Alternatives for TIPS?

[Poe22]

Many countries do not offer inflation-linked government bonds. Is there an alternative to TIPS?

I'm thinking of the classic 60/40 retirement portfolio, with 50/50 nominal govt. bonds / inflation-linked govt. bonds.

[Dude2]

There are these things called CILS = Corporate Inflation Linked Securities

The majority of CILSs are issued by financial institutions. Because most of these issues are small, it is hard for retail investors to find CILS offerings, unless they work with a broker who deals with special types of bonds. Although it's important to note that these securities aren't as common as traditional fixed-income debt instruments. And while CILSs do provide investors with much higher nominal yields, they expose investors to the same credit risk, interest rate risk, and default risk as regular corporate bonds.

I think I see evidence on this forum of people buying other country's IPS. China buys a huge amount of US Treasuries, for example. I don't know what impediments a person faces to do so, but it would seem like a possibility. In other words, just because a person's home country doesn't sell IPS, you could still buy another country's. However, you will probably have currency exchange issues to consider, tax issues, etc.

[Poe22]

There are these things called CILS = Corporate Inflation Linked Securities

The majority of CILSs are issued by financial institutions. Because most of these issues are small, it is hard for retail investors to find CILS offerings, unless they work with a broker who deals with special types of bonds. Although it's important to note that these securities aren't as common as traditional fixed-income debt instruments. And while CILSs do provide investors with much higher nominal yields, they expose investors to the same credit risk, interest rate risk, and default risk as regular corporate bonds.

I think I see evidence on this forum of people buying other country's IPS. China buys a huge amount of US Treasuries, for example. I don't know what impediments a person faces to do so, but it would seem like a possibility. In other words, just because a person's home country doesn't sell IPS, you could still buy another country's. However, you will probably have currency exchange issues to consider, tax issues, etc.

CILS are interesting, but unfortunately, corporate bonds do not seem to provide as good diversification and recession hedge as govt. bonds.

Regarding buying US TIPS as a foreign investor: Does this help even when US inflation is not your own countries' inflation?

[TitanT2]

There are these things called CILS = Corporate Inflation Linked Securities

The majority of CILSs are issued by financial institutions. Because most of these issues are small, it is hard for retail investors to find CILS offerings, unless they work with a broker who deals with special types of bonds. Although it's important to note that these securities aren't as common as traditional fixed-income debt instruments. And while CILSs do provide investors with much higher nominal yields, they expose investors to the same credit risk, interest rate risk, and default risk as regular corporate bonds.

I think I see evidence on this forum of people buying other country's IPS. China buys a huge amount of US Treasuries, for example. I don't know what impediments a person faces to do so, but it would seem like a possibility. In other words, just because a person's home country doesn't sell IPS, you could still buy another country's. However, you will probably have currency exchange issues to consider, tax issues, etc.

CILS are interesting, but unfortunately, corporate bonds do not seem to provide as good diversification and recession hedge as govt. bonds.

Regarding buying US TIPS as a foreign investor: Does this help even when US inflation is not your own countries' inflation?

I would assume it does.

If your home currency loses in value over a period of time, that does not affect your TIPS holdings. So whatever you parked in TIPS is worth exactly as much as it should be.

Obviously, if your currency gains in value you'd be better off by holding onto (your home) cash; but that is a proposition few would take.

[Poe22]

There are these things called CILS = Corporate Inflation Linked Securities

The majority of CILSs are issued by financial institutions. Because most of these issues are small, it is hard for retail investors to find CILS offerings, unless they work with a broker who deals with special types of bonds. Although it's important to note that these securities aren't as common as traditional fixed-income debt instruments. And while CILSs do provide investors with much higher nominal yields, they expose investors to the same credit risk, interest rate risk, and default risk as regular corporate bonds.

I think I see evidence on this forum of people buying other country's IPS. China buys a huge amount of US Treasuries, for example. I don't know what impediments a person faces to do so, but it would seem like a possibility. In other words, just because a person's home country doesn't sell IPS, you could still buy another country's. However, you will probably have currency exchange issues to consider, tax issues, etc.

CILS are interesting, but unfortunately, corporate bonds do not seem to provide as good diversification and recession hedge as govt. bonds.

Regarding buying US TIPS as a foreign investor: Does this help even when US inflation is not your own countries' inflation?

