By David Enna, Tipswatch.com
The U.S. Treasury just announced that its auction of $15 billion of a new 10-year Treasury Inflation-Protected Security — CUSIP 91282CBF7 — generated a real yield to maturity of -0.987%, the lowest ever for any auction of this term.
But here’s the interesting thing: At 11 a.m. EST, a similar 10-year TIPS was trading on the secondary market with a real yield of -1.06%, and even 15 minutes after today’s auction close it was still trading with a real yield of -1.07%. Today’s auction result came in about 8 basis points higher than market values, an indication of weak demand, or over supply, or both.
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 below) inflation.
Today’s auction set the coupon rate for CUSIP 91282CBF7 at 0.125%, the lowest the Treasury will go for any TIPS. The -0.987% real yield meant that investors had to pay a sizable premium to collect the coupon rate of 0.125%, about $111.64 for about $100.005 of value, when accrued interest is added in.
The settlement date for this auction is Jan. 29, and it will carry an inflation index of 0.99972, meaning its accrued value will be slightly lower than the purchased amount. February’s inflation adjustment will be a meager 0.09%. It’s easy to see why investors might have been lukewarm about this issue.
On the other hand, the bid-to-cover ratio for this auction was 2.68%, which indicates decent demand.
Here is the trend for 10-year real yields over the last two years, showing the steep decline after an initial burst higher during the pandemic panic of March 2020:
Inflation breakeven rate
At the auction close, a nominal 10-year Treasury note was trading with a real yield of 1.10%, meaning this new TIPS gets an inflation breakeven rate of 2.09%, the highest for any auction of this term since September 2018. Inflation expectations are rising, with recent TIPS auctions providing the solid evidence.
- Jan. 21, 2020: 2.09%
- Nov. 19, 2020: 1.72%
- Sept. 17, 2020: 1.65%
- July 23, 2020: 1.52%
- May 21, 2020: 1.14%
- March 19, 2020: 0.43%
It’s not historically unusual to see 10-year inflation breakeven rates rise above 2%, but inflation has been quite muted over the last decade, averaging just 1.7%. The market is pricing in higher future inflation.
Here is the trend in the 10-year inflation breakeven rate over the last two years, showing the dramatic increases since the March 2020:
The TIP ETF had been trading slightly higher all morning today, so that would seem to indicate that real yields were declining and the auction result would end up somewhere around -1.02% to -1.03%. But instead, the real yield rose a few basis points, meaning investors wanted a better deal than the current market.
After the auction close, the TIP ETF barely budged, and remains positive for the day. The current price is $127.74, very close to the all-time high of $127.92. (All-time highs make me nervous.)
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David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. The investments he recommends can purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.