Inflation is the most universal tax of all. – Thomas Sowell

Pimco 15+ Year US TIPS Index ETF(LTPZ) looks set help investors on multiple fronts. The fund is designed to capture the real return of longer dated Treasury Inflation Protected Securities (OTC:TIPS). The current market environment looks to benefit this type of bond and this is the only ETF focused on the longer end of the fixed income TIPS market.

“The Fed doesn’t see inflation as a significant threat to this economy, but I tend to disagree. CPI figures from last week came in above expectations with the overall U.S. rate climbing to 2.5%. The Fed seems willing to let it run for the time being, so it could just be a matter of time before TIPS start picking up a little more interest,” as stated in this week’s Lead-Lag Report. TIPS are Treasury bond that have a fixed interest rate but a principal amount that gets adjusted for inflation based on the Consumer Price Index (CPI). With the CPI up 2.5% compared to last year, TIPS will get adjusted upwards. This helps protect investors from the effects of inflation.

Pimco’s portfolio for LTPZ is very small, just 10 bonds. This tracks the ICE BofAML 15+ Year TIPS Index. This could normally pose a default risk for the portfolio but given that they are all US Treasuries the risk of default is very minimal. There are currently only 44 issues of TIPS by the Treasury which encompasses the full maturity spectrum. They are all AAA rated government bonds. The yield on the portfolio is 1.63%.

% Portfolio Weight

Top 10 Holdings

Market Value USD

Maturity Date

Coupon Rate

14.77

United States Treasury Bonds 2.12%

43,712,653

15-Feb-41

2.12

11.62

United States Treasury Bonds 1.38%

34,383,027

15-Feb-44

1.38

10.5

United States Treasury Bonds 0.75%

31,062,262

15-Feb-45

0.75

10.48

United States Treasury Bonds 0.75%

31,017,745

15-Feb-42

0.75

10.47

United States Treasury Bonds 0.62%

30,974,703

15-Feb-43

0.62

9.4

United States Treasury Bonds 1%

27,813,811

15-Feb-46

1

8.63

United States Treasury Bonds 0.88%

25,529,235

15-Feb-47

0.88

8.5

United States Treasury Bonds 1%

25,133,288

15-Feb-48

1

8.1

United States Treasury Bonds 2.12%

23,953,533

15-Feb-40

2.12

7.03

United States Treasury Bonds 1%

20,802,415

15-Feb-49

1

LTPZ only invests in TIPS that have a maturity of 15 years or more. The effective duration of the fund is currently 24.5 years, so the fund is extending out the maturity schedule longer than it has to but doing so to track its benchmark. There are many risks involved in a long-dated bond portfolio. The interest rate risk is greater than on shorter maturity bonds. So, if rates were to go up, the longer bonds would lose more in price than shorter bonds. This has led to more volatility than shorter maturity funds. The 10-year standard deviation on LTPZ is 10.48% whereas iShares TIPS Bond ETF has a standard deviation of 3.18%. Given that TIPS are like nominal Treasuries, issued by the US Treasury and AAA rated, they pose little to any credit risk. There is a greater liquidity risk in TIPS than nominal Treasury securities. The market is much smaller, as noted with only 44 securities, but that is also why interest rates on TIPS tend to be higher than an equivalent maturity nominal Treasury.

This longer bond portfolio has paid off this year as long bonds have outperformed short bonds. Interest rates have plummeted in 2020 causing prices to jump. In fact, yields have inverted at the shorter end of the interest rate spectrum with 5 year Treasury at 1.37% and the 2 year Treasury at 1.39%.

This inversion has led longer-dated bonds to outperform shorter dated bonds which shows up in the more traditional TIPS ETFs. The industry giant, iShares TIPS Bond ETF has an effective duration of 7.39 years while the comprehensive iShares Core US Aggregate Bond ETF has an effective duration of 5.65 years.

Current expectations are for 2020 CPI to come in at a range of 2.1 to 2.3%, but I believe that could creep upward with inventory shortages and price increases expected from the effects of the coronavirus. When CPI has been 2% or more, there has been an outperformance of TIPS over traditional Treasury bonds in each maturity class, as shown by Morningstar Direct. Given that inflation risk is already factored into the price of a nominal Treasury bond, TIPS are most effective when realized inflation exceeds expected inflation.

Provided the current interest rate environment and inflation expectations Pimco 15+ Year US TIPS Index ETF looks like a good choice to offer your portfolio some inflation protection and added return.

*Like this article? Don’t forget to hit the Follow button above!

How To Avoid the Most Common Trading Mistakes

Sometimes, you might not realize your biggest portfolio risks until it’s too late.

That’s why it’s important to pay attention to the right market data, analysis, and insights on a daily basis. Being a passive investor puts you at unnecessary risk. When you stay informed on key signals and indicators, you’ll take control of your financial future.

My award-winning market research gives you everything you need to know each day, so you can be ready to act when it matters most.

Click here to gain access and try the Lead-Lag Report FREE for 14 days.

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.

Additional disclosure: This writing is for informational purposes only and Lead-Lag Publishing, LLC undertakes no obligation to update this article even if the opinions expressed change. It does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction. It also does not offer to provide advisory or other services in any jurisdiction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Lead-Lag Publishing, LLC expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing.

Editor’s Note: This article covers one or more microcap stocks. Please be aware of the risks associated with these stocks.

Source link

2020-02-23