I would assume it does.

If your home currency loses in value over a period of time, that does not affect your TIPS holdings. So whatever you parked in TIPS is worth exactly as much as it should be.

Obviously, if your currency gains in value you'd be better off by holding onto (your home) cash; but that is a proposition few would take.

Ok, so say I'm a Swiss investor (CHF). Does holding a 60/40 with my bond part divided into 50/50 US nominal treasuries and US TIPS provide the same income in terms of buying power in Switzerland as for a US investor living in the US?

[Dude2]

Ok, so say I'm a Swiss investor (CHF). Does holding a 60/40 with my bond part divided into 50/50 US nominal treasuries and US TIPS provide the same income in terms of buying power in Switzerland as for a US investor living in the US?

I agree that it only makes sense if whatever "CPI" that is being tracked is similar amongst all providers of IPS. There could be major dissimilarities. A real estate bubble in Europe might not even be noticed in the US and visa-versa.

[Valuethinker]

Many countries do not offer inflation-linked government bonds. Is there an alternative to TIPS?

I'm thinking of the classic 60/40 retirement portfolio, with 50/50 nominal govt. bonds / inflation-linked govt. bonds.

There is an inflation linked govt bonds ETF. I think it is global rather than Eurozone. So that's one way.

The theory says you should have no reason to want to hedge against US Inflation. David Swensen's book takes you through the logic.

However it's potentially as good an inflation hedge as any given so many things are denominated in USD. As long as the tax consequences of the increase in the redemption amount (without a corresponding increase in payout until maturity) are not too heinous.

AFAIK in the UK Index Linked Gilts don't tax you on principal accretion. However I believe (?) they would for holding US TIPS, say.

[Valuethinker]

There are these things called CILS = Corporate Inflation Linked Securities

The majority of CILSs are issued by financial institutions. Because most of these issues are small, it is hard for retail investors to find CILS offerings, unless they work with a broker who deals with special types of bonds. Although it's important to note that these securities aren't as common as traditional fixed-income debt instruments. And while CILSs do provide investors with much higher nominal yields, they expose investors to the same credit risk, interest rate risk, and default risk as regular corporate bonds.

I think I see evidence on this forum of people buying other country's IPS. China buys a huge amount of US Treasuries, for example. I don't know what impediments a person faces to do so, but it would seem like a possibility. In other words, just because a person's home country doesn't sell IPS, you could still buy another country's. However, you will probably have currency exchange issues to consider, tax issues, etc.

CILS are interesting, but unfortunately, corporate bonds do not seem to provide as good diversification and recession hedge as govt. bonds.

Regarding buying US TIPS as a foreign investor: Does this help even when US inflation is not your own countries' inflation?

Private issuer inflation-linked bonds have higher credit risk than the comparable straight bonds (same issuer). More of your return is "back ended" in the principal accretion.

[Poe22]

Many countries do not offer inflation-linked government bonds. Is there an alternative to TIPS?

I'm thinking of the classic 60/40 retirement portfolio, with 50/50 nominal govt. bonds / inflation-linked govt. bonds.

However it's potentially as good an inflation hedge as any given so many things are denominated in USD. As long as the tax consequences of the increase in the redemption amount (without a corresponding increase in payout until maturity) are not too heinous.

This is an interesting point. Basically, US inflation will be contagious worldwide due to the USD being the dominant reserve currency?

[Valuethinker]

Many countries do not offer inflation-linked government bonds. Is there an alternative to TIPS?

I'm thinking of the classic 60/40 retirement portfolio, with 50/50 nominal govt. bonds / inflation-linked govt. bonds.

However it's potentially as good an inflation hedge as any given so many things are denominated in USD. As long as the tax consequences of the increase in the redemption amount (without a corresponding increase in payout until maturity) are not too heinous.

This is an interesting point. Basically, US inflation will be contagious worldwide due to the USD being the dominant reserve currency?

Not always the case. During the 1970s US inflation was high, Italy and UK were much higher. Germany and Japan and Switzerland much lower.

Nonetheless the world prices in dollars. There's got to be a higher correlation with US inflation than with most others. If you are in Switzerland, however, I expect the greatest correlation would be with Eurozone inflation.

[Poe22]

Many countries do not offer inflation-linked government bonds. Is there an alternative to TIPS?

