Getting a combination of targeted duration combined with inflation protection is possible via the FlexShares iBoxx 3-Year Target Duration TIPS Index Fund (TDTT) and the FlexShares iBoxx 5-Year Target Duration TIPS Index Fund (TDTF).
On one hand, TDTT seeks to provide investment results that, before fees and expenses, correspond generally to the price and yield performance of the iBoxx 3-Year Target Duration TIPS Index. The underlying index reflects the performance of a selection of inflation-protected public obligations of the U.S. treasury, commonly known as “TIPS,” with a targeted average modified adjusted duration, as defined by the index provider, of approximately three years.
Additionally, TDTF seeks to provide investment results that correspond generally to the price and yield performance of the iBoxx 5-Year Target Duration TIPS Index. Like TDTT, the underlying index reflects the performance of a selection of TIPS.
“Protecting against inflation is a popular investment strategy for many investors,” a FlexShares Fund Focus said. “And in their pursuit of inflation-hedging investments, Treasury Inflation-Protected Securities, or TIPS, often are investors’ top choices.”
“However, investors using TIPS must consider these securities’ duration—a key measurement of sensitivity to interest rate movements,” FlexShares said. “We believe that targeting a specific duration based on a portfolio’s interest rate exposure is key to successfully protecting against the threat of inflation. That being said, TIPS present more challenges to managing duration than most other fixed-income investments.”
Factoring in Modified Adjusted Duration (MAD)
One of the advantages of both ETFs is that they don’t simply rely on the inherent benefits of simply holding TiPS. The secret sauce has to do with what FlexShares calls modified adjusted duration (MAD).
“TIPS bonds require a unique duration metric called modified adjusted duration (MAD) in order to judge their performance against the broader market of fixed-income securities,” FlexShares said. “MAD is the market’s estimate of the duration on a TIPS bond based on inflation expectations at that point in time. Since inflation expectations are highly variable, a TIPS bond’s MAD can change quickly.”
“In our view, successful TIPS investing calls for focusing on MAD,” FlexShares added. “We believe that targeting the durations of TIPS more precisely can help investors better manage their investment risks by tailoring more effective inflation-hedging strategies for their portfolios. Yet keeping a TIPS portfolio close to its target duration can be a time-consuming and costly process that requires constant oversight and trading to keep the MAD within that target range.”
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