By David Enna, Tipswatch.com
Back in spring 2018, the Federal Reserve was continuing its wind-down of quantitative easing, raising its key short term interest rate on March 21 to a range of 1.50 – 1.75%.
That led to a very promising TIPS auction on April 19, 2018 — CUSIP 9128284H0, a new 5-year Treasury Inflation-Protected Security. In my preview article for that TIPS auction, I noted it could be “the most attractive in years.”
The result: At auction CUSIP 9128284H0 generated a real yield to maturity of 0.631%, the highest for any 4- to 5-year TIPS auction since October 2009. The coupon rate was set at 0.625%, the first time in 8 years that any TIPS of this term received a coupon rate higher than 0.125%.
This TIPS got an inflation breakeven rate of 2.13%, compared with a nominal 5-year Treasury note yielding 2.76% at the time.
In other words, everything looked great for an investor in this TIPS. But five years later, how did it actually do as investment? Let’s take a look:
Conclusion: It did very well
Inflation over the next five years averaged 3.3%, much higher than the inflation breakeven rate of 2.13%. That’s an annual variance of 1.17%. According to data compiled by EyeBonds.info, CUSIP 9128284H0’s compounded rate of return was 4.42%, well above the 2.76% offered by a nominal Treasury (before interest reinvestment).
This TIPS was a winner. Keep in mind that a TIPS investment does especially when inflation runs higher than expected. That’s certainly been the case over the last two years.
I have fond memories of just-matured CUSIP 9128284H0. I invested in it at the opening auction (real yield of 0.631%), first reopening in August (0.724%) and last reopening in December (1.129%).
2018 was a fantastic year for TIPS investment, much like 2023.
Notes and qualifications
This analysis is an estimate of performance.
Keep in mind that interest on a nominal Treasury and the TIPS coupon rate is paid out as current-year income and not reinvested. So in the case of a nominal Treasury, the interest earned could be reinvested elsewhere, which would potentially boost the gain. For certain, we don’t know what the investor could have earned precisely on an investment after re-investments.
In the case of a TIPS, the inflation adjustment compounds over time, and that will give TIPS a slight boost in return that isn’t reflected in the “average inflation” numbers presented in the chart.
• Confused by TIPS? Read my Q&A on TIPS
• TIPS in depth: Understand the language
• TIPS on the secondary market: Things to consider
• Upcoming schedule of TIPS auctions
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David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. I Bonds and TIPS are not “get rich” investments; they are best used for capital preservation and inflation protection. They can be purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.
Interest post to Morningstar today!. https://www.morningstar.com/news/marketwatch/20230419321/andy-beal-americas-richest-banker-makes-a-massive-bond-bet-on-inflation
The article is strange, in my opinion. It says Beal quadrupled the bank’s assets by buying TIPS, but anyone who has been buying TIPS knows their value hasn’t quadrupled in a year. We’re looking at total returns of maybe 5% over the last year. Even if you figure he captured 1.5% above inflation, he would have about a 6.5% return. So there was a lot more going on at Beal Bank.
The TIPS didn’t quadruple in value, Beal quadrupled the bank’s assets by acquiring TIPS funded by sales of CDs. Must have been an effective marketing campaign.
“Beal funded the trade by tapping brokered deposits, issuing fully insured certificates of deposits with low yields. Beal Bank does have several branches in states like Texas, Florida and Arizona, but most of its funding has traditionally not come from core deposits. Beal Bank hedged the funding with derivatives and swaps that locked-in the low costs of funds for the duration of the trade, a person familiar with it said. “
Rob, I get that, but the article implies Beal made a massive bet on TIPS, when actually he was buying very safe short-term Treasurys, which happened to be TIPS. I like what he did. But it wasn’t a really much of a “massive bet.” The bet came in paying really attractive CD rates to raise the money to buy the TIPS. But even that wasn’t extremely risky. It was a smart move.
David, I apologize if I came across as pedantic, I thought perhaps you hadn’t had time to read the whole article. Conceding to what the author called low yield CDs then then I agree that there shouldn’t be much risk in investing 75% of the bank’s assets in TIPS for 5 years. I am guessing that perhaps Beal sees a good probability of recession coupled with inflation. Judging by some of the Q1 earnings that are coming out, recession might not be that unlikely.
I got payment from Treasury Direct in my checking account today! I think it is related to the coupon from the TIPs I bought last year.
Yes, some TIPS pay interest in April. I also got some interest this week.
I don’t know of anyone else doing this sort of analysis, which I think is very valuable.