Tuesday, 30 April 2013

What U.S. TIPS Currently Say About Expected Price Inflation

The difference between the nominal yields on U.S. treasuries and the yield of TIPS is a gauge of current expected future price inflation of bond investors. The difference in the rates between the two is often called "the break even inflation rate", because at that rate you would break even between holding TIPS or nominal bonds (e.g. see here).

As of 26 April last week, the difference between the 10-year nominal treasury yield and 10-year treasury TIPS was 2.38% while the difference between the two 30-year securities was 2.44%.

This means that the bondholders buying these TIPS currently expect future price inflation to be somewhat higher than the reported average year on year increase in the CPI, which for the first three months of this year was 1.68%.

A casual inspection of the difference between the 10-year break even inflation rate and the current CPI (as of March) reveals however that expected future price inflation is on the rise as the difference between the two has been gradually rising since about the third quarter in 2011. Actually, at 1.07 percentage points in March, the difference was the highest it has been since October 2009 when it hit 2.15 percentage points.

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