Exchange traded funds that invest in Treasury Inflation Protected Securities have been stuck in a range for over two months as traders eye inflation data and Treasury yields.
Last week, the government said consumer prices rose 0.4% in April as gasoline prices surged. Some investors have been using ETFs that invest in TIPS in the bond segment of their portfolios. TIPS are seen as a way to fight inflation and protect purchasing power.
The group includes iShares Barclays TIPS Bond Fund (NYSEArca: TIP), PIMCO 1-5 Year TIPS (NYSEArca: STPZ) and SPDR Barclays Capital TIPS ETF (NYSEArca: IPE). [Hedge Against Rising Inflation with TIPS ETFs.]
The consumer price index was up 0.4% last month, on target with analyst expectations, led by fuel prices and increasing food costs. This follows a 0.5% rise in March, with an overall year-on-year CPI inflation rate of 3.1%. Inflation measured by the core CPI, which strips out energy and food, was up 0.2% in April. [TIPs ETFs to Consider as Inflation Rises.]
The latest uptick in inflation is not casting a large enough shadow to concern Federal Reserve policy makers, including Chairman Ben Bernanke, who predicts the acceleration will be temporary, say Timothy R. Homan and Shobhana Chondra for Bloombeg BusinessWeek.
However, economists warn that inflation is bubbling under the surface and could become serious enough for policy makers to take action later this year. “I think that you are seeing inflation drift higher,” said Joshua Shapiro, chief United States economist at MFR Inc. “On the core side it is a slow drift, but it is nonetheless there. What will be important to the Fed is the mix between inflation and real growth.”
TIPS’ principal is linked to changes in the CPI and “provides an effective hedge against inflation in an investor’s portfolio relative to standard Treasury bonds,” says Morningstar’s Timothy Strauts in an analyst report on iShares Barclays TIPS. “As the CPI rises, the principal in the individual TIPS is adjusted upward. The coupon on the bond is then paid on the higher principal, which raises the overall effective yield of the security,” he said.
“It is important to note that inflation is just one component of interest rates and that changes in the ‘real rate’ or the risk-free cost of capital will cause the value of TIPS to oscillate up or down just like Treasury bonds,” Strauts wrote.
iShares Barclays TIPS
Tisha Guerrero contributed to this article.
Full disclosure: Tom Lydon’s clients own TIP.