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Old 05-07-2011, 12:44 AM   #21
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Originally Posted by mystang52 View Post
Call it Buckets, Asset Allocation, whatever. But when I finally ER I envision having my funds in Stock (Vanguard Total), Cash (for short term living expenses) and Bonds.
Right now I'm in Vanguard Total Bond. Since, in theory and/or practice TIPS have inflation protection, and otherwise would move in price the same way as other Bonds do, it seems TIPS are the better way to go.
I'm still new in researching this, so maybe I'm missing something. Any comments/help?
"In theory" the markets are efficient, too.

In general, any portfolio on this board that lacks diversification has been a bad idea. However if you pile up the TIPS high enough then it really won't matter what interest rate they're paying. It worked for Groucho Marx. Suze Orman, Warren Buffett, and Oprah Winfrey seem pretty happy with their bond investments.

How long would you be needing this strategy? TIPS have gone through periods where you couldn't buy the 30-year version at auction, only through the secondary market. Makes it kinda tough to build a ladder to last the length of your retirement.

How long would you like to be working for this strategy? If you're already retired, no problem. If you're still working but not going to be beating inflation during ER then you might be working a few years longer to make your pile a lot higher.

What inflation rate are you planning to experience? If your personal rate of inflation is lower than the CPI then you shouldn't have any problems. However if the BLS keeps tinkering with the hedonic adjustments, and TIPS are tweaked to match, then your inflation may involve the pricing difference between Friskies and Fancy Feast.

Remember how you used to be able to buy I bonds on a credit card? And then how you could only buy a certain amount of I bonds? And then they made the limit even more severe? Hopefully that won't happen to TIPS.

Finally, I'd be annoyed as heck if I had to buy 30-year TIPS in a taxable account and pay phantom tax every year before I got my money back. But this might not be a problem if you bought them all in a tax-deferred account.
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Old 05-07-2011, 11:39 AM   #22
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I figure nominal bonds will outperform TIPS if CPI growth is low, and TIPS will outperform nominal bonds if CPI growth is high.

I also note that I will want to spend more money if CPI growth is high and less money if CPI growth is low.

My financial goal isn't maximizing nominal dollars but stabilizing purchasing power. So TIPS look like they do a better job of helping me reach my goal.

(I may be more sensitive to inflation than some people here because I have a non-COLA'd pension.
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Old 05-07-2011, 04:21 PM   #23
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I figure nominal bonds will outperform TIPS if CPI growth is low, and TIPS will outperform nominal bonds if CPI growth is high.
Yup.

And one way to evaluate that is to think about 10-year inflation break-even rates. Right now the break-even between 10-yr TIPS and nominal Treasuries is an average annual CPI increase of 2.5%.

Some questions to consider:
1) Is inflation over the next decade more likely to be above, or below, 2.5%
2) Is the risk of runaway inflation more or less likely than runaway deflation
3) Is my financial plan more at risk in one scenario versus the other.

My answer to those questions guide me in the direction of TIPS, but reasonable people can certainly come to different conclusions.

Edit to add:
MichaelB brought up a good point about how the TIPS market tanked in 2008 when deflation fears were rampant. It is worth pointing out that not all TIPS securities behaved the same. Those with large accrued inflation adjustments got smoked. Those without did well, although not as well as nominal treasuries. It's my strategy to hold individual TIPS bonds (not funds) in tax advantaged accounts and periodically roll out of bonds with large inflation adjustments in to newly auctioned bonds with zero inflation adjustments (every five years, or so). I'll pay a small price on the bid-offer spread on the sale, but the new issue bonds have no such costs and often benefit from a 'new issue discount.' I imagine the cost of my TIPS portfolio will be lower over time than what even Vanguard charges to manage their fund. So my portfolio will be resilient to deflation, while still outperforming normal bonds during periods of inflation.
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Old 05-07-2011, 04:35 PM   #24
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100% TIPS is not diversifying your fixed income, how about 50% TIPS and 50% ST or ITT?

Also TIPS provide against unexpected inflation not inflation in general if I understand them correctly. So if there is no unexpected inflation perhaps TIPS are not going to do much for you? Can someone clarify that?

Larry Swedroe has a chart for TIPS allocation and he does recommend 100% but I think the yield has to be 3% or 3.5%. Good luck seeing that yield! I think the government tinkers with CPI to control COLA increases.
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Old 05-07-2011, 04:51 PM   #25
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Also TIPS provide against unexpected inflation not inflation in general if I understand them correctly. So if there is no unexpected inflation perhaps TIPS are not going to do much for you? Can someone clarify that?
TIPS provide protection against every kind of inflation that is captured by CPI, unexpected or otherwise. It's a mechanical feature of the security. The principal balance is adjusted periodically based on changes to CPI.

