The word deflation has been thrown around in the past few months, but the Federal Reserve will likely intervene to help push inflation along. The Fed’s heavy hand is affecting the Treasuries market, along with related exchange traded funds (ETFs).
The 30-year Treasury yields increased as much as half a percentage point since September to 2.61% more than the equivalent maturity inflation-indexed debt, signaling further gains in consumer prices, reports Daniel Kruger for BusinessWeek. But any surges in inflation can be managed by investing in Treasury Inflation-Protected Securities (TIPs) ETFs. [TIPS ETFs: A Surge in the Making?]
The Fed is cogitating about more purchases of Treasuries as a way to increase the money supply, with the added twist of raising inflation expectations to strike down any worries about possible deflationary pressures. [Bond ETFs Take on an Age-Old Problem.]
Core consumer prices, which exclude food and fuel, inched 0.8% higher in September year-over-year, the lowest gain since 1961. Federal Reserve Bank of Philadelphia President Charles Plosser expects that inflation may return to about 2% in the next year.
Traders and analysts expect the Fed to purchase 10-year, or less, Treasury notes to keep borrowing costs dampened. Yield premiums on 30-year bonds as compared to 10-year notes hit a record high of 1.46% on Oct. 15. Long-term Treasuries are usually affected by inflation over the long-term.
Jack Brown for Naples Daily News notes three key metrics to aid investors when evaluating the return potential and risks of bonds.
- Yield. Link “yield-to-maturity” (YTM) to individual bonds and “dividend yield” for bond funds. Bond default, early payment of principal or selling the bond before maturity will affect the yields, or returns. Usually, the greater the yield, the greater the risk of a bond, though bonds are generally less risky than equities.
- Credit. At times, bond issuers may not pay an investor back, or also known as credit risk. Higher yields may also correspond with lower credit ratings.
- Interest Rate. When rates go up, the value of bonds goes down. Short-term bonds, however, are less susceptible to this risk. Long-term bonds will feel the effects of interest rate risk. It is important to know the duration of a bond to evaluate such risks.
For more information on bonds, visit our bond ETFs category.
Max Chen contributed to this article.
The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.