What are TIPS?

Treasury Inflation Protected Securities, also known as TIPS, where first introduced to the market in 1997. So what are TIPS? They are a treasury note designed just like any other note with one notable exception. The amount of semiannual interest, which TIPS pay out, changes with inflation and deflation.

During times of inflation the amount of money you will receive will rise. In fact, if during the life of the bond, inflation occurs every year you can expect that your payment will rise every year as well. During the unusual occurrence of deflation just the opposite will happen. That is to say that your payments can be lowered because of deflation.

As TIPS where first introduced in the late 1990s there is not much data available to show you the historic returns. However, a synthetic test version of TIPS has been created by Dr. Kothari and we use his data for backtesting abilities. When viewing historical data about TIPS please be cautious of the returns. When TIPS where first introduced in 1997 they didn’t have much of a demand due to the lack of knowledge. As more TIPS where issued and word spread demand picked up significantly. As such there was a little bull market in TIPS and that may have skewed the recent returns.

In the end TIPS are designed for a very specific purpose: To protect investors from the ravages of inflation. As such they can be a useful addition to any portfolio. TIPS are not included in many total bond market indexes as they are considered different than normal bonds. There are index mutual funds and index ETFs that allow you to purchase a basket of TIPS with ease.