30-Year TIPS Will Reopen At Auction On June 22; Is It Worth A Look?

Includes: TIP
by: Tipswatch


The real yield looks likely to come in right around 0.95%, close to the originating auction result.

The inflation breakeven rate is trending at 1.83%, pretty desirable.

One warning: Do not buy this TIPS in a taxable account. It may be cash-flow negative.

The U.S. Treasury announced this morning that it will be reopening CUSIP 912810RW0 at auction on June 22, creating a 29-year, 8-month Treasury Inflation-Protected Security.

The coupon rate for this TIPS is 0.875%, set at the originating auction on February 16. The actual real yield (after inflation) to maturity will be determined by the June 22 auction. The principal balances of all TIPS update with the ups and downs of non-seasonally adjusted inflation.

Since this TIPS trades on the secondary market, we can track its current real yield and get an idea of the likely yield at next week's auction. Here are good data sources:

  • Bloomberg's Current Yields page shows CUSIP 912810RW0 currently trading with a real yield of 0.95%, very close to the originating auction's yield of 0.923%. It is selling at a slight discount to par, about $98.18 for $100 of value. The discount is caused when the yield is higher than the actual coupon rate.
  • The Wall Street Journal's Closing Prices page shows this TIPS - which matures 2047 Feb 15 on that list - closed Wednesday with a yield of 0.926% and a price of about $98.68.
  • You can view the Treasury's estimate of the real yield for a full-term 30-year TIPS on its Real Yields Curve page. The Treasury estimate was 0.93% at the close Wednesday.

One thing to consider about price: This TIPS will have an inflation index of 1.01287 on the settlement date of June 30, meaning investors will be buying about 1.2% of additional principal, raising the cost of the investment and balancing out the yield discount.

Yes or no on this TIPS? I'm not a fan of 30-year TIPS because they don't meet my buy and hold-to-maturity strategy. And I'm also not a fan of a 30-year TIPS with a real yield below 1.0%, as looks likely at next week's auction. Since the aftermath of the November presidential election, 30-year TIPS yields have been locked in a pattern right around that 1.0% barrier:

Another factor to consider is that this TIPS should not be purchased in a taxable account, because the proceeds from the 0.875% coupon rate may fall below the investor's tax liability for the inflation adjustments. That would make this TIPS cash-flow negative for 30 years.

Remember, the IRS views the inflation adjustment to principal a taxable event for the current year. Here's the math:

  1. $10,000 in this TIPS will generate $87.50 a year in immediate cash flow, rising with inflation.
  2. If inflation averages 2.0% a year, the TIPS principal will increase $200 a year, rising with inflation.
  3. If you are in a 35% tax bracket, your tax bill in year one will be $100 on the $287.50 total you received.
  4. You are $12.50 cash flow negative, rising with inflation, every year for 30 years.
  5. Don't buy this TIPS in a taxable account.

Inflation breakeven rate. With a nominal 30-year Treasury currently trading with a yield of 2.78%, this TIPS gets a 30-year inflation breakeven rate of about 1.83%. That's pretty desirable, and could be the reason there will be decent big-money demand for next Thursday's offering. Inflation expectations have been dropping in recent months, and that makes TIPS less desirable (in theory) but also a better bargain versus a nominal Treasury.

Here's the breakeven trend since the November election, showing how inflation expectations initially rose strongly on hopes government-spurred economic growth, and then dwindled:

If you are considering an investment in this TIPS, keep an eye next week on the data sources linked above. I recommend waiting until as close to the auction as you can (noon on Thursday for noncompetitive bids). At this point, I'd say this auction looks fairly bleak for the small investor.

Here are results of all 29- to 30-year TIPS auctions in history:

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.