Another TIPS question

I don't claim to be an expert either. I'd rather be lucky than good. And I was lucky with buying a five year ladder close to 2.5% YTM.

You can find secondary market TIPS maturing in 2029 that are well under par. You just won't get the higher-than-market coupon. You will get a lower than market coupon, and get a discount.

I've read a ton-load about the "factor", and I'm not sure I understand it, although some people speak very authoritatively about it. Ex: Vanguard TIPS tracking and Bond Factor Rate - Bogleheads.org For me, I'm looking closely at the YTM. I generally choose the lower paying coupon if the YTM is about the same. I
 
The problem figuring the final yield on TIPS is that you don't know what the inflation factor will be at maturity. At least that's the way I read this.
 
The problem figuring the final yield on TIPS is that you don't know what the inflation factor will be at maturity. At least that's the way I read this.
I think the YTM is fixed at purchase. Otherwise that YTM quoted would be meaningless. What you don't know is your final proceeds because during the holding period inflation will be a mystery but the inflation factor is adjusted (usually upwards unless there is deflation) to take care of this. What you get a maturity is the total TIPS purchased times the final inflation factor.

See the YIELD calculation I posted above which does not depend on the final inflation factor, just the purchase point inflation factor.
 
The problem figuring the final yield on TIPS is that you don't know what the inflation factor will be at maturity. At least that's the way I read this.
That's not a bug; it's a feature.

You won't know your final yield, but you do know your real yield. With traditional Treasuries, you know your nominal yield but won't know your real yield. There's a bet to be made as to which will be better. Often traditional Treasuries do better. If they do, I will still rest easy at night, knowing that my money will pretty much buy what I invested, plus the coupon rate. For my intermediate bucket, that works for me.
 
The problem figuring the final yield on TIPS is that you don't know what the inflation factor will be at maturity. At least that's the way I read this.

So I followed the link to Bogleheads which had a link to Treasury and I was able to look up that April 1999 30 year bond. The "index ratio" from Treasury is the same as Vanguard's "Factor."

You aren't getting back 100 at maturity as you do on a nominal bond, currently you get 192 on that particular one which will be plus or minus depending on interval inflation or deflation. I thought Muirwannabe had a good question about buying over par. In this case it doesn't matter at all.

IDK if not knowing the final dollar value is a "problem" since it will be 100 adjusted for inflation over the period. Knowing the value in 2029 would mean knowing what inflation will be in the interim which requires a crystal ball. OTOH I don't think you will know your 5 year returns on rolling T bills until you get there.

Alan Roth built himself a 30 year tips ladder which combined with Social Security gives him a "spending floor." There's even a website that facilitates it. https://www.advisorperspectives.com/articles/2024/10/07/four-easy-steps-build-tips-ladder
 
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I think the YTM is fixed at purchase. Otherwise that YTM quoted would be meaningless. What you don't know is your final proceeds because during the holding period inflation will be a mystery but the inflation factor is adjusted (usually upwards unless there is deflation) to take care of this. What you get a maturity is the total TIPS purchased times the final inflation factor.

See the YIELD calculation I posted above which does not depend on the final inflation factor, just the purchase point inflation factor.
You can’t add the inflation factor into the yield as it’s unknown. So YTM is the real yield as opposed to the nominal yield quoted for other bonds. This is where comparisons get very tricky.
 
I think one can overthink TIPS. Just trust that real YTM at time of your purchase. The bond math can be mystifying, at least it is to me.
 
I think the YTM is fixed at purchase. Otherwise that YTM quoted would be meaningless. What you don't know is your final proceeds because during the holding period inflation will be a mystery but the inflation factor is adjusted (usually upwards unless there is deflation) to take care of this. What you get a maturity is the total TIPS purchased times the final inflation factor.