I'm thinking of the classic 60/40 retirement portfolio, with 50/50 nominal govt. bonds / inflation-linked govt. bonds.

However it's potentially as good an inflation hedge as any given so many things are denominated in USD. As long as the tax consequences of the increase in the redemption amount (without a corresponding increase in payout until maturity) are not too heinous.

This is an interesting point. Basically, US inflation will be contagious worldwide due to the USD being the dominant reserve currency?

Not always the case. During the 1970s US inflation was high, Italy and UK were much higher. Germany and Japan and Switzerland much lower.

Nonetheless the world prices in dollars. There's got to be a higher correlation with US inflation than with most others. If you are in Switzerland, however, I expect the greatest correlation would be with Eurozone inflation.

Ok, so you'd suggest a 50% Swiss ITT, 50% Euro-TIPS might work?

Basically, I'd like my bond allocation to cover both inflationary and deflationary times.

[Valuethinker]

Many countries do not offer inflation-linked government bonds. Is there an alternative to TIPS?

I'm thinking of the classic 60/40 retirement portfolio, with 50/50 nominal govt. bonds / inflation-linked govt. bonds.

However it's potentially as good an inflation hedge as any given so many things are denominated in USD. As long as the tax consequences of the increase in the redemption amount (without a corresponding increase in payout until maturity) are not too heinous.

This is an interesting point. Basically, US inflation will be contagious worldwide due to the USD being the dominant reserve currency?

Not always the case. During the 1970s US inflation was high, Italy and UK were much higher. Germany and Japan and Switzerland much lower.

Nonetheless the world prices in dollars. There's got to be a higher correlation with US inflation than with most others. If you are in Switzerland, however, I expect the greatest correlation would be with Eurozone inflation.

Ok, so you'd suggest a 50% Swiss ITT, 50% Euro-TIPS might work?

Basically, I'd like my bond allocation to cover both inflationary and deflationary times.

That might work. Because of the volatility of inflation linked bond prices, they don't function as a great inflation hedge. Vanguard work says highest correlation with inflation is Short Term TIPS (less than 5 years to maturity, I think).

One possibility is a bond ladder - direct investing. However Funds & ETFs are generally easier.

My other big concern is the heavy tilt towards Italy in Eurozone bond markets (I am assuming the same for ILBs). Italy has credit risk even though a debt rescheduling would almost certainly involve exit from the Euro and huge disruption. But, if you look at the yields (on nominal bonds), the market has some concerns about this (unimaginable) disaster.

I don't know if there's any investment fund or ETF which limits the exposure to Italian govt bonds in the Eurozone.

[Poe22]

Great point, I'm a little worried about that and actually the whole debt situation and fragility in the Euro zone. Basically, I need my govt. bonds to be a rock solid diversifier in recessions / low growth evironments, and for that reason I'd prefer AAA rated govt. bonds only.

What do you think of commodities as short-term inflation shock hedge? Historically, they seem to have worked pretty well for this purpose, as Bridgewater etc. has shown

[Stork]

Great point, I'm a little worried about that and actually the whole debt situation and fragility in the Euro zone. Basically, I need my govt. bonds to be a rock solid diversifier in recessions / low growth evironments, and for that reason I'd prefer AAA rated govt. bonds only.

What do you think of commodities as short-term inflation shock hedge? Historically, they seem to have worked pretty well for this purpose, as Bridgewater etc. has shown

Finding AAA inflation linked bonds is very hard - the only ones I know of are German, and you would have to buy the bonds, not ETFs, if you can find them as far as I am aware.

For recessions and low growth, I think regular bonds will do, and there are even some ETF that only include AA and AAA (DE, NL, FR, AT, FI I think).

I have put a portion in Danish Mortgage Bonds as a compromise. They are AAA, liquid, currency is linked to €, can yield 4.5-5% for a 30y maturity but are callable so you don't know how long you keep them; it is unlikely to be to maturity *). Problem for most retail investors is access as they seem mainly to be traded by DK banks.

*) Their nature is quite different from government bonds and investor must understand how. I spent some time learning before putting money there.

[Valuethinker]

Great point, I'm a little worried about that and actually the whole debt situation and fragility in the Euro zone. Basically, I need my govt. bonds to be a rock solid diversifier in recessions / low growth evironments, and for that reason I'd prefer AAA rated govt. bonds only.

