Wednesday, September 8, 2010

Investing 101: TIPS - Treasury Inflation-Protected Securities

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Treasury Inflation-Protected Securities, or TIPS have been around since 1997. The Treasury issues TIPS. They produce a fixed interest rate paid semi-annually. The treasury uses the Consumer Price Index as a guide to adjust the principal for inflation. Both principal and interest are adjusted for inflation. If deflation occurs your still guaranteed the original principle according to Bankrate.com 
 
Newly issued TIPS are purchased directly from the government through it's TreasuryDirect program, in the months they are auctioned off. There is a secondary market where they can be purchased all year. 
 
You can buy TIPS with 5, 10 and 20 year maturities. You will have to pay taxes on the increase in principle, even though you don't receive it till the bond matures. So it is better to have TIPS in a tax-deferred account. 
 
The experts say the best way to buy TIPS is through a mutual fund. It's more expensive and there is a minimum of $1000 when buying individual TIPS. 
 
So what's so good about TIPS? With normal fixed income investments there is risk of inflation eroding their value. With TIPS, they are guaranteed to keep up with inflation. If you believe inflation is a danger then TIPS are for you. Your money will be protected. 
 
TIPS are one part of a well diversified portfolio. They receive a nice interest rate and are protected from rising inflation. The downside to TIPS: The principal of the bonds and the coupons fall when prices decline.


1 comment:

  1. I'm sure there is a break even point with inflation when it becomes advantageous to own TIPs. My guess is that with the current low inflation rate TIPs offer less return than regular bonds, and if inflation stays low will provide a lower return for the lifetime of that investment.

    ReplyDelete

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