I Bond dilemma: Buy in October? Or wait until November?

My opinion: Long-term investors should buy in October. Short-term term investors could wait until November. But whatever … buy I Bonds in 2021.

By David Enna, Tipswatch.com

With the release of the September inflation report on Wednesday, we got rather stunning news: All U.S. Series I Savings Bonds will have an inflation-adjusted interest rate of 7.12%, annualized, for six months. That rate will launch immediately for I Bonds purchased in November, or in six months for I Bonds purchased in October.

The key thing is: All I Bond investors will get that 7.12% eventually. But if you purchase an I Bond before the end of October, you will get an annualized return of 3.54% for six months, and then the 7.12% for six months. That adds up to a total return of about 5.33% for the year, a stellar number in our dreary world of ultra-low interest rates.

But the obvious question is: Should you buy in October to lock in that 3.54% rate, or wait until November to start off with a bang at 7.12% for six months? Let’s take a look at the pluses and minuses.

Is this a long-term investment?

Do you plan on holding this I Bond for at least five years, when it can be redeemed without the three-month interest penalty? If so, I think buying in October makes more sense than waiting for November’s higher rate. The reason: We don’t know what the next inflation-adjusted rate will be, the one that will follow 7.12%. It will be based on inflation from September 2021 to March 2022. It could be higher, yes, or it could be lower.

But I can assure you that in the next five years, it is highly likely that you will see an inflation-adjusted rate lower than 3.54%. That rate, based on official U.S. inflation from September 2020 to March 2021, was the I Bond’s highest variable rate in 10 years (dating back to the 4.6% variable rate set in May 2011). Because that 3.54% annualized rate is so attractive in today’s market, I encourage long-term I Bond investors to purchase up to the $10,000 per person cap in October, locking in the 3.54% rate for six months, and then 7.12% for six months.

Conclusion: Long-term I Bond investors should make the purchase in October.

Is this a short-term investment?

A lot of investors are looking at dabbling in I Bonds for the first time as a short-term investment, possibly for a period as short as 11 months. You can purchase an I Bond near the end of a month and get full interest credit for that month. Then, in the same month a year later, you can redeem it, near the beginning of the month. That cuts the required holding period to 11 months and a couple days.

This short-term investment makes a lot of sense in our current market, getting way-above-market returns on an extremely safe investment. And if this is the strategy you are considering, I think buying in November makes a bit more sense than buying in October. If you buy in October and redeem after a year, you will lose three months of interest at the 7.12% level, cutting your total return on a $10,000 investment down to $355. By waiting three months longer, you can boost that return to $533, because the three-month penalty will apply to a potentially lower variable rate.

If you buy in November, your worst case scenario is a return of $356 after 12 months, even if the next variable rate drops to 0.0%. (A three-month penalty on zero interest is zero.) So buying in November, and then redeeming in one year, makes more sense than buying in October.

But let’s take a look at potential inflation scenarios for that next rate reset on May 1, determined by inflation from September 2021 to March 2022. That will give us a more accurate picture of the likely effects of redeeming in either 12 or 15 months. Sorry, but here comes a whole bunch of numbers, with the only changes coming in column 2 for “Buy in November.” If you buy in October, you will know your outcomes for 12 and 15 months, because those rates have been set:

In lower-inflation scenarios, buying in October and holding for 15 months will pay off versus the buy-in-November strategy. But that’s not true after 12 months, because of the high-rate three-month interest penalty imposed on the October purchase. In all scenarios, the November strategy wins for a redemption after 12 months.

I have no idea where inflation will be heading from September to March, but I’d guess it will result in a rate reset of 2.5% to 3.5% in May. The higher the variable rate, the higher the advantage for the November purchase strategy.

Conclusion: If you are planning to buy an I Bond and redeem it in 12 months, then the buy-in-November strategy is the winner. If you might hold for 15 months, though, the advantage only comes with higher inflation in the September to March period.