See the YIELD calculation I posted above which does not depend on the final inflation factor, just the purchase point inflation factor.
This is where it is confusing. Since you say the FINAL YTM is a given at purchase, do the inflation adjustments, which apparently affect periodic principal adjustments along the way (correct?), have anything to do with YTM? I mean if YTM is fixed, then why bother buying a TIPS versus a T Bill or note or bond?
 
This is where it is confusing. Since you say the FINAL YTM is a given at purchase, do the inflation adjustments, which apparently affect periodic principal adjustments along the way (correct?), have anything to do with YTM? I mean if YTM is fixed, then why bother buying a TIPS versus a T Bill or note or bond?
No it just means that YTM of TIPS is different from YTM of other bonds.
 
This is where it is confusing. Since you say the FINAL YTM is a given at purchase, do the inflation adjustments, which apparently affect periodic principal adjustments along the way (correct?), have anything to do with YTM? I mean if YTM is fixed, then why bother buying a TIPS versus a T Bill or note or bond?
T Bills are short term and have to be rolled over frequently, Nominal Treasury bonds do not protect you against unanticipated inflation. Nominal Treasury bond yields are set by market forces that anticipate future inflation. That guess by the markets could be under or over the future inflation and varies day to day.

Anyway, you buy TIPS because you want to be protected against inflation. You do not have to worry that the market forces will drive current yields up because of a surge of inflation as long as you hold to maturity. At a YTM = 2% you are getting a decent historical real rate of bond returns with no worry about inflation. Sometime nominal Treasuries beat TIPS because the inflation anticipated turns out to be lower. No way to know in advance. Some people hold a both Treasury bond types.
 
If one looks at the TIPS yields since 2003 there were significant periods of time where TIPS paid negative yields to maturity (select MAX here: 5yr FRED TIPS chart). I would not go for that deal.

I did go for that deal. I had long planned to put together a TIPS ladder as a bridge to SS (but I had to wait to retire to get the money moved from a 401k-type plan into an tIRA where I could get individual securities). In hindsight, the timing was bad. However, you have to remember that at that time, Nominal treasuries were paying diddly squat. In light of the unexpected inflation that we did get, my -1.5% real yield was a very good move!
 
That FRED chart I linked to shows negative yields to maturity in the past.

Sorry, I completely missed that you could pay a premium for TIPS. You’re right, there were periods of time where investors would pay more for TIPS for the inflation adjustment.

I’m not sure if I would go that far. It would be a lot harder to actually pay for insurance against inflation, which may or may not materialize.
 
Not an easy product!
I’m just not seeing why this is a good investment, unless one is betting on inflation rising a fair bit above current levels.
Do you consider your home fire insurance to be a good investment if you don't have a fire? I think so.

The product is very easy the way I think about it. I am buying inflation insurance with memory of past inflation events and IMO the inevitable future bursts into two digits.

The insurance premium for the TIPS insurance is to accept a coupon rate that is below that of straight govvies. The exact amount is not a concern to me. Same-o for my fire insurance. With the fire insurance I can compete sellers to get the best price. With TIPS, not so much. But that is not a reason to not buy the insurance.

With fire insurance, you insure up to a certain number, like replacement value. With TIPS there is no policy limit. You're covered regardless. Nice. Oh, you have to pay tax on the inflation dollars. Not nice, but it's the only game in town.

So, TIPS with no numbers. :)
 
@OldShooter, I view insurance as something to buy to protect against financially devastating loss. If inflation were to reach 9, 10, even 13 percent like we had for a span of four or five years in the mid to late '70s, I think I could just tighten my belt--as my family did back then. Maybe the decision whether to use TIPS for a major chunk of one's retirement portfolio depends on how much slack one's belt already has? I don't have a fat nest egg, but I think there are budget items I could trim for four or five years in the unlikely event of major inflation. Meanwhile, in the more likely case of many years with inflation running around 3 or maybe 4 percent I can ean more elsewhere. No?
 
