in case you missed it... effective December 1, 2008 Treasury implemented a new method for calculating TIPS yields... it took 5-yr TIPS from 4.17% to 2.04% overnight!!!
THAT'S A QUANTUM SHIFT!!! AND IT HIDES (BELIES) DEFLATION
Well, Bloomberg has joined the Treasury. On Jan 6 they report the yield of the benchmark 5 yrar TIP with the yield of a 4 year TIP:
5-Year coupon 0.625 04/15/2013 96-20 1.44
Had they reported the yield of a 5 year TIP they would have reported:
2014 Jan 15 2.000 94-23 94-24 3.141
There is a fundamental misunderstanding running through this thread. What the treasury modified was NOT the yield on the TIPs, it was the rate of inflation that market participants expect in the future. Or so I believe.
This expected rate of inflation was previously inferred by calculating the differential between market TIP prices, and market bond prices (ie prices for regular treasury notes not protected against inflation). Since the market for regular treasuries went haywire in november - for those reasons stated on the treasury website - the differential has become meaningless. Hence the change in methodology.
What has not changed is the interest coupon paid to holders of TIPS : it is still set monthly in accordance with the CPI - the measure of change in prices of a basket of commonly consumed goods and services, otherwise known as the consumer price index or Inflation Rate (as opposed to the Expected inflation rate).
I believe a simple reading of the treasury press release confirms ths : "We have discontinued the liquidity-adjusted TIPS expected inflation estimates for the time being. The adjustment was designed for more normal liquidity premiums. We believe that the extreme rush to liquidity is affecting the accuracy of the estimates"
Can someone please confirm or refute this? I am new to the board, am thinking of buying a TIP ETF, and am just doing some due diligence. Thank you.
The problem is with the perceived illiquidity of off the run TIPs. This illiquidity problem lowers their price, or increases their yield. Therefore if you want to extract expected inflation/deflation by comparing regular T Note yields with off the run TIP yields, you will get noisy indicators not reflecting expected inflation/deflation but also a liquidity premium in TIPs.
To complicate things further, older TIP issues have less floor protection on their principal at maturity because the Treasury guarantees paying a principal not lower than the unadjusted face value , which for older issues that carry a lot of indexation is not a good protection in case of deflation. Thus they are not tampering with prices or yields, they're saying that due to illiquid conditions in the tips market they are able to extract inflation breakevens only with recently issued or on the run TIPs
I cannot elaborate for TIP as a fund, as I do not understand how it works.
I own specific TIPs. As always, for specific issues it remains true that the implied inflation (deflation) rate is found by comparing the current TIP yield to a comparable (same-maturity) regular Treasury. However :
The Cleveland Fed’s discontinuing their series looks to be prompted by a belief that yields on regular Treasuries are unnaturally depressed because of the flight to safety and, as explicitly stated, liquidity. This means any inflation discount in the price of a regular Treasury is obscured by the liquidity premium.
That is, bond buyers may actually expect greater inflation than implied by the bond price.
And that means we cannot infer a deflation rate from the spread.
There are huge differences in the yields between on and off the run issues of TIPs.
To confirm this view, look at this notice from the website od the Federal Reserve Bank of Clevelend:
TIPS Expected Inflation Estimates
October 31, 2008
We have discontinued the liquidity-adjusted TIPS expected inflation estimates for the time being. The adjustment was designed for more normal liquidity premiums. We believe that the extreme rush to liquidity is affecting the accuracy of the estimates.
I've asked Treasury for more details on this change in methodology, but Treasury is unresponsive!!!
HERE'S WHAT TREASURY POSTED
* Starting 12/01/2008, the TIPS yield curve will use on-the-run TIPS as knot points rather than all securities under 20 years.