Do you think the Treasury will increase the I Bond’s fixed rate in November?

I think this is highly unlikely, but anything is possible. The Treasury does weird things, sometimes. What if it suddenly decides to give I Bonds a big boost for small-scale savers? Don’t think that will happen. It’s not at all likely.

Here is a chart showing the real yields of 5- and 10-year Treasury Inflation-Protected Securities at the time of every recent I Bond rate reset where the rate was above 0.0%.

Note that in no case was the yield of a 10-year TIPS below zero when the I Bond fixed rate was set above 0.0%. The current 10-year real yield is -0.96%. The Treasury really doesn’t need to do anything to give I Bonds a boost. They already have a 96-basis-point advantage over a 10-year TIPS.

Conclusion: There’s not much hope the Treasury will raise the I Bond’s fixed rate above 0.0% for the November 1 reset. But if you believe there is a chance, go ahead and wait for the reset and buy in November.

Don’t overthink this …

I actually believe that buying I Bonds in October, and/or buying in November, are both good moves. (I bought my 2021 allocation in January, by the way.) For a long-term investor, buy in October to lock down that 3.54% rate for six months. For a short-term investor, especially one looking to redeem in the shortest time possible, buy in November.

But, whatever you decide: Buy I Bonds in 2021. Can’t go wrong with that decision.

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Feel free to post comments or questions below. If it is your first-ever comment, it will have to wait for moderation. After that, your comments will automatically appear.

David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. The investments he discusses can purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.

Posted in I Bond, Inflation, Savings Bond | 7 Comments

Inflation report sets I Bond’s inflation-adjusted rate at 7.12% and Social Security COLA at 5.9%

Overall U.S. inflation ran slightly higher than expected in September

By David Enna, Tipswatch.com

The inflation news this morning is historic. So let’s get right to it.

The Consumer Price Index for All Urban Consumers (CPI-U) increased 0.4% in September on a seasonally adjusted basis, the U.S. Bureau of Labor Statistics reported today. Over the last 12 months, the all-items index increased 5.4% before seasonal adjustment. Both of those numbers were slightly higher than the consensus forecasts.

Core inflation, which removes food and energy, matched the forecasts of 0.2% for the month and 4.0% for the year.

The September report was particularly brutal for middle-income consumers. Food costs rose a sharp 0.9% in September and are now up 4.6% over the last 12 months. The index for meats, poultry, fish, and eggs rose 2.2% over the month as the index for beef rose 4.8%.

Shelter costs rose 0.4% and are up 3.2% year over year. The BLS said food and shelter costs contributed more than half of the overall increase in the all-items index. Gasoline prices, however, were also up 1.2% for the month, and up 42.1% year over year. Natural gas prices increased 2.7%.

Some areas saw declining prices. Airline fares were down 6.4% in the month, after falling 9.1% in August. Apparel costs dropped 1.1%. The index for used cars and trucks fell 0.7%, continuing to decline after it decreased 1.5% in August. But used vehicle costs remain 24.4% higher than a year ago.

Here is the 12-month trend in all-items and core inflation, showing that the steep increases in inflation are now leveling off at historically high levels.:

What this means for I Bonds and TIPS

Investors in U.S. Series I Savings Bonds and Treasury Inflation-Protected Securities are also interested in non-seasonally adjusted inflation, which is used to set future interest rates for I Bonds and adjust principal balances for TIPS. For September, the BLS set the CPI-U inflation index at 274.310, an increase of 0.27% over the August number.

For I Bonds. The September inflation report was the last of six that will determine the November 1 reset of the I Bond’s inflation-adjusted rate, which is combined with a fixed rate to determine an I Bond’s composite interest rate for six months. Over the March to September period, inflation rose 3.56%, the largest six-month increase in the 23-year history of I Bonds. That increase means the inflation-adjusted rate will rise to 7.12%, annualized, for six months. That is up from 3.54% currently.

