You might ask: ‘How are you going to define ‘normal’? Good point. In the financial world, the going price for anything might be called the ‘normal’ price, set by free markets. But in the case of Treasury Inflation-Protected Securities, normal is very hard to define.
So, for today only, I am going to define ‘normal’ to mean ‘acceptable.’ In other words, attractive to buyers, a sensible investment, and in line with historical trends. Today, with a 10-year TIPS yielding about 0.52% above inflation, I don’t think we are there yet.
I have tried in the past to project a ‘sensible’ yield for a 10-year TIPS, and I came up with a yield of about 1.76%, plus inflation. We won’t be seeing that anytime soon, but read my analysis to see why TIPS yields will eventually return to that level, and probably higher.
So for today, I decided to declare the first auctions of 2011 – for 5-, 10-, and 30-year TIPS, to be about as ‘normal’ as we can expect to see in the next two years.
Why early 2011? The TIPS and Treasury markets dramatically changed in mid-2011, a fact I detailed in this post: The TIPS earthquake: When did it happen, and why? It’s strange, but the factor that triggered this upheaval was the crushing failure of Congress to address runaway government spending and spiraling deficits. Eventually, Standard & Poors downgraded U.S. debt – and the result was that U.S. debt skyrocketed in value. As weird as that seems, that’s the way it happened.
(True, it wasn’t the S&P downgrade of U.S debt that directly resulted in soaring Treasurys. But the fiscal crisis and resulting downgrade caused the stock market to plummet and suddenly the U.S. economy looked extremely dire. The Federal Reserve responded with an aggressive bond-buying stimulus program. That raised fears of inflation and that directly caused TIPS to soar, along with the stock market.)
I started this blog in April 2011 and at the time TIPS were as boring and conservative an investment as exists on Earth. Within a few weeks, I read a commentary that said: “The only reason to buy TIPS is for the capital gain.” I was horrified! No, TIPS are conservative! Not for trading! But the commentator was totally correct. TIPS were about to launch into massively lower yields and higher prices.
So let’s look back to the first auctions of 2011, before this turmoil began, in search of something ‘normal.’
- Jan. 20, 2011. A new 10-year TIPS, CUSIP 912828PP9, auctioned with a yield to maturity of 1.17% and a coupon rate of 1.125%. Since that date, no 9-to 10-year TIPS auction has generated a yield above 1%. The highest yield since then was 0.92% for the reopening of this same TIPS on March 24, 2011.
- Feb. 17, 2011. A new 30-year TIPS, CUSIP 912810QP6, auctioned with a yield to maturity of 2.19% and a coupon rate of 2.125%. The highest yield since that date for any 29- to 30-year TIPS was 1.42% in June 2013 for a reopening of CUSIP 912810RA8.
- April 21, 2011. A new 5-year TIPS, CUSIP 912828QD5, auctioned with a yield to maturity of -0.18% and a coupon rate of 0.125%. At the time, this auction made headlines: BUYERS ACCEPT NEGATIVE INTEREST ON TIPS! Several financial columnists derided buyers as fools. I was a buyer, and I didn’t feel foolish. Since that date, the best yield on any 4- to 5-year TIPS auction was -0.13% for a reopening of CUSIP 912828UX6 on Aug. 22, 2013, another auction where I was a buyer.
To recap, this is about as normal as we can expect in 2014 and possibly well into 2015:
- 5-year TIPS at -0.18%, plus inflation. The current yield is -0.25%
- 10-year TIPS at 1.17%, plus inflation. The current yield is 0.52%
- 30-year TIPS at 2.19%, plus inflation. The current yield is 1.35%
We have a long way to go, except for the short-term TIPS. If you think a move that large isn’t possible, I will close with this chart of all TIPS auctions in that momentous year of 2011. Study it: