion as to how to account for them? I reason that I am getting roughly the same CPI-inflation protection exposure? But somewhat less of a duration, in terms of real rates? Anything less than 100% vs. the old TIPS funds I would call cash. My spreadsheet is smart enough to fix things like this - say for instance an emerging markets fund is only 80% EM - but only if I am smart enough to give it some weightings to work with. Thanks.

My two cents: VTIP is not like cash. The fund had a max drop of 4.5% during the recent period of rising rates.

Short-term it may be, but it's still made of bonds.

Hi,
I think you have misunderstood. It is a spreadsheet adjustment, the short term TIPS fund might be weighted (for example) as something like 95% TIP and 5% cash. I am aware of it's composition, duration and relative performance.

[sycamore]

My two cents: VTIP is not like cash. The fund had a max drop of 4.5% during the recent period of rising rates.

Short-term it may be, but it's still made of bonds.

Hi,
I think you have misunderstood. It is a spreadsheet adjustment, the short term TIPS fund might be weighted (for example) as something like 95% TIP and 5% cash. I am aware of it's composition, duration and relative performance.

I was just arguing to treat it as 100% TIPS.

But if you want to apportion things, I would look to VTIP's composition: https://investor.vanguard.com/investmen ... omposition. Under "Distribution by maturity" I see 20.90% for "Under 1 year". So maybe 80% TIP and 20% cash?

[Northern Flicker]

Glad it was helpful. It is worth noting that the allocation to SCHP is only 6.5% in the Schwab 2010 fund. (Schwab does not seem to merge the funds into a Target income fund after the target year passes). So there is significantly less inflation indexing of the fixed income yields in the Schwab fund relative to VTINX (Vanguard Target Retirement Income). However, Schwab portfolio allocates 44% assets to stocks. The Vanguard fund is at 30% stock, which is lower than I would want.

Northern Flicker,

Thanks for posting this analysis and comparison--it was helpful.

Curly 

Vanguard uses a mix of total bond and hedged int'l bonds for their nominal bond portfolio, whereas short TIPS and intermediate treasuries would be the better comparison with short treasuries and intermediate TIPS.

If we compare short treasuries plus intermediate TIPS eith short TIPS plus intermediate treasuries, I'd think it is close to a wash. If the mix of fixed and inflation-indexed yield, and duration are both held approximately constant, whether the inflation indexing is done for the short or intermediate assets generally won't have a major impact.

The drivers of differences would be how inflation expectations and thus TIPS breakevens are changing at different points on the yield curve, as that determines how much of an interest rate change is nominal rates moving snd how much of it is real rates moving.

When stocks are added to the mix, the difference is fairly diluted. Here is a backtest covering the recent inflationary period that compares 50% stock, 25% short TIPS, 25% internediate treasuries with 50% stock, 25% short treasuries, 25% intermediate TIPS:

https://www.portfoliovisualizer.com/bac ... cniSCMr3XX

[gavinsiu]

For some reason, Schwab index fund appears to be more tax efficient

Schwab
https://www.morningstar.com/funds/xnas/ ... erformance

Fidelity
https://www.morningstar.com/funds/xnas/ ... erformance

Vanguard
https://www.morningstar.com/funds/xnas/ ... erformance

Schwab fund seems to have lower dividend and no cap gain.

[balbrec2]

Anyone who hasn't noticed, doesn't know what they're investing in.
Very sad.

[gavinsiu]

Anyone who hasn't noticed, doesn't know what they're investing in.
Very sad.

It’s part of why you invest in target funds. You don’t know exactly what’s in the portfolio but you know it’s boring (maybe there is a target 2099 fill with bitcoins?). It helps with people who can’t see the portfolio as a whole so they are constantly selling low and buying high.

[Northern Flicker]

For some reason, Schwab index fund appears to be more tax efficient

Schwab
https://www.morningstar.com/funds/xnas/ ... erformance

Fidelity
https://www.morningstar.com/funds/xnas/ ... erformance

Vanguard
https://www.morningstar.com/funds/xnas/ ... erformance

Schwab fund seems to have lower dividend and no cap gain.

These work best when held in a tax-qualified account (401k, IRA, etc).

[gavinsiu]

These work best when held in a tax-qualified account (401k, IRA, etc).

They do, but I am wondering if they are useful in taxable if you are in a low tax bracket.