Here are the numbers used in this calculation:

The I Bond’s fixed rate — which is currently 0.0% — will also be reset on November 1, but I think it is highly likely to remain at 0.0%, which means the new composite rate will be 7.12%.

All holders of I Bonds will receive this 7.12% annualized rate for six months, but the start date of the higher rate will depend on when the I Bond was purchased. If you buy an I Bond before November 1, you will receive 3.54% for six months, and then 7.12% for six months, beginning in April. That totals out to an annual yield of about 5.33%.

Here is how the higher rate will be rolled out for I Bond investors, from TreasuryDirect:

Issue month of your bondNew rates take effect
JanuaryJanuary 1 and July 1
FebruaryFebruary 1 and August 1
MarchMarch 1 and September 1
AprilApril 1 and October 1
MayMay 1 and November 1
JuneJune 1 and December 1
JulyJuly 1 and January 1
AugustAugust 1 and February 1
SeptemberSeptember 1 and March 1
OctoberOctober 1 and April 1
NovemberNovember 1 and May 1
DecemberDecember 1 and June 1

So now the question arises: If you haven’t bought I Bonds up to the limit in 2021 (there is a purchase cap of $10,000 per person per year) should you buy before November 1, or after November 1? I will be writing more about this soon, but right now I still recommend buying in October to lock down that 5.33% annual return.

Want to know more about I Bonds? Read this: I Bond Manifesto: Why inflation-linked savings bonds can work as part of your emergency fund

For TIPS. The September inflation report means that principal balances for all TIPS will increase 0.27% in November, after an increase of 0.21% in October. TIPS principal balances have increased 5.4% over the last 12 months. Here are the new November Inflation Indexes for all TIPS.

What this means for the Social Security COLA

The September inflation report was the third of three — for July to September — that will set the Social Security Administration’s cost of living adjustment for 2022. The SSA uses a three-month average of a different index, the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W), to set its COLA.

For September, the BLS set CPI-W at 269.086, which produced a three-month average of 268.421, an increase of 5.9% over the same average for 2020. That means the Social Security COLA will be 5.9% for payments beginning in January. That increase (for a change) actually outstrips overall U.S. inflation, which has increased 5.4% over the last year.

This will be the highest Social Security COLA increase in 39 years, since the 7.2% adjustment for payments in 1983.

The Social Security Administration says the average monthly benefit for U.S. retirees is $1.543, so a 5.9% increase will raise that monthly benefit to $1,634. If you are in the Social Security “limbo” period — older than 62 but not yet taking benefits — your future benefits would also climb by this percentage.

However, recipients can also expect that Medicare Part B costs will rise in 2022, which will subtract — at least partly — from the higher benefits. The base premium is now $148.50 a month. I could see that rising to $158 a month, cutting the effect of the COLA increase by $9.50 a month. But this is just speculation.

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Feel free to post comments or questions below. If it is your first-ever comment, it will have to wait for moderation. After that, your comments will automatically appear.

David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. The investments he discusses can purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.

Posted in Investing in TIPS | 16 Comments

Coming October 13: The most significant inflation report in a decade

September inflation numbers should nail down the Social Security COLA at 5.8%+ and set the I Bond’s inflation adjusted rate at 6.5%+, annualized.

By David Enna, Tipswatch.com

Next Wednesday, at 8:30 a.m. EDT, we’re going to get a whopper of an inflation report. That is when the U.S. Bureau of Labor Statistics will release the official U.S. inflation numbers for September, setting in stone next year’s Social Security COLA and the next 6-month inflation-adjusted interest rate for U.S. Series I Savings Bonds.

Both Social Security and I Bonds will be getting historically high numbers: The Social Security COLA should be increasing 5.8% or more for payments beginning in January (the highest increase since 2008), and the next I Bond inflation-adjusted rate should soar to somewhere near 6.9%, annualized That would be the highest six-month variable rate in history. The next highest was 5.7% set in November 2005.