I'm one who doesn't believe CPI is manipulated. If it were, you'd see credible economists adjusting their models to back out whatever they believed the government was doing wrong. You'd see the same discussion of adjustments every time the CPI was released. And if the index was bad enough, you'd see Wall Street firms publishing their own competing indexes. There are people in the private sector who have a lot of money at stake in getting this stuff right. Until you see them walking away from government statistics, I think you have to take the people casting stones who have nothing at stake with a grain of salt.

The other thing you'd see are inflation break-even spreads significantly higher than CPI readings. You don't see that. Which means that either the internet chatter boxes are wrong about CPI manipulation, or the market is stupid.
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Old 05-07-2011, 06:29 PM   #26
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If you ever got to a 4% real yield on a TIP you could set up your portfolio 100% TIPs with a 4% SWR and have zero worries....would never need to look at the market again (at least for the duration of the TIP).

I view a default on TIPs as being very close to an end of the world as we know it scenario.
Like so many investment principals this works better in theory than in practice. Back in 2000, shortly after retiring and learning about the 4% SWR. I put about 40% of my IRA in 10 year TIPS, with real yields between 3.8 and 3.96%. During the 2008 crash, when the prices of TIPs shot way up and stocks went way down. I sold the TIPs and bought corporate inflation protected bonds (ISM/OSM) and equities. I looked like an idiot for the first 6 months but 2.5 years later I think both trades worked out pretty good. If I had been more prudent I would have held the bonds to maturity. If I was depending on the bonds for income I would have suffered a tremendous hit to income with the yields dropping from just under 4% down to .75% for 10-year and ~1.75% for 30 year TIPs. I am pretty sure that I didn't have the option to purchase 30 Year TIPs bonds back in 2000, at least not through Schwab.

Second I think it is important to realize that CPI is a pretty crude measure, especially if you are putting 100% of your assets into TIPs. Now I am not one of those types that think that Uncle Sam is deliberating lying about measuring CPI. (Although I acknowledge they have an incentive to do so). Still I think there can be a significant difference between the governments CPI and your personal one. For instance when I was a working stiff in the 90s. Two of the fastest growing components in CPI, health care, and shelter were irrelevant to me. The company picked up the tab for medical insurance and my copays were small. I owed my own home and so housing pricing didn't impact me, plus I bought lot of electronic toys, all in all I bet my personal inflation rate was lower than the reported rate. Fast forward to the last few years, medical cost continue to increase rapidly, but the drop in housing prices and the rental equivalence measures, have put a drag on reported inflation rates. Once again I am not impacted by housing price changes, but since I now buy my own insurance with pretty bare bone coverage, and it is higher cause I am older, CPI dramatically understates my personal inflation rate. In fact the increase in medical cost alone for me the last two years were higher than the government reported CPI.

Now if you have reasonable percentage of your money in TIPs say 25% the difference between your personal CPI and the TIPs increase in payments probably don't matter much. However, if you are 100% dependent on TIPs, you could see a big decrease in your disposable income if there is a mismatch.
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Old 05-07-2011, 08:58 PM   #27
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Wow, lots of info to digest! My gut reaction, after reading these replies, is maybe TIPS (probably a fund, not individual bonds) has a place, but not 100% of the Bond portion. Thanks, all, for your input.
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Old 05-07-2011, 10:13 PM   #28
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TIPS provide protection against every kind of inflation that is captured by CPI, unexpected or otherwise. It's a mechanical feature of the security. The principal balance is adjusted periodically based on changes to CPI.

I'm one who doesn't believe CPI is manipulated. If it were, you'd see credible economists adjusting their models to back out whatever they believed the government was doing wrong. You'd see the same discussion of adjustments every time the CPI was released. And if the index was bad enough, you'd see Wall Street firms publishing their own competing indexes. There are people in the private sector who have a lot of money at stake in getting this stuff right. Until you see them walking away from government statistics, I think you have to take the people casting stones who have nothing at stake with a grain of salt.

The other thing you'd see are inflation break-even spreads significantly higher than CPI readings. You don't see that. Which means that either the internet chatter boxes are wrong about CPI manipulation, or the market is stupid.
Thanks, I see that the CPI isn't as suspect as I feared it could be.

