I don't understand the recent surge in TIP

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fredflinstone
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I don't understand the recent surge in TIP

Post by fredflinstone »

iShares Barclays TIPS Bond Fund (ETF) rose to a 2-year high yesterday. Shouldn't TIP be dropping as fears of deflation increase?
richard
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Post by richard »

Real rates are falling, so the value of bonds, including TIPS, goes up. TIPS are treasury securities, which benefit from moves to safety and liquidity in bad economic times. These are more than enough to counteract deflation influences.
faltuk1
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Post by faltuk1 »

richard wrote:Real rates are falling, so the value of bonds, including TIPS, goes up. TIPS are treasury securities, which benefit from moves to safety and liquidity in bad economic times. These are more than enough to counteract deflation influences.
You would expect real rates component of the TIPS to go up, if the deflation is expected. Isn't that what happened in late 2008, when TIPS real yield went up above 3% due to deflation expectation.
hsv_climber
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Post by hsv_climber »

FED has announced yesterday that they would buy more US bonds, so all US bond funds were up yesterday because of that.
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stratton
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Post by stratton »

faltuk1 wrote:
richard wrote:Real rates are falling, so the value of bonds, including TIPS, goes up. TIPS are treasury securities, which benefit from moves to safety and liquidity in bad economic times. These are more than enough to counteract deflation influences.
You would expect real rates component of the TIPS to go up, if the deflation is expected. Isn't that what happened in late 2008, when TIPS real yield went up above 3% due to deflation expectation.
No.

That was a liquidity issue where anything not nominal treasuries were being sold. Including TIPS which aren't as liquid as regular treasuries since there is only about 1/20 as many.

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tomis916
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Post by tomis916 »

I have been perplexed with the same question.

I understand that the overall yields on TIPS are going down, but it seems that the real rate spread between TIPS and regular Treasuries is also reducing while the fears of deflation are on the increase.
maxfax
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Post by maxfax »

TIPS hedge inflation risk but NOT interest rate risk. Interest rates sometimes change because of changing ideas about future inflation, but for the past 10 years the expected inflation rate has remained fairly static. All bond yields have dropped steadily none the less. This is interest rate risk.

The changes in inflation have really very little effect on TIPS valuations. It is the changes in market interest rates that has huge impacts on valuation because they have large durations.

There have been at least a half dozen threads in the last few months trying to explain the difference between these two risks. Try a search.
Jack
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Post by Jack »

tomis916 wrote:I have been perplexed with the same question.

I understand that the overall yields on TIPS are going down, but it seems that the real rate spread between TIPS and regular Treasuries is also reducing while the fears of deflation are on the increase.
This is exactly as expected. If inflation is expected, then the spread between nominal bonds and TIPS would increase because nominal bond investors would demand a higher yield to compensate for future inflation and the spread would increase. Likewise if low inflation or deflation are expected then nominal bond investors would require less yield to compensate for future inflation and the spread between nominal bonds and TIPS would decrease. In the hypothetical case, if traders expected zero inflation, then TIPS and nominal bonds would have the same yield -- there would be no difference between holding one or the other -- and the spread would be zero.

Right now the spread is very low indicating that bond traders do not expect much inflation for a long time.
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dave.d
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Post by dave.d »

In the spirit of Larry Swedroe's TIPS switching strategy, I have recently moved some money from both TIPS and nominal bonds into a stable value fund in my 401(k). As best I can figure, my T. Rowe Price Stable Value Trust is yielding ~3.75% nominal with no duration or real rate risk, similar to the TSP G fund (except my fund has credit risk, but I think fairly modest). With the 2-year TIPS breakeven just under 1%, that looks to me like a dandy place to hide my bond money and earn ~2.8% real. I see no reason sufficient to own short-term bonds (real rate=bupkus) where I can own that instead.
tomis916
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Post by tomis916 »

Thanks, Jack! Your explanation makes perfect sense. I don't know why I was having trouble getting my brain around it.
matt
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Post by matt »

The default assumption when real rates are declining is that the economy is weakening. Market factors such as the low yields on everything else may be putting additional downward pressure on TIPS, but I wouldn't be to quick to ignore the default.
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nisiprius
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Post by nisiprius »

A two-year-high it may be, but I think "surge" is overstating it:
Image
I'm only seeing a $2 "surge," $5 if you measure from the April dip, and to this eyeball $2-$5 ups and downs look like par for the course. I don't see anything obviously out of the ordinary. Do you?

Mid-2007 to end of 2009 certainly are disturbingly weird, but I sure don't see anything like that happening at the moment.

For me, "prices fluctuate" will do as an explanation.
Annual income twenty pounds, annual expenditure nineteen nineteen and six, result happiness; Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.
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