Let’s take a look at what’s coming up in next week’s inflation report.

Social Security COLA

The Social Security COLA is based on an unusual inflation index – CPI-W – and is determined by averaging the indexes for July, August and September and comparing that number with the same average for the year before. For 2021, the COLA was set at 1.3% with the release of the September inflation report on Oct. 13, 2020.

I have been projecting that the 2022 COLA looks likely to fall into a range of 5.8% to 6.2%. The July and August inflation reports have been in line with that projection. At this point, the data seem to point to a 5.8% increase in the Social Security COLA, but that will rise if inflation continues to surge in September’s inflation report.

We won’t know the actual COLA number until the September inflation report is released, completing the data needed for the 3rd quarter average of CPI-W. Here are the numbers so far:

So let’s be conservative and say that CPI-W (technically, the Consumer Price Index for Urban Wage Earners and Clerical Workers) increased by 0.2% in September. That would make the average for the indexes from July to September 268.366, an increase of 5.9% over the average for the same months of 2020. The Social Security COLA then would be set at 5.9% for payments in 2022.

The Social Security Administration currently estimates that the average retired beneficiary receives $1,555.25 a month, so a 5.9% increase would boost that monthly payment to about $1,647, an increase of $91.75 a month. If you are in the Social Security “limbo” period — older than 62 but not yet taking benefits — your future benefits would also climb by this percentage.

However, recipients can also expect that Medicare Part B costs will rise in 2022, which will subtract — at least partly — from the higher benefits. The base premium is now $148.50 a month. I could see that rising to $158 a month, cutting the effect of the COLA increase by $9.50 a month. But this is just speculation.

Also, read this: More details on the complex Social Security COLA formula

Series I Savings Bonds

I Bonds have two components that make up their composite rate (total yield): a fixed rate and an inflation rate.

  • The fixed rate is fixed for the entire life of any given I Bond. The fixed rate for newly-issued I Bonds is announced on May 1 and November 1 of each year, and applies to all I Bonds issued during that six-month period. The fixed rate is equivalent to the “real” yield of an I Bond, meaning the yield above inflation. It is currently set at 0.0% and is highly likely to remain at 0.0% at the November reset.
  • The inflation rate is based on the Consumer Price Index and is also announced every six months, on May 1 and November 1. The May rate is based on the change in the CPI-U from the previous September to March and the November rate on the change from March to September. This inflation adjustment applies to both existing I Bonds and newly-issued ones, but the timing of that adjustment depends on the original issue date of the I Bond.

An I Bond purchased before Oct. 31 will have a fixed rate of 0.0% and an inflation-adjusted rate of 3.54%, creating a composite annualized rate of 3.54% for six months.

We have completed five months of the six-month string to determine the next inflation-adjusted rate, which is currently running at 6.56% annualized. If inflation comes in at 0.2% for September (it could be higher), the annualized rate will jump to 6.96% for six months.

The formula used to set the inflation-adjusted variable rate for I Bonds doubles the six-month inflation number, creating an annualized rate of return, which investors get for six months. Here are the numbers so far, five months into the rate-setting period:

If the inflation-adjusted rate comes in around 6.9% it will be, by far, the highest six-month variable rate in the I Bond’s history, dating back to September 1998. There has never been a variable rate above 6.0%.

Purchases of I Bonds are limited to $10,000 per person, per year (plus an opportunity to get $5,000 in paper I Bonds in lieu of a federal income tax refund). So, should you buy before November 1, or after November 1?

I recommend buying before Oct. 31 to lock in the 3.54% rate for six months, and then you will get that close-to-7% rate for the next six months. Starting off with six months at 3.54% and then getting 6 months at 6.9% is super attractive in today’s market.