What do you think of commodities as short-term inflation shock hedge? Historically, they seem to have worked pretty well for this purpose, as Bridgewater etc. has shown

Because I think the inherent return of commodities is less than zero: the cost of the commodity less the storage cost - I am sceptical of the value of commodities for the average investor's portfolio. When commodities were hot in pension fund asset allocations, the weight of money was vastly greater than the available liquid pool.* You had hedge funds and market operators (ie participants who have access to storage & manufacture) trading against them. They were very disappointing investments for those institutions.

Larry Swedroe's posts will take you through where the inherent return is. And he did recommend a commodities vehicle for clients of his asset management firm. It did very poorly after that - and I do not think they still recommend it.

George Soros testified to the US Congress that the inherent return of commodities was zero, and that institutional investors should not invest in the "asset class".

I don't remember what Anti Illmanen says about commodities, but that would be my "go to" for practical advice on asset allocation.

*Infamously, Goldman Sachs and others (were alleged) to have altered the delivery times for retrieval of aluminum from the Detroit warehouse. (We are talking delays of more than a year). The CEO of Anheuser-Busch testified on the impact on a cost of a six-pack. The consumer paid hundreds of millions of dollars more for their beer. I believe Goldman settled with the regulators.

[Valuethinker]

Great point, I'm a little worried about that and actually the whole debt situation and fragility in the Euro zone. Basically, I need my govt. bonds to be a rock solid diversifier in recessions / low growth evironments, and for that reason I'd prefer AAA rated govt. bonds only.

What do you think of commodities as short-term inflation shock hedge? Historically, they seem to have worked pretty well for this purpose, as Bridgewater etc. has shown

I think you could avoid the Eurozone credit situation.

Hold global (nominal) bonds hedged into Euros (or Swiss government bonds, as you suggest-- that eliminates the CHF v EUR "basis risk" (misusing the term)).

US TIPS would be an imperfect, but partial, hedge against Eurozone inflation. Short term TIPS have the highest correlation with USD inflation. I am assuming that a US TIPs fund/ ETF is not hedged into Euros? If it is, it should be a much closer track to European inflation.

Otherwise I would steer around the Eurozone govt bond situation. The Euro has shown a greater strength than the sceptics suggested-- Mario Draghi "Whatever it takes". But the structural issues are there - the impossible situation of a monetary union which is disunited in terms of banking stability and fiscal stability. So there's always a risk that the next Grexit crisis, wherever it falls, will confront ECB and European authorities who are less strong willed. (My sense is Brexit has strengthened, immeasurably, the European Project; whether Ukraine will force Europe to take the next step up, remains to be seen).

[Poe22]

Thanks for the responses, valuethinker & stork! Bonds make my head spin, especually when inflation protection and currency hedging comes into play! With TIPS, I'm worried about the 6 months time delay in the inflation protection mechanism, unless I'm mistaken?

Maybe it's possible to equalize some of the inflation risk deriving from nominal govt. bonds by holding more value stocks on the equity side?

[Valuethinker]

Thanks for the responses, valuethinker & stork! Bonds make my head spin, especually when inflation protection and currency hedging comes into play! With TIPS, I'm worried about the 6 months time delay in the inflation protection mechanism, unless I'm mistaken?

Maybe it's possible to equalize some of the inflation risk deriving from nominal govt. bonds by holding more value stocks on the equity side?

I don't remember what the lag is on TIPS.

Originally the UK Index Linked Gilts were lagged by 8 months. Then the Canadian Real Return Bonds invented a way to only lag by 3 months.

However inflation between the current and the lagged date is estimated. There is a formula. You are compensated for that inflation, eventually. It's a detail and I would not worry about it. We are not likely to experience hyper inflation (more than 100% pa).

There is some argument that value stocks are a better inflation hedge. I am not sure if this is conclusive though. Real estate generally is said to have higher correlation with inflation and that's the argument for a separate holding of REITs. However there are structural changes going on in real estate - eg offices in a post covid world - and empirically REITs perform like stocks, so it's questionable if this is a good idea. I would not discourage someone from holding 10% of portfolio in REITs - but I don't think it's a game changer, and it will add to portfolio volatility.

Foreign exchange is more difficult. Basically it dwarfs any returns bonds might make. Hence the preference for currency hedged bond funds, to avoid just speculating on currency appreciation.