I would buy the TIPS fund not the individual bonds. Presently the fund's yield is zip tho TIPS have had a decent return YTD no doubts it's nav appreciation. I'd like to see the yield go up to send the nav down before I exchanged any roll over IRA funds into them vs buying them at an elevated nav.

I think TIPS would be a good thing for retirees but I am still a little conflicted about them. They always say to not invest in something you don't understand. While I understand how they protect against inflation, I don't fully grasp how they function. I've read explanations and follow it while reading it but I still don't know what to expect unlike I have a feel for this re equity and bond funds relative to the economy and market events. One day just not now.
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Old 05-08-2011, 07:03 AM   #29
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Presently the fund's yield is zip tho TIPS have had a decent return YTD no doubts it's nav appreciation.
I agree. I also feel this way about virtually every marketable security in the fixed income universe. CDs with low break-fees (like those offered by Alley) and online savings accounts make far more sense to me than any bond or bond fund at the moment.
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Old 05-08-2011, 09:01 AM   #30
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Here's an interesting take on ST TIPS, not very good sounding!

tips-bonds-investment-marketwatch: Personal Finance News from Yahoo! Finance
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Old 05-08-2011, 11:40 AM   #31
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The treasury market has an “implied inflation” component, which is the difference in YTM between a nominal treasury and TIP of the same maturity. Right now it is just under 2.5% average over 10 years.

If actual inflation, annualized over 10 years, is higher the TIP will provide a greater total return compared with the nominal 10 year bond.

TIPS are best when there is unexpected inflation. Here they outperform nominal treasuries and just about every other investment grade bond category. Conversely, they perform poorly compared with nominal treasuries when there is unexpected low inflation or deflation. In addition, TIPS mutual funds will lose value compared with individual TIPS whenever there is deflation.

Which is better depends mostly not on inflation but instead what is the purpose of the fixed income investment. Two very important questions are:

Does pension provide a substantial portion of your total income and is it indexed?
Do you need to protect the fixed income portion of your portfolio against loss of real value or loss of nominal value.

If the bond holdings are to fund future expenses and withdrawals will be regular and predictable, buying and holding individual TIPS scheduled to mature when needed can be a good idean’t a bad idea. TIPS are easy to buy.

If the purpose of the fixed income is to have a component of portfolio safety – guaranteed funds available when needed to fund consumption or rebalance a portfolio, short term nominal treasuries may be more appropriate. This is because, unlike all other bonds, they don’t decline in nominal value. Historically they have tracked inflation quite well.

If you have a large indexed pension, you probably need little fixed income. If you have a pension with no cola, TIPs might not be enough, and you might want to protect your purchasing power with a combination of equities and commodities. If you have no pension, you might want some of both, so you have cash to rebalance and purchasing power for future purchases.

Here’s a link to a article on the Fido website, written based on Ibbotson research. https://guidance.fidelity.com/viewpo...n-vs-deflation I have seen this (TIPS and ST treasuries comparisons) most commonly mentioned in research on asset allocation and commodities investments.
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Old 05-08-2011, 11:59 AM   #32
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Here's an interesting take on ST TIPS, not very good sounding!

tips-bonds-investment-marketwatch: Personal Finance News from Yahoo! Finance

Same article as in post #16. Interesting how the same author is posting on different site formats.

100% TIPS right now (always good to look at extreme examples)? Nah.
A portion of your cash position in TIPS to hedge against the upcoming inflation?
Surely.
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Old 01-05-2016, 01:00 PM   #33
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TIPS bond funds have taken a beating lately. I am wondering if they are now a better value than a total bond index fund. The contrarian in me is starting to sniff an opportunity.
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Old 01-06-2016, 07:59 AM   #34
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TIPS have done poorly . but the biggest risk of 100% tips is while they are linked to a cost of living index it isn't your personal cost of living index .

the cpi index's are only price change index'son a basket of stuff .

some items may be important to you and others not .

it is not an actual cost of living index and can be way different from what you experience as a personal cost of living change .you may come up way short of your actual needs .
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Old 01-06-2016, 08:36 AM   #35
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The problem with TIPs is that they are long bonds.
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Old 01-06-2016, 11:30 AM   #36
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If you are interested in learning more about them (specifically new auctions), I've found the insights on this site to be very useful. It is one opinion, but it helps explain the relative valuation of the offerings.

Treasury Inflation-Protected Securities | TIPS: Perfect investment for imperfect times? News, ideas, alerts
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