You have to hold an I Bond for 12 months before you can redeem. The combined rate over the year is going to top 5.2%, about 10 times what you can earn on a 1-year CD. But either way — before or after Nov. 1 — the investment is attractive. Also, keep in mind that the purchase cap resets on January 1, so you’ll be able to make another purchase getting the full six months of near-7% rate.

Also, read this: I Bond Manifesto: Why inflation-linked savings bonds can work as part of your emergency fund

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Feel free to post comments or questions below. If it is your first-ever comment, it will have to wait for moderation. After that, your comments will automatically appear.

David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. The investments he discusses can purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.

Posted in I Bond, Savings Bond, Social Security | 32 Comments

I Bond Manifesto: Why inflation-linked savings bonds can work as part of your emergency fund

It’s no secret that I’m a huge fan of U.S. Series I Savings Bonds, a simple, very safe investment that can accurately track — or exceed — official U.S. inflation without risking a dime. I’ve been pounding the table for I Bonds for a decade.

Over the next 12 months, I Bonds look likely to provide a yield of 5.0% (or more), about 10 times the return of best-in-nation insured savings accounts. More on that.

And now, Professor Zvi Bodie, a long-time advocate of inflation-protected investments, is on a mission: To persuade the Consumer Financial Protection Bureau to include I Bonds in its list of recommended investments for an investor’s “emergency fund,” a safe place to store cash for unexpected needs, like a job loss. He recruited me — along with inflation watchers Mel Lindauer and Michael Ashton — to help advance the cause. The result was this:

The I Bond Manifesto

Financial planners and investment advisors all tell you to create an emergency fund before you start investing in risky assets. Your emergency fund should be held in safe and liquid assets like FDIC-insured saving accounts. But interest rates on these accounts are close to zero and taxable. Moreover, if these accounts are retirement accounts such as an IRA, withdrawals before age 59 1⁄2 are subject to a 10% penalty in addition to taxes on the withdrawals.

So where should people invest their emergency funds? We say they should consider U.S. Treasury Series I Saving Bonds, commonly called I Bonds.

Background on I Bonds

First introduced in September 1998, I Bonds (the “I” stand for “Inflation”) are inflation-protected, are issued by the United States Treasury, and provide a guaranteed real rate of return for 30 years. This is in contrast to the nominal fixed rate of interest provided by most traditional bonds and CDs. The total yield of an I Bond is made up of two components: a fixed rate that remains the same for the 30-year life of the bond, and an inflation adjustment that’s reset every six months. The fixed rate is currently zero, and the last inflation adjustment in May 2021 was 3.54% per year. You add these two components together to arrive at the composite rate of 3.54% per year.

I Bonds were designed primarily for small savers/investors. You can buy a maximum of $10,000 of I Bonds a year for each Social Security number via TreasuryDirect. In addition you can buy them with any federal tax refund due to you, up to $5,000, for which you will receive paper I Bonds. You cannot hold them in a special retirement account, but the taxes due are deferred until maturity or the date they are redeemed. (Editor’s note: I Bonds must be held 12 months before you can redeem them.) If you redeem I Bonds prior to five years, you’ll lose the last three months’ interest. After holding them for five years, there is no penalty for redeeming I Bonds before maturity, except that the federal tax on the interest must be paid in the same year as the redemption.

I Bonds offer many benefits:

