One of the biggest problems facing advisors and clients this year isn’t just the fact inflation remains stubbornly high. It’s the point that some of the traditional inflation-fighting assets aren’t delivering for market participants.
In some cases, namely gold and real estate, the blame can be laid the doorstep of rising interest rates, but the real disappointment in the inflation-fighting category is Treasury Inflation-Protected Securities (TIPS). As the name implies, these bonds are designed to protect investors from inflation.
This year, however, TiPS are, well, terrible. At least on a relative basis. The average year-to-date loss for the iShares TIPS Bond ETF(TIP)and the Schwab U.S. TIPS ETF (SCHP) – two of the largest exchange traded funds in this category – is about 14.5%. That’s not much better than the 15.5% shed by the Bloomberg US Aggregate Bond Index. In fact, SCHP is performing worse than “the agg.” Making matters worse, the two TIPS are noticeably more volatile on an annualized basis than the broader bond benchmark.
That’s disappointing under any circumstance, particularly when considering TIPS are designed to be inflation buffers and there’s about $2 trillion worth of these bonds floating around in the market today.
Time to Shine, But TIPS Disappoint
TIPS aren’t a new bond segment and in ETF form, they’ve been accessible, in some cases for two decades or more. That is to say for the bulk of TIPS ETFs’ lifespans, inflation wasn’t a concern. That also implies 2022 should be these bonds’ time to shine and they’re doing anything but that.
“The reason: inflation that has far exceeded economists’ expectations, leading the Federal Reserve to hike interest rates much more sharply than expected. At long last, TIPS would have their moment! Their inflation protection would now show its value,” notes Morningstar’s John Reckenthaler. “Not hardly. TIPS have performed disastrously, barely outdoing the traditional Treasuries that they were designed to thrash, should inflation appear.”
Part of the problem TIPS faced entering this year is that for the 18 months ending December 2021, the bonds weren’t pricey to hold because they sported negative real yields. That premium quickly disappeared early this year, but not to the benefit of investors.
“If the real yield on TIPS becomes even more negative, then investors who own those securities can resell them at a profit. Unless one holds TIPS until they mature, their eventual total returns are uncertain, because the marketplace’s decisions will affect the outcome,” add Reckenthaler.
Maybe Some Value, But TIPS Might not Be Worth It
Given the weakness of TIPS this year, some clients might be apt to consider this a value asset class. However, TIPS might be more value trap than value today, signaling opportunity for advisors to safeguard clients from a mistake.
“After suffering such heavy losses (particularly with 30-year TIPS, which have shed one third of their value this year) TIPS may have become a bargain,” concludes Reckenthaler.
Still, TIPS as a value idea is a risky proposition and there may well be better fixed income opportunities to consider on that front.