US Treasury sold 30-year TIPS at 2.19% real yield in February 2011. I didn’t buy it because the maturity is too long for me. Now, not mere three months later, the value of this bond has gone up substantially. Had I known it would do this well, I should’ve put a lot of money in it.
Back in February, investor paid $987 for each $1,000 bond. As I’m writing this post, you can sell this bond for $1,113. That’s a gain of nearly 13% in three months. The stock market went up maybe 2% during the same time. Who says you can’t make more money in bonds?
If you bought this bond in February, should you buy more, hold it, or sell it? I’m using this bond as an example to show the analysis that I apply in any buy, hold, or sell decisions for TIPS.
The real yield on this 30-year TIPS bond maturing in 2041 is 1.7% if you buy it now. That means if you hold it to maturity and reinvest all the interest payments at the same rate of return from this point onward, you will earn 1.7% plus the rate of inflation until the bond matures in 29 years and 9 months.
That 1.7%-above-inflation number is below the historic average, but as we should know, nobody has a time machine. Receiving a historic average return isn’t any investor’s given right. We can only do the best we can with the cards we are dealt with.
Fortunately we don’t have to just buy this TIPS bond or buy nothing at all. There are other maturities to choose from. There are also other types of bonds and other investments beyond just bonds.
Investment advisor and author Larry Swedroe wrote in his TIPS Update for May 2011:
"And with real yields still below their historic averages for TIPS, you may not want to extend maturities much further than about 15 years or so."
If you agree with Larry Swedroe’s analysis, you shouldn’t buy this 30-year TIPS bond because 15-year TIPS are a better value than 30-year TIPS.
What if you already have it? Should you hold it? If you don’t buy it when you have cash but no TIPS, it would be logically inconsistent to hold it. The cost of selling is very minimal. Holding it is logically equivalent to selling it for cash and turning around to buy it again.
If you won’t buy it when you don’t already own it, you should sell it. Hold it only if you are willing to buy it at today’s price if you don’t already own it.
When someone bought the 30-year TIPS in February, they were expecting to earn 2.2% a year plus inflation. Three months later, inflation went up 1.4% but the bond appreciated 13%. Basically the market handed you next five years of expected returns in three months. I would be happy to take that offer and move on to something else.
If you sell it, what do you do with the cash then? You can buy 15-year TIPS as Larry Swedroe suggested, or you can buy I-Bonds. Both will give you inflation protection at a lower risk than the 30-year TIPS.