Foreigners Scooping Up TIPs

As inflationary expectations build in the U.S. economy, exchange-traded fund investors around the world are looking for ETF options. In November, 2007, wholesale prices posted their biggest 1-month jump since 1973?

One popular ETF choice is the iShares Lehman Bond ETF (TIP). The Treasury inflation-protected securities (TIPS) are a simple and effective way to eliminate one of the most significant risks to fixed-income investments--inflation risk. TIPs also deliver a real rate of return guaranteed by the United States government. TIPS are guaranteed to keep pace with inflation as defined by the Consumer Price Index.

For example, assume a $1,000 TIPS was purchased with a 3% coupon and also that inflation during the first year was 10%. If this were the case, the face value of the TIPS would adjust upward by 10%, to $1,100. Furthermore, the coupon payment (3%), which is also based on face value, would be $33 (in actuality, payments adjust and are paid semi-annually).

Foreign investors appear to be scooping up these bonds. According to Barchart, the 10-year TIPS issue is popular among foreign central banks as seen by the fact that indirect bidders have taken 42.9% of the last twelve 10-year TIPS auctions, which is well above the average of 35.8% seen across all recent Treasury coupon auctions.

The Treasury today will auction $8 billion in 10-year inflation-adjusted TIPS T-notes. Today’s issue was trading at 2.32% in when-issued trading late yesterday afternoon. The 12-auction averages for the 10-year TIPS auction are as follows: 1.91 bid cover, $68 million in non-competitive bids, 4.48 bp tail to the median yield, 38.28 bp tail to the low yield, and 47% taken at the high yield.