Treasury Inflation-Protected Securities

I am a choosy buyer of Treasury Inflation-Protected Securities, so choosy in fact that I’ve only pulled the trigger three times since July 2011. In that time, yields on TIPS have plummeted, while at the same time inflation has been very mild. TIPS haven’t been that attractive. These were my purchases:

• May 2013: Bought a 9-year, 8-month TIPS with a yield of -0.225%. The current yield on that TIPS is 0.223%.
• July 2013:  Bought a 10-year TIPS with a yield of 0.384%. The current yield on that TIPS is 0.192%.
• August 2013: Bought a 4-year, 8-month TIPS with a yield of -0.127%. The current yield on that TIPS is -0.417%.

At the time, I thought these were attractive yields that fit my TIPS ladder and investing needs. For the 37 other TIPS auctions since July 2011, I haven’t found an attractive combination. So I have been sitting on the sidelines.

Am I a market timer? No. I buy-and-hold TIPS to maturity, so I am not a trader. I am just looking for the best opportunities for my limited investment cash.

And right now – in September 2014 – I am not finding attractive opportunities in TIPS. Yields have dropped sharply this year, meaning TIPS are much more expensive than they were in 2013. And they are more expensive against other bond investments, as this chart shows:

The TIP ETF has greatly outperformed Vanguard’s Total Bond Market ETF (BND) and the Intermediate Treasury ETF (IEI) in 2014. That indicates TIPS are getting more expensive versus the overall bond market. NOTE: The TIP ETF is more volatile because it has a duration of 7.78, versus 4.59 for IEI and 5.60 for BND.

This out-performance looks very much like the pattern in 2012, when TIPS yields were plummeting:

And this out-performance led to a crushing fall in 2013, when yields in the TIPS market rose by more than 100 basis points, sending the TIP ETF plummeting, even against other bond investments:

A lot of new TIPS investors who poured money into mutual funds and ETFs after July 2011 didn’t realize they were getting a possibly volatile investment. TIPS seem so conservative. After May 2013, they got the message loud and clear. And when the fall came, I was buying.

Just to drive this point home, here is a chart showing 2104 year-to-date yields for the 10-year TIPS, which I consider the benchmark. It has been a steady decline:

On the other hand, it’s a positive for TIPS that the 10-year inflation breakeven point has been behaving very nicely, staying in a lowish pattern against the traditional 10-year Treasury.  This chart would indicate that TIPS aren’t a bad investment right now, at least versus traditional Treasurys, and also that TIPS were oversold in 2013:

A lower number is a good thing, indicating TIPS are less expensive versus traditional  Treasurys. In general, a number above 2.5% means TIPS are very expensive, and a number below 2.0% means they are very cheap. This chart shows a good trend for TIPS buyers.

Conclusion. I have a very rough guide: If the yield on a 10-year TIPS begins approaching 1%, I will be likely to buy. When it stays below 0.5%, I am very unlikely to buy, unless a certain investment meets my needs, such as filling a hole in my investment ladder.

Also, keep an eye on the price of the TIP ETF, which is currently $114.54. When it begins to approach $110, sellers will be panicking and buyers will need to be ready.

Market timing? No. Just a common sense approach to buy-and-hold investing.

The Treasury Department sold $16 billion in 5-year Treasury inflation-protected securities Thursday at a yield of -0.281%.

That’s from Marketwatch … I am on the road.

I will be traveling Thursday and so I won’t be able to post any before- or after-thoughts on Thursday’s reopening of CUSIP 912828C99, creating a 4-Year 8-Month Treasury Inflation-Protected Security with a coupon rate of 0.125%.

So let’s take a look at where we stand at 6:05 p.m. Wednesday:

• This TIPS was trading today with a yield to maturity of -0.29%, according to Bloomberg’s Current Yields chart. This is up about 12 basis point from where it was last week.
• The Wall Street Journal’s Closing Prices chart shows that this TIPS maturing April 2019 closed with a yield of -0.308% and a price of about $102 for $100 of value (because of the the coupon rate of 0.125%).
• The Treasury’s Real Yield Curve chart estimates a full 5-year TIPS would yield -0.18%. This estimate isn’t directly comparable with the two quotes above, since a full-term TIPS would yield slightly more than a TIPS with 4-month-shorter term.

So, conditions have improved since I wrote about this auction last week. Last Thursday, the market was signaling a yield of about -0.41% and now -0.29% looks more likely.

With the 5-year nominal Treasury trading today at 1.65%, you’re looking at an inflation breakeven rate of 1.94% for this TIPS. I’d probably take that bet if I were thinking about buying a 5-year Treasury, but maybe not against a 5-year bank CD paying 2.30%, which pushes the breakeven point up to 2.59%.

Honestly, I’m not in the market to buy any of these at the moment. I mean, could interest rates be rising next year? …

Did the Fed give a signal today?

The Wall Street Journal’s Website lead story right now has this headline: ‘Fed Minutes: Rate-Hike Debate Heating Up.’ An excerpt:

Federal Reserve officials debated at their July meeting whether to move sooner than expected to start raising interest rates in light of an improving job market and rising inflation, but decided they needed more evidence before concluding that was the right approach.

The minutes of the meeting, released Wednesday, provide fresh evidence of an intensifying debate inside the central bank about when to respond to a surprisingly swift descent in the unemployment rate and rising consumer prices.

You can read the Fed’s full minutes here. There’s a giant section with the heading: Monetary Policy Normalization, which I can assure you has not appeared in any Fed minutes over the last couple of years. It includes this paragraph:

Meeting participants continued their discussion of issues associated with the eventual normalization of the stance and conduct of monetary policy, consistent with the Committee’s intention to provide additional information to the public later this year, well before most participants anticipate the first steps in reducing policy accommodation to become appropriate.

In other words, the Fed is saying: ‘More to come. Just wait patiently.’ But in fact, the Federal Reserve just signaled that there is more to come, and a reason to wait patiently.

For the Fed, that is a pretty big step.