The market for Treasury Inflation-Protected Securities is teaching investors a harsh lesson about interest-rate risk, ramping up the focus on this week’s auction of the debt.
(Bloomberg) — The market for Treasury Inflation-Protected Securities is teaching investors a harsh lesson about interest-rate risk, ramping up the focus on this week’s auction of the debt.
Despite sticky price pressures, long-maturity TIPS are on track for their biggest monthly loss this year. Investors have driven up yields on all manner of long-dated bonds this month amid concern over the Treasury’s swelling borrowing needs and — ironically for TIPS — the risk that inflation may spike again or not decline smoothly.
TIPS have slumped because when yields rise sharply, the price drop can wipe out the extra payouts tied to the soaring inflation rate. Thursday brings the next big test of demand for the securities, with an $8 billion auction of 30-year debt at a time when yields on the maturity are around the highest in more than a decade. That’s even after a big drop Wednesday amid signs of weaker business activity.
The auction comes the day before a potentially pivotal speech by Federal Reserve Chair Jerome Powell. With inflation stripped out, TIPS serve as a pure read on the economy’s prospects, and investors expecting growth to slow after more than 5 percentage points of Fed tightening may look to buy. There are signs, however, that plenty of others are likely to need convincing, as TIPS-focused mutual funds are mired in a lengthy streak of outflows.
“Flows have been consistently negative for the past year,” said Michael Pond, head of global inflation-linked research at Barclays. “Retail investors have learned that a one- to 30-year TIPS bond fund is a duration fund and not an inflation fund.”
The Bloomberg US Treasury Inflation-Linked Bond Index is up about 0.1% in 2023, after a record rout of almost 12% last year. An index of TIPS maturing in 15 or more years is down about 6% this month.
This month, the 30-year TIPS yield shot above 2% for the first time since 2011, while the 10-year benchmark on Monday finally reached 2%, a level last seen in 2009. Both have dropped since.
Some investors may also be wary of Thursday’s 30-year offering as an auction of 10-year TIPS in July is now under water. That sale, marked by strong demand at a yield of 1.495%, compares unfavorably with the current yield around 1.9%.
“If the sale does go well, I think it will likely represent a turning point for the medium-term, with valuations in the back-end historically attractive,” said Edward Acton, a strategist at Citigroup Inc. Given the backup in inflation-adjusted yields, he said a disappointing auction would be surprising and “a demonstratively weak result would likely mean the market hasn’t fully encapsulated supply and term-premium risks.”
While Wall Street awaits the verdict on demand for long-end TIPS on Thursday, James Athey at Abrdn says retail investors are missing an important point if they’re unloading now on the view that inflation is ebbing.
“Ironically, therefore as they see inflation come down they sell TIPS when in fact that’s the time to buy because it is real duration you are buying first and foremost,” said Athey, the firm’s investment director.
More stories like this are available on bloomberg.com
©2023 Bloomberg L.P.