  1. They’re risk-free. They are obligations of the U.S. Treasury, so they are even more secure than Social Security benefits. (It is possible for the U.S. Treasury to default on these bonds, so strictly speaking they are not completely free of default risk as explained above.)
  2. They offer inflation protection. That’s especially important for retirees who no longer have wage increases to rely upon. With all the current government spending and deficits,inflation could return with a vengeance. I Bonds protect you against the ravages of future inflation.
  3. They’re tax-deferred. Even though you purchase I Bonds with after-tax money for your taxable account, they offer tax deferral for up to 30 years. You can elect to report the interest annually if you prefer, but most investors choose the default tax deferral option and thus only pay tax on the accumulated interest when they eventually redeem the I Bonds.
  4. They’re flexible. They offer a tax timing option. They can be redeemed any time between one and 30 years. That offers lots of flexibility after owning them for one year. This flexibility allows you to buy I Bonds when you’re in a high tax bracket and redeem them when you’re in a lower tax bracket, such as after you’ve retired or are temporarily out of work.
  5. They’re free from state and local taxation. This can mean higher after-tax returns for those investors who live in high-tax states, and they’re even better yet for folks who live in areas where they pay both state and local taxes.
  6. If used for qualifying educational expenses, the interest earned is free from federal taxes.
  7. They offer a put option. If future I Bonds offer a more attractive fixed rate, it may make economic sense to redeem the older lower-yielding I Bonds, pay the taxes due on the interest earned, and then buy the newer I Bonds with the higher fixed rate. (Remember, however, if you redeem I Bonds within the five years of purchase, you will forfeit the last three months of interest.)
  8. You can’t lose money. The composite rate can never go below 0%. I Bonds will never return less in nominal terms than you invested in them even if the country enters a prolonged period of deflation. You never lose the interest you’ve earned. In real terms you do better if there is deflation than if there is inflation. A recent bout of reported deflation took the I Bond composite yield to 0% for a six-month period. But as a result of the 0% “floor,” holders actually outstripped inflation by more than the guaranteed fixed rate during that period. So, if your I bond was worth $10,000 before that period of deflation, it would have been worth $10,000 after the deflation adjustment period ended. However, because of deflation, that $10,000 would buy more goods and services.

How I Bonds work

Now let’s explore the mechanics of purchasing and redeeming I Bonds and talk a bit about how they work. You must first open an individual account at TreasuryDirect.gov and link it to your bank account. Once your account is open, you can then make your purchases online and the Treasury will deduct the purchase price from your linked bank account.

Purchase limits. There is an annual purchase limit of $10,000 in I Bonds in electronic form per Social Security number. A married couple could, therefore, purchase a total of $20,000 per year.

A tax-time purchase option. The option to use your tax refund to buy up to $5,000 in paper I Bonds raises your limit from $10,000 to $15.000 in that year–$10,000 in electronic form and $5,000 in paper form.

Timing your purchases. Interest is earned on the last day of each month and is posted to your account on the first day of the following month. So, if you own your I Bonds on the last day of any month, you’ll earn that full month’s interest. Therefore, it’s best to buy your I Bonds near the end of the month, since you can earn a full month’s interest while only owning the I Bonds for perhaps a day or two. On the other hand, when redeeming I Bonds, you’ll want to do so on or near the first business day of the month, since redeeming them later in the month won’t earn you any additional interest.

Redeeming paper I Bonds. Simply take your paper I Bonds to your bank, sign the back and the bank will credit your account just as if you had deposited cash. The funds will normally be available to you the following day. You could also receive cash.

Redeeming electronic I Bonds. You can redeem your I Bonds (or any portion of your bond holdings, so long as you leave at least $25 in your account) using your online account. The money is then transferred into your linked bank account.

Avoiding probate. I Bonds don’t qualify for a step-up in cost basis at one’s death as many other investments, such as stocks and real estate, do. (I Bonds are like bank-CDs in that regard.) But you can title them in such a way as to avoid having them included in your estate subject to probate—by having either a second co-owner or a beneficiary listed on your I Bonds.

Signed by:

Zvi Bodie
zbodie@bu.edu, zvibodie.com
America’s Best Kept Investing Secret

Mel Lindauer
Founder and Former President, The John C. Bogle Center for Financial Literacy
and co-author The Bogleheads’ Guide to Investing, and The Bogleheads’ Guide to Retirement Planning

David Enna
Tipswatch.com

Michael Ashton, “The Inflation Guy”
EnduringInvestments.com Podcast: Cents and Sensibility

Posted in I Bond, Retirement | 11 Comments

10-year TIPS reopening gets real yield of -0.939%, well off record low

By David Enna, Tipswatch.com

The Federal Reserve’s statements Wednesday indicating a timeline for tapering its bond purchases and eventual moves to raise interest rates gave investors at Thursday’s 10-year TIPS reopening auction a bit of a boost.

