VTIP: High Yield With Minimal Risk

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Treasury Inflation Protected Securities are among nan astir charismatic plus classes astatine coming based connected their expected returns comparative to their downside risk. I wrote last week astir nan comparatively precocious output and imaginable upside for nan iShares TIPS Bond ETF (TIP), and I judge nan risk-reward outlook whitethorn beryllium moreover stronger for short-term TIPS. Last, I covered VTIP was successful Aug 2022. With a existent output of 1.9%, nan Vanguard Short-Term Inflation-Protected Securities ETF (NASDAQ:VTIP) offers comparatively beardown returns pinch minimal downside consequence successful nan arena of a illness successful ostentation expectations aliases a continued emergence successful yields.


The VTIP tracks an scale of US Treasury Inflation-Protected Securities pinch little than 5 years remaining to maturity, and has an mean effective maturity of 2.7 years. The existent output to maturity now sits astatine 1.9%, meaning that investors should expect to person 1.9% per twelvemonth complete nan adjacent fewer years successful summation to nan mean complaint of CPI complete this period. The VTIP is perfect for investors looking to return advantage of precocious short-term yields while besides protecting against continued elevated inflation. The debased long of 2.6 years besides ensures that volatility will stay debased comparative to longer-dated TIPS. Even arsenic existent enslaved yields person surged complete nan past 12 months, nan VTIP has mislaid conscionable 4%, versus a 13% nonaccomplishment for nan TIP. Of course, this little level of volatility intends little upside potential, but I still expect to spot superior gains adhd a fewer other percent points to returns complete nan people of nan this twelvemonth and existent yields move lower.


VTIP ETF Total Nominal Return (Bloomberg)

Solid Real Yield With Upside Potential

The existent output connected nan VTIP is highly precocious comparative to its semipermanent average. The floor plan beneath shows nan output connected 2-year US TIPS, which nan VTIP output to maturity intimately follows. It is now 2 percent points and a afloat modular deviation supra its semipermanent mean going backmost to 2005. The precocious existent output of 1.7% reflects nan 4.6% nominal 2-year output and 2-year ostentation expectations of 2.9%.


US 2-Year Yield, Breakeven Inflation Expectations, And Real Yield (Bloomberg)

The US system is heading towards a heavy recession arsenic nan crisp spike successful existent borrowing costs is undermining nan bubble areas of nan system that antecedently benefited from ultra-loose monetary policy. The Fed is apt to beryllium forced to reverse its complaint hiking argumentation complete nan coming 12 months to easiness nan load connected borrowers. Assuming nary alteration successful nan ostentation outlook, this would consequence successful superior gains for nan VTIP. A return backmost to zero existent yields successful statement pinch nan semipermanent mean would consequence successful gains of astir 8%, perchance resulting successful 10% gains complete nan adjacent 12 months. Should we spot ostentation expectations emergence arsenic a consequence of liking complaint cuts, superior gains for nan VTIP would beryllium moreover stronger.

Downside Risks Are Minimal

Of course, location is besides nan consequence that nan Fed keeps its ft connected nan break and existent yields move higher. Failure to enactment swiftly capable to little rates during nan 2008 world financial situation saw existent yields spike to adjacent 7% arsenic ostentation expectations collapsed, causing nan short-term TIPS to suffer 10% from highest to trough. A repetition of this cannot beryllium ruled out, but moreover a 10% nonaccomplishment would beryllium thing of a worst-case scenario.


2s-10s UST Yield Curve Spread (Bloomberg)

In summation to nan VTIP facing overmuch little downside consequence successful nan arena of a illness successful ostentation expectations comparative to longer-dated TIPS, it besides faces little consequence owed to nan utmost level of output curve inversion. The 2s-10s curve is now 80bps, its highest level since 1981. The consequence for longer-dated TIPS is that continued upside unit connected near-term yields causes renewed upside for semipermanent yields.

This article was written by

Stuart Allsopp floor plan picture

I americium a full-time investor and proprietor of Icon Economics - a macro investigation institution focussed connected providing contrarian finance ideas crossed FX, Equities, and Fixed Income based connected Austrian economical theory. Formerly Head of Financial Markets astatine Fitch Solutions, I person 15 years of acquisition investing and analysing Asian and Global markets.

Disclosure: I/we person a beneficial agelong position successful nan shares of VTIP either done banal ownership, options, aliases different derivatives. I wrote this article myself, and it expresses my ain opinions. I americium not receiving compensation for it (other than from Seeking Alpha). I person nary business narration pinch immoderate institution whose banal is mentioned successful this article.

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