@OldShooter, I view insurance as something to buy to protect against financially devastating loss. If inflation were to reach 9, 10, even 13 percent like we had for a span of four or five years in the mid to late '70s, I think I could just tighten my belt--as my family did back then. Maybe the decision whether to use TIPS for a major chunk of one's retirement portfolio depends on how much slack one's belt already has? I don't have a fat nest egg, but I think there are budget items I could trim for four or five years in the unlikely event of major inflation. Meanwhile, in the more likely case of many years with inflation running around 3 or maybe 4 percent I can ean more elsewhere. No?
For Treasuries that is not the case (the red above). The breakeven rate is around 2.4% now. You might be able to get higher yields with higher risk.
 
... the more likely case of many years with inflation running around 3 or maybe 4 percent ...
As they say, it is difficult to make predictions, especially about the future. My Magic 8 Ball is apparently not as clear as yours is.

Re belt tightening, in our case the inflation insurance premium is negligible relative to our assets, so for us the decision easily goes the other way. Truthfully, we could self-insure our houses too, but we choose not to. Same reason. YMMV.
 
So for the TIPS experts, I have two questions. If I were to buy this above par TIPS then at maturity would the payout be adjusted by the "factor" effective at the time? Is this accounted for in the YTM or does that just consider the income stream? View attachment 53943
To answer your specific questions:

1. Final payout at maturity will get adjusted to the rate of inflation in April 2029.
2. Inflation is not part of YTM calculation for TIPS. YTM calculation factors in the price you pay, adjusted par value and coupon rate.
 
So for the TIPS experts, I have two questions. If I were to buy this above par TIPS then at maturity would the payout be adjusted by the "factor" effective at the time? Is this accounted for in the YTM or does that just consider the income stream? View attachment 53943
Not a TIPS expert by any measure, but here is my thinking. Below is a screenshot of that issue from Schwab. My understanding is that the current par is 191.947 (1.91947 inflation factior * 100) and that the current coupon is 3.719 (191.947*3.875%/2). So at purchase based on a 107.842 ask price you would pay 206.999 (191.947*107.842/100) and would also pay for accrued interest since the last coupon payment of 1.977 (191.947*3.875%/365*(1/20/2025-10/15/2024)).

I come up with an XIRR of 1.945%... pretty close to the yield to maturity on the Schwab screenshot of 1.934%. Note that this calculation assumes that inflation between 1/20/2025 and the maturity on 4/15/2029 is nil since neither the coupon payments or the maturity valu reflect any inflation adjustments after the last inflation adjustment on 10/15/2024. My understanding is that on each coupon payment date that the par value will be adjusted for inflation during that coupon period and that future coupons will reflect the 3.875% coupon rate applied to the new par value.

1.945%​
01/20/25​
-206.999​
01/20/25​
-1.977​
04/15/25​
3.719​
10/15/25​
3.719​
04/15/26​
3.719​
10/15/26​
3.719​
04/15/27​
3.719​
10/15/27​
3.719​
04/15/28​
3.719​
10/15/28​
3.719​
04/15/29​
3.719​
04/15/29​
191.947​


1737407274376.png
 
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To answer your specific questions:

1. Final payout at maturity will get adjusted to the rate of inflation in April 2029.
2. Inflation is not part of YTM calculation for TIPS. YTM calculation factors in the price you pay, adjusted par value and coupon rate.
Won't the par value and future coupons be adjusted for inflation at each coupon date between now and maturity? IOW, as I understand it on 4/15/2025, 10/15/2025, 4/15/2026 et al through maturity on 4/15/2029 the par value will be adjusted for inflation AND subsequent coupon payments will be the adjusted par value at the beginning of the semi-annual period * 3.875%/2 (or thereabouts).
 
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Does anyone have and care to share a screenshot or 2 of what I can expect a TIPS bond to look like inside my Schwab screens and/or monthly statements? I'm buying this week's 10-year offering. I'm curious what this will look like in my account and statements. I'll need to decide how I want to model it in Quicken from this information. I don't auto-download transactions from Schwab as I prefer to enter transactions manually so I can do it the way that makes the most sense to me.
 
