Treasury Inflation-Protected Securities

• 10-year real yields (meaning yields above inflation) briefly dipped into negative numbers in August, but have climbed 30 basis points since then.
• The Treasury is offering a 10-year TIPS reopening auction on Thursday, but the real yield still isn’t attractive.
• The 10-year inflation breakeven rate is running at about 1.63%, below average annual inflation over the last 10 years. That will make this TIPS attractive to big money investors.

The U.S. Treasury on Thursday will auction $12 billion in a reopening of CUSIP 9128287D6, creating a 9-year, 8-month Treasury Inflation-Protected Security.

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• The October inflation report was a mixed bag, with core inflation coming in slightly lower than expected.
• Increases in energy prices accounted for more than half the overall increase in inflation.
• Food prices also are rising. Have you noticed?

The Consumer Price Index for All Urban Consumers (CPI-U) rose 0.4% in October on a seasonally adjusted basis, the U.S. Bureau of Labor Statistics reported today. Over the last 12 months, “headline” inflation increased 1.8%.

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• The I Bond’s fixed rate is falling from 0.5% to 0.2% for purchases through April 2020, a move that was expected after a year of declining interest rates.
• Bad news? Disappointing, yes, but I Bonds will remain an attractive investment into 2020 as long as real yields on TIPS remain depressed.
• Also, no change for the terms of EE Bonds. They’ll earn a lousy fixed rate of 0.1% but double in value in 20 years, for an effective return of 3.5%.

In response to deep declines this year in real interest rates, the U.S. Treasury announced today it is cutting the fixed rate for U.S. Series I Savings Bonds issued through April 2020 from 0.50% to 0.20%.

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• The real yield to maturity of 0.054% was much lower than Treasury estimates at the market close Wednesday.
• The inflation break-even rate popped up to 1.50%, still low but higher than recent trends.
• Obviously, this TIPS issue was met with strong investor demand, indicated by both the lower-than-market yield and then higher-than-trending inflation break-even rate.

The U.S. Treasury’s auction today of $17 billion in a new five-year Treasury Inflation-Protected Security generated a surprisingly low real yield to maturity of just 0.054%. That was well below the Treasury’s estimate of 0.22% at the market close on Wednesday.

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• At Friday’s close, the Treasury’s estimate of the real yield of a five-year TIPS stood at 0.25%, a bit higher than recent numbers.
• At that yield, the five-year inflation break-even rate would come in at 1.34%, an extremely low number.
• I expect reasonably strong demand for this new issue, but smaller-scale investors can find a better alternative with I Bonds, or possibly insured bank CDs.

The U.S. Treasury on Thursday will auction $17 billion in a new five-year Treasury Inflation-Protected Security – CUSIP 912828YL8. The real yield to maturity and resulting coupon rate will be set by the auction bidding.

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• I Bonds issued before November 1 will carry a permanent fixed rate of 0.50%, creating a real return higher than that of a 5-, 10- or 20-year TIPS.
• The Treasury will reset this fixed rate on November 1, and it is very likely to go lower.
• With interest rates sliding lower, this could be a “last chance” opportunity (for years?) to get a good fixed rate on an excellent inflation-protected investment.

It pains me to say this: The market’s best inflation-protected investment could go “poof” on November 1. That’s the date the U.S. Treasury will reset the fixed rate on its U.S. Series I Savings Bonds. And the news isn’t likely to be good.

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