billyt wrote: ↑Sun Aug 21, 2022 2:30 pm
OK, that makes sense. What are the error bars on those seasonally adjusted yield estimates? When we see small wiggles in the SA yield curve are those differences significant?
Although the seasonality is fairly similar from year to year, it's not exactly the same. So, for example, I was using the 2021 seasonal adjustments when the 7/15/22 matured. In theory, the seasonally adjusted yield equals the quoted yield on the mm/dd of the TIPS maturity (i.e., the seasonal price adjustment factor = 1.0000), but it did not when applying the 2021 SA adjustment, so there was a slight difference in the SA and quoted yields. This certainly is one source of error. Since then, I'm using the 2022 SA values when available, which as of now is TIPS with mm/dd through 07/15, and am only using 2021 for 10/15 TIPS.
There also some simplifying assumptions in the approach. For example, the formulas I use assume annual coupon payments and ignore accrued interest, and these introduce small errors.
Beyond that, I highly recommend that you carefully read the
Paul Canty paper to understand it better. Here is an excerpt that might help.
Whenever the maturity of an ILB is not a whole number of
years after its settlement date, seasonality becomes an issue.
For example, if a bond settles in April and matures some years
later in September, the indexation period includes an extra six
months of inflation from January to June (due to the three-
month lag). Inflation in this period is typically much higher
than from July to December, which means that the overall
breakeven inflation rate should be higher than the same bond
with a whole number of years left to maturity. This article
focuses on quantifying this effect
Note that this mentions higher inflation in the first half of the year, which jeffyscott has pointed out in a number of posts.
Regarding the wiggle in the SA yield curve, there are wiggles in any yield curve based on actual quotes due to liquidity, cash flows, coupon rates, duration, etc. For TIPS, there may be additional inflation components that are known but not yet available in the latest reference CPI. For example, there may be declines in recent food and energy prices that exceed what would be expected due to seasonality, and this may be factored into the pricing as well.
Kevin
If I make a calculation error, #Cruncher probably will let me know.