The swing “highlighted the fact that investors had paid so much for inflation protection,” said Jonathan Duensing, head of fixed income at Amundi US.
That steep jump in yields from post-pandemic lows has rekindled demand for bonds in general across Wall Street amid speculation that inflation is coming down from its peak and the Fed will stop raising rates in mid-2023. That’s also true for TIPs, which delivered positive returns over the last two months and may continue to gain, especially if inflation remains more persistent than expected.
Jay Barry, the co-head of US rates strategy at JPMorgan Chase & Co., said the break-even rate for intermediate maturity TIPs — or the inflation rate over the life of the bond needed for the returns to top those on typical Treasuries — now “looks cheap.”
It’s now at about 2.4% for five-year TIPs. That’s well below the current inflation rate: economists expect the Labor Department on Tuesday to report that the consumer price index rose at a 7.3% annual pace in November, down only slightly from the 7.7% a month earlier.
US inflation breakeven rates retreat sharply from 2022 peaks
Gargi Chaudhuri, head of iShares investment strategy for the Americas at BlackRock Inc., anticipates that labor shortages and supply constraints will keep inflation over pre-pandemic levels. She said the current prices of 10- and 30-year inflation-protected Treasuries provides “an opportunity for clients to buy insurance as inflation stays higher than what the market currently expects.”
“Getting inflation down to 5% is the easy part, getting back to 2% is the real battle and that will take some time,” she said.
Given this year’s track record, though, investors may be in no rush to shift back into TIPs, especially if a slowdown in economic growth strengthens the conviction that the Fed will win its battle against inflation.
Getting “bullish sentiment among retail ETF type investors back towards Tips likely requires some kind of inflation scare,” said Amundi’s Duensing.
“As inflation declines and investors realize that TIPs interest-rate exposure overwhelmed inflation compensation in 2022, some may continue to withdraw assets from the product,” Ira Jersey, chief US interest rate strategist at Bloomberg Intelligence wrote. Such a retreat “could pose a challenge to a very sustained rally.”
This article was provided by Bloomberg News.