With inflation in the news, investors and their advisors are looking for ways to preserve the purchasing power of hard earned capital. One popular investment option is U.S. government issued TIPS.
TIPS stands for Treasury Inflation-Protected Securities. Treasury protects investors against inflation by adjusting the principal of the security on a regular basis based on trends in the consumer price index. The coupon percentage does not adjust, however, the coupon payment will vary with the adjustment in principal. To learn more about TIPS, see Treasury’s website.
Inflation ETFs give investors a low cost way to invest in TIPS. Barclays’ $6 billion iShares Barclays Capital TIPS fund (TIP) tracks the Barclays Capital U.S. Treasury TIPS index of 22 U.S. TIPS bonds. An alternative TIPS fund is the newer State Street SPDR Barclays TIPS ETF (IPE). Both funds hold AAA rated government inflation-protected securities and have low expense ratios.
One caveat on TIPS investing. While TIPS help protect your capital from the ravages of inflation, they also cap your upside. As result, keep a close eye on management expenses, tax implications and the price of the securities in terms of “real yield” – the interest earned above and beyond inflation. Left unmanaged, all three factors can work together to drive the real return of TIPS into negative territory.
The recent rush to put money into TIPS has driven up the price of the bonds causing the real yield to drop to 1.3% on ten-year TIPS and 0.4% on five-year TIPS. Best practice is to invest in TIPS when the real yield is above 2%. Consult with your financial advisor before investing.