TIPS: Treasury Inflation Protected Securities

People love to give financial tips, but taking them can be risky. There are, however a different kind of TIPS that can have a place in many portfolios: Treasury Inflation Protected Securities. So let's take look at some tips about TIPS.

What are TIPS?

TIPS stands for Treasury Inflation-Protected Securities. Just like they sound, TIPS are investments backed by the US Treasury that protect you against inflation. As inflation occurs, the principal in your TIPS investment raises by the inflation percentage. As deflation occurs, though, your TIPS principal is decreased by the inflation amount. Upon your TIPS maturity, you receive either your original principal (in the case of continued deflation) or your principal plus the inflation rate (in the case of inflation). This means you will not lose the principal amount you originally put into the account, but you will not gain any principal amount above the inflation rate.

What are the Advantages?

The advantage here is obviously that you reduce one of the primary dangers of investing in treasuries: inflation. Most simple bank accounts pay below the inflation rate. For example, right now, most money markets are hovering at 1% whereas the inflation rate sits around 2%. If you were to leave your funds in a money market account, you would lose 1% of your money’s spending power. But if you left the money in a TIPS account, you would break even with inflation. Additionally, since you do receive bi-annual interest payments, you will receive a small amount of income from the account.

What are the Disadvantages?

The primary disadvantage of TIPS is that they usually have low yields. In fact, when people are expecting severe inflation, they sometimes actually have a negative yield before inflation. TIPS are primarily an instrument for keeping your money intact, so you are generally only going to do slightly better than inflation with TIPS.

How do I Buy TIPS?

TIPS are sold as 5-, 10- and 30-year investments in multiples of $100 through banks, investment firms and www.treasurydirect.gov. One easy way to invest in TIPS is through an Exchange Traded Fund (ETF). The ticker symbol TIP is the most popular ETF for TIPS.

As a measure to protect yourself from inflationary risks of standard cash investments, a TIPS account allows you a secure, government-backed investment that will pay you a small interest income every six months. This financial "tip" could provide you a win-win product for your investment portfolio.

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