Concerned About Inflation? This investment can be an option for your portfolio
Retirees worried that inflation is affecting the value of their money should consider hedging against the possibility.
Inflation Protected Securities (TIPS) could be a suitable option.
Like typical government bonds, TIPS are issued and hedged by the US government. However, they work a little differently. And depending on how you use them, they can help protect your purchasing power.
As the US finds its way back to pre-pandemic activity and the Biden administration’s stimulus efforts accelerate the recovery, some investors have brought inflation to their minds. The consumer price index rose in March by 0.6% compared to February and by 2.6% year-on-year – much higher than in February compared to the previous year (1.7%).
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Additionally, the Federal Reserve has expressed its willingness to let inflation run hotter than the usual 2%, although some experts believe the March surge will be temporary.
“It’s hard to say whether inflation is a major concern right now, but there is a strong argument that inflation could continue to rise in the next few years as the economy warms,” said certified financial planner Douglas Boneparth, president of Bone Fide Wealth in New York. “So I wouldn’t ignore anyone’s concerns.”
According to a recent CNBC poll of economists, the economy is expected to grow by more than 6.5% this year. The respondents also assume that the unemployment rate will fall to 4.9% and inflation will stand at 2.5%.
TIPS are issued by the US government like government bonds. Investors receive regular interest payments on the basis of the so-called face value (face value) until the security matures. At this point you will get your capital back.
TIPS, however, offer inflation protection through an annually adjusted nominal value derived from the consumer price index, which measures inflation. The changing annual value is intended to maintain the purchasing power of TIPS over a longer period of time. In contrast, typical government bonds can depreciate in value over time due to inflation unless the interest they earn is above that rate.
The 10-year government bond is currently generating a yield of around 1.6% – which would mean a loss of purchasing power if inflation even reached 2%.
I don’t think TIPS are good in the long run … to maintain purchasing power.
President and CEO of Kendall Capital
“I’m not a fan of 1.5% or 1.6% if they are below the Federal Reserve Chairman’s target inflation rate of 2%,” said CFP Clark Kendall, president and CEO of Kendall Capital in Rockville, Maryland.
Kendall said he used TIPS for short-term needs – up to three years.
“You have your headmaster’s safety and security,” said Kendall. “But I don’t think TIPS are good long-term … to maintain purchasing power.”
For example, for 10 or 15 years, other investments – including dividend-yielding stocks – are generally better tools for beating inflation, Kendall said.
TIPS aren’t necessarily a good investment if you’re looking for income, either, as their returns are below non-inflation-linked bonds, Boneparth said.
“It’s about protecting purchasing power,” he said. “If there is no inflation, you will not see any of the benefits of owning TIPPS.”