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Investors are flocking to inflation-protected bond exchange traded funds. But it may not be protection they necessarily need at this point.

The iShares Barclays TIPS Bond Fund (NYSEARCA:TIP) has become the seventh-largest ETF in the United States, with just more than $20 billion in assets, and the fund pulled in $4 billion during 2009 alone, observes Paul Amery for IndexUniverse. Still, if you were to scrutinize the break even inflation rates between inflation-linked and fixed-rate bonds, you may not find that inflation expectations have changed for the worse.

The Barclays Capital’s “Linker Index Monthly” reveals that U.S. and U.K. long-term break even inflation rates haven’t changed much from a year ago. However, there has been a noticeable decline in break even rates in the last few months, which shows that fixed-rate bonds have been outperforming inflation-linked ones.

So far, the loose monetary policy has not resulted in any significant changes in inflation expectations. In reality, we might be heading toward deflation since the private sector deleverages at a faster pace than at which the Central Bank is able to add additional funds, opines Amery.

Investors of TIPS-related ETFs are betting on high inflation hitting our economy soon. If you were to hold TIPS ETFs as the inflation indexes fall, you’d be hit by a declining index level and most likely rising real yields as a result of worries over the issuer’s solvency.

  • SPDR Barclays Capital TIPS (IPE)

Source: TIPS ETFs Pull in Assets, But Where's Inflation?