Won't the par value and future coupons be adjusted for inflation at each coupon date between now and maturity? IOW, as I understand it on 4/15/2025, 10/15/2025, 4/15/2026 et al the par value will be adjusted for inflation AND subsequent coupon payments will be the adjusted par value at the beginning of the semi-annual period * 3.875%/2 (or thereabouts).
Yes, the par value and the half yearly interest payments will adjust wit inflation.
YTM (Yield to maturity) as calculated for TIPS is the real yield if TIPS is held to maturity. Real yield is the yield above the rate of inflation.
In the example, you are guaranteed to earn 3.875% on the inflation adjusted par value every 6 months. So even though inflation adjustments will make the par value and actual interest earnings in dollars change year over year, the YTM does not change (once you purchase a bond and hold it to maturity).
 
Won't the par value and future coupons be adjusted for inflation at each coupon date between now and maturity? IOW, as I understand it on 4/15/2025, 10/15/2025, 4/15/2026 et al through maturity on 4/15/2029 the par value will be adjusted for inflation AND subsequent coupon payments will be the adjusted par value at the beginning of the semi-annual period * 3.875%/2 (or thereabouts).
Doesn’t the inflation factor adjust daily which also adjusts the par value daily? That’s what I’m seeing.
 
Doesn’t the inflation factor adjust daily which also adjusts the par value daily? That’s what I’m seeing.
Yes, the inflation adjustment happens daily.

Covered on tipswatch:

These inflation indexes are crucial because they set the base principal amount for all TIPS, every single day. That means if you sell a TIPS on the secondary market, you will get the full value of your earned inflation.

 
Do you consider your home fire insurance to be a good investment if you don't have a fire? I think so.

The product is very easy the way I think about it. I am buying inflation insurance with memory of past inflation events and IMO the inevitable future bursts into two digits.

The insurance premium for the TIPS insurance is to accept a coupon rate that is below that of straight govvies. The exact amount is not a concern to me. Same-o for my fire insurance. With the fire insurance I can compete sellers to get the best price. With TIPS, not so much. But that is not a reason to not buy the insurance.

With fire insurance, you insure up to a certain number, like replacement value. With TIPS there is no policy limit. You're covered regardless. Nice. Oh, you have to pay tax on the inflation dollars. Not nice, but it's the only game in town.

So, TIPS with no numbers. :)
Thank you for this post. I appreciate it.

It reinforced the reason I buy TIPS: inflation protection.

I'm in the process of filling out my TIPS ladder and I had a decision on which TIPS to buy. For example, I need a TIPS that matures around Jan 1st, 2030. I had two options: either the 5-year or 10-year TIPS. The 5-year TIPS has a coupon rate of 1.625% and inflation factor of 1.00282. The 10-year TIPS has a coupon rate of 0.125% and inflation factor of 1.22644.

I don't care about the coupon rate. What I care about is return of principal on Jan 1st 2030. So for the 5-year TIPS, I can pay about $990 per TIPS and for the 10-year about $1,120.

I went with the 5-year TIPS.

Now both of these TIPS will return about the same amount, with a slight edge to the 10-year, whose YTM is 1.966 vs 1.903 for the 5-year.

But since I only care about getting an inflation-adjusted principal at maturity, I went with the cheaper option. The difference I can invest in equities, where I should (theoretically) have better return.

Edit to add: I probably should have left the numbers out, but for my own reasons, it's easier for me to buy TIPS that are close to par value. Really, to be equal to the 5-year TIPS purchase, I would have bought less 10-year TIPS to take into account the inflation factor (and coupon rate for that matter). This would result into about the same price I paid for the 5-year TIPS, except I wouldn't have as many 10-year TIPS.
 
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