View the announcement .pdf

The Treasury announced this week that it will reissue CUSIP 912828SA9, a Treasury Inflation-Protected Security that matures Jan. 15, 2022. That makes this a 9-year, eight-month offering.

This TIPS comes with a lowest-possible coupon rate of 0.125%, and it initially auctioned in January with a rate to maturity of -0.046%, the lowest rate ever for a 10-year TIPS and the first-ever negative yield for a 10-year TIPS.

What can we expect? I wasn’t a big fan of the January auction, at a time when interest rates appeared to be budging off their super-low levels. But the January buyers were smarter than me (not so uncommon). CUSIP 912828SA9 is now trading on the secondary market with a yield to maturity of -0.345%, meaning that buyers are accepting a return -0.345% below the inflation rate for the next 10 years.

Buyers in January paid about $101.66 for each $100 of this issue, and four months later that price has risen to about $104.15, a nice little paper gain.

You can check the current rate daily as this auction approaches, look for the security that matures 2022 Jan 15.

Interest rate trend? Not the buyers friend. The 10-year traditional Treasury closed Friday with a yield of 1.84%, very close to the lowest rate of the year, which was 1.83% on January 31. (Hard to believe that the 10-year rate soared to 2.39% less than two months later, only to start heading down again.)

Check the breakeven rate … I am going to guess that this 10-year TIPS reissue will auction at a rate slightly better than the current market rate – let’s say -0.32%. With the 10-year Treasury paying 1.84%, inflation would have to average 2.16% over the next 10 years to make this issue pay off, versus a traditional Treasury.

It’s not a bad bet at all, and if these rates hold, I expect their could be strong demand among big institutional buyers (and foreign nations, and the Fed itself) for this issue.

(In March, when Treasury rates spiked upward, the breakeven rate rose to 2.31%. At the beginning of the year, the 10-year breakeven was only 1.95 percent.)

Small investors? If you are going to buy and hold this TIPS to maturity, it doesn’t look like a disaster. Of course, this assumes you 1) already bought your 2012 allocation of I Bonds — which are still more attractive than TIPS, and 2) you are financially secure enough to buy and hold this TIPS to maturity.

I don’t see it as a trading purchase (I don’t trade TIPS – ever -and I don’t own TIPS mutual funds at the moment.)

Who would buy it? Anyone wanting protection against out-sized inflation in the next 10 years. That is a legitimate fear, but there is no evidence in 2012 that ‘official inflation’ is a threat in the near term. So a buyer would really need to fear inflation to accept a TIPS that will pay less than inflation for 10 years.

On the other hand, there are no attractive super-safe options, except for your purchase of I Bonds up to the yearly limit.

Here is advice from financial adviser Larry Swedroe’s April update on TIPS:

… one last point to remember is that one of the advantages of TIPS over nominal bonds is that you can take maturity risk with TIPS and earn the term premium without taking inflation risk. Thus, while longer-term TIPS have more interim price risk — which for some investors could be too much volatility to stomach — there’s no risk of loss if you hold to maturity.

Summarizing, it still seems prudent to limit maturities to about 10 years or so, since absolute yields are well below levels that would make longer-term TIPS a compelling buy.