TIPS for Beating Inflation

4-½ minutes to read.

Despite significant increases in interest rates, inflation remains stubbornly higher than the Federal Reserve’s target. To deal with the uncertainty of price levels, the U.S. Treasury Department issues Treasury Inflation-Protected Securities, better known as TIPS. This type of Treasury bond provides investors with protection from inflation with a minimum investment of $100.

Savings jar and calculator on a blue surface

Before we go into the details of TIPS, let’s look at inflation.

Consumer Price Index

Inflation as measured by the Consumer Price Index (CPI) increased 0.2% in June 2023. For the 12-month period from July 2022 to June 2023, it increased 3%.

As I discussed in my last article about the CPI, these figures don’t mean much to us as individuals. The CPI usually reported by the media is for All Urban Consumers (CPI-U). According to a Jan. 2023 article on PBS New Hour, inflation has a larger impact on the 14% of Americans living outside of cities.

As well, since each of us have our own consumption pattern, we experience price changes uniquely. For example, if you almost never eat out, your food cost did not rise last month. Of course, a 0% increase in food at home represents an average of the change in the cost of a wide variety of edibles.

Consumer Price Index table from the 2023 source document — Source: U.S. Bureau of Labor Statistics. Historical chart reproduced from the source document.

Once you dig into the details, you can get a clearer picture. The price of fruits and vegetables increased by 0.8% while eggs decreased by 7.3%. The cost to drink spirits at home decreased by 0.2% but away from home the cost was 0.7% higher. See what I mean.

The only way to know how inflation is affecting you is to track your monthly spending and compare, say, your cost of food from one month to the next.

Inflation-Protected Investment

TIPS were introduced by the U.S. Treasury Department in 1997 to help safeguard investors from the eroding effects of inflation on their investments.

Their key features are:

Inflation Protection: Unlike traditional bonds, the principal value of TIPS adjusts with changes in the CPI-U. As it rises, the principal value of TIPS increases, and conversely, it decreases if there is deflation. This causes interest payments to adjust with inflation, so bondholders receive higher interest payments when inflation is higher.

Fixed Interest Rate: TIPS pay a fixed interest rate, also known as the coupon rate, which is determined at the time of issuance. However, because the principal value adjusts with inflation, the amount of interest paid to investors varies over time.

Maturity: TIPS mature in 5, 10, and 30 years. They can be bought and sold on the secondary market.

Investment Amount: The minimum investment in TIPS is $100. They can be bought in $100 increments.

Safety: Since they are backed by the U.S. government, TIPS are generally regarded as low-risk investments.

Semi-annual Interest Payments: Like other U.S. Treasury securities, TIPS pay interest to investors every six months.

Tax Treatment: The interest income from TIPS is subject to federal income tax, but it is exempt from state and local taxes. Additionally, the annual increase in the principal value due to inflation adjustments is also subject to federal income tax, even though investors don't receive the inflation-adjusted amount until the bond matures.

Deflation Protection: In the case of deflation, as measured by a decrease in the CPI-U, the principal value of TIPS can decrease, but the U.S. Treasury guarantees that investors will never receive less than their original investment amount at maturity. This feature provides a level of protection against the negative effects of deflation.

TIPS can be bought at auction through TreasuryDirect, or through banks, brokers, and dealers. While they can be valuable for investors who want a safe way to protect against inflation, their yields may be lower compared to traditional Treasury bonds because of their inflation protection.

As with any investment, it's essential to consider individual financial goals and consult with a financial advisor to determine whether TIPS are suitable for a particular investment strategy.

Where are you on this journey? Have you set your financial goals?

How can I help you? Call, text, or email me.

Kevin

P.S. Don’t miss this week’s episodes of The WAY to WOW Shows:

Monday, July 24, 10:00 a.m. PT / 1:00 p.m. ET – Trusts & Estate Weekly on Avoiding Common Estate Planning Mistakes.

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Watch the replay https://youtube.com/playlist?list=PLCEw2fI1wAPIQbJD0tdcS8kzFEcpZ0DXz.

Tuesday, July 25, 11:00 a.m. PT / 2:00 p.m. ET – Business Lessons from the Military continues our discussion of Marine Corps Warfighting doctrine.

Join us live https://www.eventbrite.com/e/633485621547.

Watch the replay https://youtube.com/playlist?list=PLCEw2fI1wAPKJNrThFkrivOdTnYZFYNir.

Wednesday, July 26, 12:30 p.m. PT / 3:30 p.m. ET – People Making Money on Quickly Analyzing an Investment Property.

Join us live https://www.eventbrite.com/e/633498028657.