This auction of a 9-year, 10-month Treasury Inflation-Protected Security, CUSIP 91282CCM1, generated a real yield to maturity of -0.939%, holding above the record low for any auction of this term, -1.016%, set in the July 21, 2021, originating auction for this TIPS.

A TIPS is an investment that pays a coupon rate well below that of other Treasury investments of the same term. But with a TIPS, the principal balance adjusts each month (usually up, but sometimes down) to match the current U.S. inflation rate. So the “real yield to maturity” of a TIPS indicates how much an investor will earn above (or in this case, below) inflation.

Just a day ago, 10-year real yields were running very close to -1.0%, meaning investors would accept a return that lagged official U.S. inflation by 1.0% a year, for 10 years. But the Fed’s actions Wednesday gave Treasury bond yields a slight boost higher, and investors at today’s auction benefited.

CUSIP 91282CCM1 has a coupon rate of 0.125%, which was set at that July originating auction and is the lowest the Treasury will go for any TIPS. That means investors at today’s auction had to pay a sizable premium — an adjusted price of about $112.98 for about $101.84 of value, after accrued inflation is added in. This TIPS will have an inflation index of 1.01843 on the settlement date of Sept. 30.

The real yield of -0.939% ended up being pretty much in line with several auctions of this 9- to 10-year term:

  • Jan. 21, 2021: -0.987%
  • Sept. 20, 2020: -0.966%
  • July 23, 2020: -0.930%

That’s a depressing list for TIPS investors, who should be coveting real yields at least 50 basis points above zero, providing a positive return over inflation. We are a long way off from that, but possibly the Federal Reserve will carry through on plans to lift interest rates in the next two years.

Here is the trend in 10-year real yields over the last two years, showing the deep plummet after the Federal Reserve began aggressive bond buying in March 2020. Note that we remain very close to the bottom of this range:

Inflation breakeven rate

With a nominal 10-year Treasury note trading this afternoon with a yield of 1.40%, this TIPS gets an inflation breakeven rate of 2.34%, in line with several recent auctions of this term. It means CUSIP 91282CCM1 will outperform a 10-year nominal Treasury if inflation averages more than 2.34% over 9 years, 10 months. While that breakeven rate is historically high, it seems reasonable given the nation’s recent surge of inflation.

Here is the trend in the 10-year inflation breakeven rate over the last 2 years, showing the incredible surge higher after the deep market chaos of March 2020. In recent months, 10-year inflation expectations have leveled off in the 2.3% to 2.4% range:

Reaction to the auction

This TIPS trades on the secondary market, and earlier this morning, at 11:05 a.m., it was trading with a real yield to maturity of -0.92%. So the eventual result of -0.939% looks like this auction was met with solid demand. The bid-to-cover ration was 2.55%, also an indication of solid demand.

If the Federal Reserve carries through with tapering its bond-buying, beginning in November, we should begin to see a gradual increase in real yields, moving in lockstep with nominal yields. The TIPS market is not heavily traded, and the Federal Reserve’s purchases have had a major effect in pushing real yields deeply negative. That should begin to change, but gradually.

CUSIP 91282CCM1 will have one more reopening auction, on Nov. 18. It will be interesting to see if 10-year real yields climb a bit in the next two months, making that auction potentially more attractive.

Here is a history of recent 9- to 10-year TIPS auctions, showing how the Fed’s aggressive bond-buying, which began in March 2020, has pushed real yields deeply negative:

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Feel free to post comments or questions below. If it is your first-ever comment, it will have to wait for moderation. After that, your comments will automatically appear.

David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. The investments he discusses can purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.

Posted in Investing in TIPS | Leave a comment