I was updating my TIPS Q&A page today and I realized that I never really answered this question: Who should buy TIPS? So here we go …
First off, I want to state loudly that TIPS are for preserving wealth, not building wealth. If you are in the early stages of investing and far from your long-term needs for buying a house or for paying for college or especially for retirement, TIPS aren’t going to be a great investment. That’s especially true when yields are less than 1% over inflation. You probably won’t build enough wealth to meet your goals.
(There was a time, in the late 1990s when the stock market was bubbling, that TIPS paid nearly 4% above inflation. That was a screaming buy, no matter your situation, as a long-term buy-and-hold investment, or even as a speculation. Those days are long past.)
So who should buy TIPS?
If you are nearing retirement, or in retirement, and have an adequate nest egg, then TIPS make sense as part of your investment portfolio – especially if you buy and hold them to maturity. That strategy is risk-free, and you can protect a part of your savings from the dangers of unexpected inflation.
I think of TIPS as a way of punting money into the future. You will need it then. With TIPS paying a positive yield, you can preserve the current value against the threat of inflation. If you buy and hold to maturity, you have a lot of certainty – X dollars coming on X date.
But even then, I think TIPS, I Bonds and bank CDs should make up no more than 30% of your portfolio. Put the rest in stock and bond index funds, whatever matches your risk tolerance. In the past, I have suggested something like:
- 10% Highest risk: International, small cap stock index funds
- 30% Higher risk: U.S. stock index funds
- 35% Lower risk: Broadly diversified bond funds, municipal bonds
- 25% No risk: TIPS, I Bonds, insured bank CDs, Treasuries held to maturity
I Bonds are a special case, since there is a limit on purchases of $10,000 per person per year. If you want to build a large stake, you need to start early. I think I Bonds could work well for almost any investor. They are flexible enough to be a 1-year savings account, or a 30-year investment, with taxes deferred.