5 year CD (4.5%) vs. 5 year TIPS?

[Jimonlimon]

Summary: For purchase within a pre-tax 401k, are 5 year CD's at 4.5% or 5 year Treasury Inflation-Protected Securities (TIPS) a better bet? What would be a good TIPS rate?

I'm building an 8-1/2 year ladder to "bridge" our financial needs from retiring and starting my government pension until taking Social Security. After that point pension plus Social Security will more than match our estimated income needs. Money is all in pre-tax 401k so no benefit from tax free bonds; I'll sell stock funds and then buy through my Schwab PCRA. For this bridge I want guaranteed income in order to convince my wife that market fluctuations won't break our budget.

Years 1-4 are already covered by CD's that I purchased in March with great rates (now wishing I had bought more!) To fund years 5-8 I'm considering either 5 year CD's, 5 year TIPS from the October auction, or a blend of the two. Between CD's already purchased and the new ones it will be about 1/4 the total value of our combined 401k; the rest will remain in stock funds.

Currently FDIC insured 5 year CD's available to me through Schwab are at 4.5%. They don't offer durations between 5 and 10 years. 30 year TIPS going on auction this week are predicted at about 2%. If 5 year TIPS are around 1.5% I think that's a safer bet than 4.5% CD's.

Update- I'm reading up on actually how to purchase TIPS through my account and what the numbers mean!

Opinions? Suggestions?

 

[Trailwalker]

It all depends on what happens with inflation. I’ve been buying Treasuries out to two years and less and annual purchases of five year TIPS. I haven’t been able to buy a reliable crystal ball.

 

[pb4uski]

Check out https://www.tipsladder.com/

If you believe that the Fed will get inflation tamed to their 2% target then a TIP with 5 years left yielding 2.3% real seems to be a push with a 4.5% CD or Treasury to me. If inflation is lower than 2.2% then the Treasury is the winner, if inflation is greater than 2.2% then the TIP is the winner.

How lucky do you feel?

 

[Montecfo]

There are probably some richer CDs than that if you look at secondary market and look at low coupon callables.

 

[Chuckanut]

There is no rule that says you have to choose just one. Diversity is the only way I know to deal with this uncertainty. A few ordinary 5 year CDs, a few 5 year TIPS, and maybe even a few callable 5 year agency bonds yielding at least 6%.

 

[Jimonlimon]

If you believe that the Fed will get inflation tamed to their 2% target..

I hope they will blink before it hits 2%! I'm guessing the average for the next 5 years will be closer to 3%.

How lucky do you feel?

This investment needs to be very, very safe and easily explained as it's one of the cornerstones of convincing my wife we can afford for me to retire now. The other 3/4 of our 401k's are invested in a mix of stock funds, stock index funds, etc. so we won't lose out on big market gains but we can avoid locking in big market losses.

 

[tulak]

I wouldn’t fret about optimizing what will probably be a small amount. Take your risk with equities.

Personally, I would buy TIPS. It sounds like you are doing this now and you can easily buy secondary TIPS that have 2%+ real yield for maturities to 2033.

https://www.wsj.com/market-data/bonds/tips

If you have the money available, I’d build the ladder now and not wait until auction.

Full disclosure: I bought TIPS earlier this week maturing in 2032 and 2033. 2% real yield and two rungs of my ladder filled.

 

[GravitySucks]

I’d go with the TIPS if safety is a concern. Like you, I’m thinking an average inflation will be higher than 2% or the next 10 years. If the TIPS come in a bit worse than the CDs consider it an insurance cost.

I’m buying 5 and 10 years. TIPS should constitute half of my FI by the end of next year.

 

[finvest2]

The important thing to look at is the break even rate compared to nominal treasuries (or CDs). i.e. at what inflation rate does TIPS beat, or lose, to the CDs.

I picked up 5 year tips at 1.832% in the last auction back in June, I was pretty happy with the rate, the breakeven rate (compared to nominal treasuries) at the time was 2.2%. Chance that inflation averages under 2.2% for the next 5 years? Possible, but if so probably not by much. Chance that it averages over 2.2%? Seems a lot more likely.

I follow TIPSwatch, they have lots of good info and always posts on the upcoming auctions. Here's the post about the current 30 year auction: https://tipswatch.com/2023/08/20/fo...-tips-reopening-will-be-a-unique-opportunity/

They also have the auction schedule: https://tipswatch.com/upcoming-tips-auctions/ - the next 5 year auction isn't until Oct 19th, but you can still buy 5 year duration TIPS on the secondary market right now.

 

[Winemaker]

Fidelity has a 5 year Goldman Sachs 6.10 CUSIP 38150AU86. No Call protection.

 

[Jimonlimon]

Thanks everyone. I'm doing some research regarding what I can buy through my somewhat restricted Schwab Personal Choice Retirement Account.