2024 Returns on TIPS

Treasury Inflation-Protected Securities (TIPS) posted an average loss of 0.2% in the 2024 first quarter, better than the 1.4% average loss on comparable maturity straight Treasury securities.  The return on TIPS was composed of an estimated average price loss of 95 basis points (bp), mostly offset by interest income of 50 bp and an inflation adjustment of 24 bp.

TIPS outperformed Treasuries across all maturities.  The degree of outperformance was graduated across maturity groups, with short maturities posting a small gain vs. Treasurys and intermediate and long maturities posting smaller losses.  The positive differential was 74 bp on the short end, 128 bp in the intermediates and 184 bp on the long end, according to my calculations.

The average TIPS yield ended the quarter at 1.90%, down 29 basis points (bp) from 2.19% at the end of the 2023 fourth quarter.  The average TIPS yield declined because of the maturity of the 0.625% TIPS due January 24, which had an 8.1% yield (with only two weeks to maturity).  Average straight Treasury yields ended the quarter at 4.44%, up 27 bp from 4.17% in 23Q4. With the change in yields, the breakeven spread increased by 56 bp to 254 bp at March 28 from 198 bp at December 29.

In the first two weeks of April, virtually all fixed income sectors have sold off sharply in response to readings on inflation that were higher than anticipated.  This has caused the financial markets to expect that interest rates will remain higher for longer.  According to my estimates, TIPS have posted losses of 2.5% and comparable maturity straight Treasuries have lost 3.1% in the first two trading weeks of the month (through April 16).  The losses have raised TIPS yields by 32 bp to 2.22% and Treasury yields by 38 bp to 4.82%.  Thus, the breakeven spread has increased by 6 bp to 260 bp.

Yields, Spreads and Returns on US TIPS vs. comparable maturity straight Treasurys for 24Q1.  Estimated by Lark Research from data obtained from the WSJ.

TIPS yields increased 10-20 bp from the 2027 maturities on out in 24Q1 vs. 23Q4.  They increased by another 30-35 bp in the first two weeks of April.

Selected TIPS Yield Curves - 240416 240328 231229 - compiled by Lark Research.  Data obtained from WSJ.

The upshifting of the TIPS yield curve was less pronounced than the U.S. Treasury yield curve.  Straight Treasury yields rose by ~40 bp during 23Q1 and then by another 40 bp in early April.  Thus, the sell-off gathered steam in early April.  TIPS losses were cushioned by their inflation-protection feature.

What was noteworthy was the change in bid-ask spreads on TIPS across maturities.  Spreads on short-maturity TIPS fell to zero (from 2/32-3/32 historically).  While it seems unlikely that dealers would trade the securities with no mark-up, the drop in spreads was surely a sign of brisk trading, as investors have been craving short-term inflation protection as a safe haven.  Long-term bid-ask spreads widened, however, by about 1/32 to 8/32-10/32, which is not surprising since these securities suffered the greatest losses.  However, long maturity TIPS bid-ask spreads eased slightly (by about 1/32) by April 16.

Selected U.S. Treasury Yield Curves  - 240416 240328 231229 - data obtained from the U.S. Treasury Dept.
U.S. TIPS Quarterly CPI Adjustment - 17Q1-24Q1, compiled by Lark Research from data obtained from the Bureau of Labor Statistics.

The increase in TIPS yields and outperformance vs. Treasurys came despite a drop in the quarterly TIPS CPI inflation adjustment to 0.2% in 24Q1 from 0.6% in 23Q4.  Yet, recent increases in headline CPI suggest that the inflation adjustment will be close to 2.0% in 24Q2, which has stoked TIPS demand.

TIPS vs. comparable maturity straight Treasurys - Yields and Spreads - 09Q1-24Q1, compiled by Lark Research from data obtained from the WSJ.

At 260 bp, breakeven spreads are now well above their long-term average of 190 bp.  If history is still a reasonable guide, it is likely that the spread will eventually move back towards that long-term average.  In my view, the headline economic data does not reflect the growing underlying weakness in the U.S. economy.  For example, 23Q4 real GDP growth was supported by higher government spending, which offset a decline in private investment.  Likewise, payroll employment growth has been supported at least in part by job shifting among previously self-employed people and others taking part-time second jobs.  Economic growth will likely weaken over the course of 2024, which should help lower inflation.  If I am correct (and setting aside geopolitical and other exogenous risks), then the current high breakeven spread will begin to return to its long-term average as straight Treasury yields recede.

Quarterly Returns on TIPS vs. comparable maturity straight Treasurys - 2020-2024 - compiled by Lark Research from data obtained from the WSJ.
US TIPS vs Treasury Spreads for 5-Year and 10-Year constant maturities, as calculated by Lark Research from data obtained from the U.S. Federal Reserve.

April 18, 2024

Stephen P. Percoco
Lark Research
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© 2015-2024 by Stephen P. Percoco, Lark Research.   All rights reserved.

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