Treasury Inflation Protected Securities (TIPS)

A lot of headlines after the Federal Reserve action last week have focused on the increased likelihood of inflation emerging in the economy now that the American consumer has been given a lift by the Fed. Investors looking to be protected against large scale inflation in their portfolios have the option of buying TIPS (Treasury Inflation-Protected Securities) which are offered in 5-year, 10-year, and 20-year terms with a total return which combines a fixed-rate component and a variable-rate component indexed to CPI. The spread between a TIPS and the corresponding Treasury bill, note, or bond is considered the break-even point where an investor would be equally well off invested in U.S. Treasuries or TIPS for a given term. For example, a 10-year TIPS yielding 2.47% when compared to the 10-year Treasury Bond yield of 4.63% results in a spread of 2.16%. If inflation, as measured by CPI, were to be greater than 2.16% for the 5 years an investor held the TIPS, then the investor would make more money in TIPS than he would in the 10-year Treasury Bond.

A simple way for an investor to purchase a variety of TIPS with different maturities is by purchasing a mutual fund which specializes in inflation-protection. The Vanguard Inflation-Protected Securities Fund Investor Shares Fund (VIPSX) is one of these funds. The Fund seeks to provide investors inflation protection and income, consistent with investment in inflation-indexed securities. The Fund invests at least 80% of its assets in inflation-indexed bonds issued by the U.S. government, its agencies and instrumentalities, and corporations. The fund hold over $11 billion in TIPS securities with an average maturity in the portfolio of under 10 years. The fund does throw off some income with a current yield of 2.53%, but the primary focus is inflation-protection. If inflation does crop up again significantly, then the price of this fund will increase as well.