Coming Thursday, Aug. 18: Reissue of a 5-year Treasury Inflation-Protected Security

We knew this was coming, of course, and today we got the official announcement by the U.S. Treasury. On Thursday, the Treasury will auction a reissue of CUSIP 912828QD5, which was originally issued on April 15, 2011 and matures on April 15, 2016. It has a coupon rate of 0.125% but the real yield to maturity will be set at the auction, 1 p.m. Thursday.

Since it is a reissue, it’s easy to check on the current real yield for 912828QD5 in the open market. As of Friday, it had a real yield of negative 1.096%. Yes, that is a negative real yield, and yes, it is a full percentage point below the rate of inflation for the next five years.

Should you buy it? I always point out that I am a lowly journalist (some call that the lowest life form on Earth), and not a financial adviser. But I still have my opinion.

My opinion is NO, you should not buy it.

That’s based on Friday’s rate of negative 1.096%. Things could change before Thursday, and in fact I think they will change. I suspect this 5-year will end up auctioning at better  than negative 1%, but you never know.

(Update: Tuesday’s rate had risen to negative 0.861%, a bit of an improvement.)

Here are some of my thoughts:

Relive the glory days of April 2011. We can almost get nostalgic. I was a buyer of this 5-year TIPS when it was originally issued, and I did recommend it. I said at the time:

The regular five-year Treasury is paying 2.09%, also not a great deal, with no inflation protection. In fact, I think that rate is insanely low.

The best rate out there for a 5-year CD is from Aurora Bank at 2.43%. I would buy that CD before I bought a regular five-year Treasury. But this has no inflation protection.

The 5-year TIPS ended up auctioning at negative 0.18%, slightly better than I expected. ‘Buy it and forget it’ is my philosophy for TIPS, since I hold them to maturity. So, I did well on that one.

Zoom to four months later. Now the 5-year Treasury is yielding 0.99% and the best rate you can find on an insured 5-year CD, still Aurora Bank, is 2.31%.

Hey, wait a second, 2.31%?

These numbers spell out the problem:

Security                             April              Aug                  Difference

5-year TIPS                      -0.18%         -1.00%                -0.82%

5-year Treasury               2.09%            0.99%                 -1.10%

5-year CD                          2.43%            2.31%                 -0.12%

Back in April, the 5-year TIPS had the advantage over a 5-year CD because of its inflation protection. But now, you are betting on an average inflation rate of 3.31% over the next five years, just to break even with an insured CD. That could happen, sure, but does it seem likely during a time of very slow economic growth?

Negative 1% on a 5-year TIPS? Outrageous. I have been saving this chart for the perfect moment, so I guess its time has come:

HIstory of 5-year TIPS issuesObviously, Thursday’s auction is going to set a record low for a 4- to 5-year TIPS, the only question is by how much. It could be nearly double the record low of negative 0.550% in October 2010. This chart also shows that the TIPS yield can swing sharply, rising from 0.745% in April 2008 to 3.270% in October 2008 at ground zero of the financial crisis.

Please, don’t forget I Bonds. If you haven’t bought U.S. Savings I Bonds this year, you need to do that first, before you buy a 5-year TIPS. This is a no-brainer, easiest decision you’ll ever make. Although I Bonds and TIPS differ, they both basically pay you the rate of inflation, with a federal guarantee and no state income taxes.

I Bonds issued right now will pay a base rate of zero percent, plus an inflation adjustment that changes every six months. (Right now, that adjusted rate is 4.6% for six months, but don’t get too caught up in that. It is the rate of inflation, minus nothing.) This 5-year TIPS will pay you the rate of inflation minus 1.0%. So this is simple. With an I Bond you get the rate of inflation. With this 5-year TIPS you will get the rate of inflation minus 1.0% (or so).

I Bonds also have huge tax advantages and can be sold after one year with a minimal penalty.

I Bonds are clearly superior.

You can buy $5,000 worth of I Bonds at TreasuryDirect.gov and $5,000 in paper I Bonds at your local bank. That is $10,000 per Social Security number. After Jan. 1, the paper option will be gone so you will have only half the buying power.

If you buy I Bonds before Oct. 31, you will get that 4.6% rate for six months, and then the rate will adjust, probably lower. So you should do this before Oct. 31.

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