4 Reasons Active TIPs ETFs Could Be Needed | ETF Trends

Active management in exchange traded funds (ETFs) is said to be only worthwhile as long as it provides better returns than the passive counterparts. Are there enough inconsistencies in the Treasury inflation protected securities (TIPS) market to warrant an active hand?

Allianz’s Pacific Investment Management Co. (PIMCO) says that TIPs often lead to missed opportunities and hidden costs, reports Ian Salisbury for The Wall Street Journal. TIPs adjust their principal to match rising prices, or in other words, they are Treasury bonds that hedge against inflation.

TIPs have rallied this year on worries over inflation, which could arise as a result of the copious government stimulus efforts. PIMCO has filed with the Securities and Exchange Commission (SEC) to launch TIPs-related ETFs in an attempt to get in on the investor interest, and all four would be index funds.

PIMCO’s paper, written by John Cavalieri, Gang Hu and Mihir Worah, points out four areas of inefficiency in the TIPS market that could be corrected through proper management during specific segments of the year or changes in the shape in the yield curve:

  • Passive investors can incur larger transaction fees than active investors in the TIPs market, and passive investors won’t be able to time transactions during the day to take advantage of market imbalances that could occur at the end of the day.
  • TIPs ETFs rebalance periodically and active investors can capture alpha by purchasing securities at artificially depressed prices after rebalancing.
  • TIPs auctions create market inefficiencies. The funds can lose out on a chance to trade in periods when supply and demand are out of whack.
  • TIPs prices also shift according to the seasonal patterns in the underlying inflation index.

Vanguard agrees with this assessment and is in favor of active management in TIPs funds. Barclays, however, dismissed Pimco’s findings, stating that ETFs trade less frequently than active funds, which lowers costs. Furthermore, Barclay insists that costs incurred are easier to judge since they are rolled into bid-and-ask spreads that investors see upon trades.