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Gas Prices Boost U.S. Inflation: Time for TIPS ETFs?

Sanghamitra Saha

U.S. consumer inflation started off 2017 at a five-year high reading. Inflation rose 2.5% year over year in January 2017, following a 2.1% rise in December and above market expectations of 2.4%. On a sequential basis, the consumer price index grew 0.6% in January, exceeding market expectations and last month’s reading of 0.3%.

The inflation rate picked up pace for six months in a row to reach the highest level since March 2012, mainly helped by gasoline prices. On an annual basis, energy prices surged 10.8% in January, following a 5.4% expansion in December. Energy prices have been on an uptrend. The cost at the gas station upped to a nationwide average of $2.30 a gallon from under $2 last spring.

Investors should also note that multi-year low oil prices for about two years have been one of the key reasons for subdued global inflation. Now, with OPEC deciding on a production cut from early next year for six months, a certain uptick in oil prices has been realized from the year-ago level.

In any case, the U.S. inflationary outlook recently got a boost on Donald Trump’s win in the presidential election. Trump's proposed $1 trillion spending plan and a slash in personal and corporate taxes have injected fresh optimism in the otherwise decent U.S. inflation (read: 5 Top-Ranked Sector ETFs Thankful to Trump).

Food costs, which remained the same for six consecutive months, nudged up 0.1%. Barring food and energy, prices advanced 0.3%, which is above 0.2% recorded in the prior two months and surpassing expectations of 0.2%. In fact, Fed chair Yellen also indicated that inflation is no longer “at very low levels” (read: Yellen Gives Hawkish Signals: 5 ETF Plays).

Party Time for TIPS ETFs

TIPS offers robust real returns during inflationary periods, unlike its unprotected peers in the fixed-income world. These securities pay an interest on an inflated-principal amount (principal rises with inflation) and when the securities mature, investors get either the inflation-adjusted principal or the original principal, whichever is greater. As a result, both principal amount and interest payments will keep on rising with increasing consumer prices (read: Forget Inflation Fears with These TIPS ETFs).

This mechanism made TIPS ETFs investors’ darlings in recent times as they are increasingly wagering on these inflation-protected bond ETFs. iShares TIPS Bond ETF TIP was one of the biggest beneficiaries of this trend, having hauled in $558.8 million so far this month (as of February 16, 2017), according to data compiled by etf.com.

As per an article published on Bloomberg, iShares’ $22 billion TIPS ETF attracted about $6 billion – the second-biggest gain of all bond ETFs in 2016 – and advanced about 3.6%, the highest in three years.

In this regard, investors should take note of TIPS ETFs including FlexShares iBoxx 5-Year Target Duration TIPS Index Fund TDTF, FlexShares iBoxx 3-Year Target Duration TIPS Index Fund TDTT and SPDR Barclays 1-10 Year TIPS ETF TIPX.

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ISHARS-TIPS BD (TIP): ETF Research Reports
SPDR-1-10YR TIP (TIPX): ETF Research Reports
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