One of the great mysteries that emerged from the bond market’s 2022 turbulence was the laggard status of Treasury Inflation-Protected Securities (TIPS). Investors can investigate inflation protection with these options. After all, these bonds are designed to thrive when inflation rises, as it did last year.
Fast forward to 2023, and inflation is ebbing, though still elevated. Fortunately, TIPS are getting their groove back. For example, the Vanguard Short-Term Inflation-Protected Securities ETF (VTIP ) is higher by 2.23% year-to-date, as of May 16.
VTIP tracks the Bloomberg U.S. Treasury Inflation-Protected Securities 0-5 Years Index. It offers fixed income investors another perk to go along with that steady 2023 performance. The Vanguard ETF yields 5.73%, a jaw-dropping amount when considering that the fund’s portfolio holds mostly high-quality U.S. government debt.
Analysts Like VTIP
VTIP debuted in October 2012. Some registered investment advisors, retail investors, and ETF analysts consider it a favorite TIPS ETF. The $14.9 billion VTIP carries a “gold” rating and a five-star ranking from Morningstar.
“The U.S. Treasury backs these bonds with the full faith and credit of the U.S. government, so they face little, if any, default risk. Their inflation fighting power comes from their unique connection to the Consumer Price Index. The face value of these bonds, and their corresponding coupon payments, are designed to increase as inflation creeps higher,” noted Morningstar analyst Daniel Sotiroff.
As Sotiroff pointed out, TIPS expose investors to interest rate risk. On the surface, that appears to run counter to the objective of the asset class because the Federal Reserve usually raises rates when inflation is high. The Vanguard ETF mitigates some of that risk. The average maturity of its 24 holdings is 2.7 years, and its average duration is 2.6 years.
“While it’s not completely immune from the impact of rising rates, it should fare better than others in the inflation-protected bond category during strong inflationary bouts,” added the analyst.
On that note, the good news is that the most recent commentary from the Federal Open Market Committee (FOMC) suggests that the central bank is likely to pause rate hikes for the remainder of 2023. That could remove some of the risk associated with TIPS and ETFs such as VTIP.
Another point in VTIP’s favor is that the ETF lives up to the Vanguard tradition of cost effectiveness. VTIP’s annual fee is just 0.04%, or $4 on a $10,000 investment, making it one of the least expensive ETFs in this category.
For more news, information, and analysis, visit the Fixed Income Channel.