Why I Hold TIPS in My Portfolio (Treasury Inflation-Protected Securities)

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EconompicData has a nice, relatively brief post about the relationship between US Treasury bonds, TIPS, and inflation. I would hold either Treasuries or TIPS (or both) because they have the highest credit quality available, and that is a big part of why you should own bonds in the first place. Read the whole thing, but the conclusion below pretty much sums up why I prefer to have TIPS in my investment portfolio.

In normal market environments when inflation is relatively stable, long-term returns tend to be similar for both Treasuries and TIPS. However, TIPS materially outperform in an inflationary environment, while Treasury outperformance is capped by a rate roughly equal to the break-even inflation rate in a deflationary environment. Thus, assuming a view that an inflationary and deflationary scenario are equally likely, the unlimited potential outperformance of TIPS vs. Treasuries in an inflationary environment and limited upside of Treasuries vs. TIPS in a deflation environment would sway an investor towards TIPS.

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Comments

  1. Everything you said above sounds good but after reading the following recent blog post I couldn’t come up with any GREAT reasons for ME to own TIPS going forward. I was hoping you could offer some thoughts regarding that post. (Not affiliated in anyway with that author. Just someone I follow on Twitter that offers SOUND advice like you do.)
    http://www.basonasset.com/i-dont-really-love-tips/

    • Thanks for the link, Troy. Sounds like perfectly reasonable points were made there as well. The tax issues do make you really want to put TIPS in tax-sheltered accounts, so I do that. I held TIPS through all the volatility from 2007 onwards and it didn’t really phase me much. Indeed, when there were 3% real yields available I managed to “back my (small!) truck up” and buy some 30-year TIPS with 3% real yields.

      What the article doesn’t really offer is a better alternative and why they are better. I’m not in love with TIPS with these sad real yields either but all things considered I am okay buying them. If he’s not in love with TIPS, what is he in love with? Not that much to love in this bond environment.

      • Thanks for responding. You are correct. He doesn’t say WHAT he LOVES in place of TIPS. I *think* he alluded to just increasing your total bond position but don’t hold me to that.

        PS: Long time reader. Many thanks for all the years of sound advice.

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