By David Enna, Tipswatch.com

The U.S. Treasury on Thursday will auction $26 billion in a new 5-year Treasury Inflation-Protected Security, CUSIP 91282CRR4. While the real yield and coupon rate will be determined by auction results, this TIPS looks highly attractive, for just about any conservative investor.

At Friday’s market close, the Treasury was estimating the real yield of a full-term 5-year TIPS at 2.52%, down from recent highs but up 88 basis points since June 1. If this TIPS gets a real yield above 2.44%, it will be the highest at auction for this term since the financial crisis of 2008.

Definition: The “real yield to maturity” of a TIPS is its yield above future U.S. inflation, over the term of the TIPS. So a real yield of 2.52% means an investment in this TIPS would provide a return that exceeds official U.S. inflation by 2.52% for 5 years.

This is a near-zero risk investment (when held to maturity) with a term of only 5 years, the shortest the Treasury issues for TIPS. It will auction at a price very close to par value, and probably get an attractive coupon rate of 2.375% to 2.50%.

During the dreary and not-long-ago era of very low real yields, I was a fan of the 5-year TIPS for one reason: “The term is only five years.” Its value isn’t going to fluctuate wildly with changes in market real yields. Just hold it and forget it.

And don’t underestimate the value of tracking future inflation. See that 5-year TIPS issued in October 2021 at the bottom of the list, with a miserable real yield of -1.685%, the lowest for any TIPS in history? It matured last week. Because of surging inflation, it ended up generating a nominal return of 2.375%, well above the 1.20% offered on a 5-year Treasury note in October 2021. (I will post an article on this soon. Meanwhile, see my TIPS vs. Nominals page.)

Today, real yields are much higher. Getting an inflation-adjusted return of around 2.5% for five years is a safe, sensible investment choice for money you are putting aside for use in 5 years.

Here is the trend in the 5-year real yield over the last 20 years. With the exception of the very quick spike in 2008 (as all financial assets were being sold off), the current real yield is a two-decade high:

The October quandry

I’ve discussed this often but it is important to remember: The October auction of a new 5-year TIPS will almost always get a real yield to maturity that is lower than the “market” real yield you will see listed at your brokerage or in financial charts. That market number is based on the current trading yield of the most recent 5-year TIPS, CUSIP 91282CQP9, issued in April.

The April 5-year generally gets a higher real yield because it will be exposed to late-year non-seasonably adjusted deflation in its closing months, which happens almost every year. I wrote about this in October 2023: “There is an explanation for everything, right?“

The October 5-year auction is hard to predict, especially when real yields are volatile as they are today. Because that April TIPS closed Friday with a real yield of 2.439%, we could potentially see Thursday’s auction result come in below 2.52%, which is the Treasury’s current estimate. Be ready for anything, including volatility.

Pricing

Because this is a new TIPS, its coupon rate will be set to the 1/8th percentage point below the auctioned real yield, resulting in a slightly discounted unadjusted price. It will also carry an inflation index of 1.00154 on the settlement date of October 30, which will slightly raise the adjusted price. Overall, the auction should go off near par value. In other words, order $10,000 par value and the cost will be about $10,000.

Inflation breakeven rate

With the 5-year Treasury note trading with a nominal yield of 4.89%, this TIPS currently has a 5-year inflation breakeven rate of 2.37%, in line with recent trends. So it will outperform a nominal 5-year if inflation averages more than 2.37% over the next 5 years. (Nominal yields have also fallen a bit in recent days; the 5-year note topped at 5.09% on September 30.)

Here is the trend in the 5-year inflation breakeven rate over the last 20 years. Notice the amazing stability in inflation expectations since late 2022:

Thoughts

Market conditions can change by the Thursday auction, but this should be a very attractive issue. I emphasize that the term is only 5 years, so holding to maturity is not a chore, and even if you need to sell, volatility should be fairly low.

I won’t be a buyer because the 2031 rung of my TIPS ladder is complete. Otherwise, I would be jumping on this one. Why is it a strong conservative investment?

• It has the full backing of the U.S. Treasury, which makes it near-zero credit risk.
• The 5-year term makes it less volatile than other auctioned TIPS maturities.
• The investor will be paying close to par value, which is guaranteed to be returned at maturity even if severe deflation sets in. (That’s unlikely, by the way.)
• The investor will earn an annual coupon rate of, let’s say, 2.375% on inflation-adjusted principal through the entire 5 years.
• The principal balance at maturity will be adjusted for official U.S. inflation. Even if you doubt those numbers, inflation is a serious risk for conservative investors.

This TIPS auction closes Thursday at 1 p.m. ET. Non-competitive bids at TreasuryDirect must be placed by noon Thursday. If you are putting an order in through a brokerage, make sure to place your order Wednesday or very early Thursday, because brokers cut off auction orders before the noon deadline.

I will be posting the auction results soon after the close on Thursday. Here is a history of auction results for this term over the last 5 years:

• Now is an ideal time to build a TIPS ladder

• Confused by TIPS? Read my Q&A on TIPS

• TIPS in depth: Understand the language

• TIPS on the secondary market: Things to consider

• TIPS investor: Don’t over-think the threat of deflation

• 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.