Invest in Hot TIPS

Explore a way to guard investments against inflation

treasuryInflation-exclusizePerhaps you’ve noticed that the investment landscape has been long on turbulence and short on stability recently. It’s in times like these that investors often seek out shelter in sound, conservative investments such as TIPS, or Treasury Inflation-Protected Securities, U.S. government bonds that go up and down in value to keep pace with inflation. Peace of mind has been a luxury of late.

We all know what happened to stocks in 2008. And while shares staged a rally early in 2009, many pundits say the upswing could be short-lived.  The Federal Reserve, meanwhile, has slashed interest rates in the name of buoying the economy, a move that has brought bond yields down to miniscule levels.  And if that isn’t enough, many experts now believe the Obama administration’s efforts to save the economy could bring about a period of high inflation.

At first blush, TIPS seem to hold many answers.  As a bond, they offer stability – the promise to provide investors with steady amounts of income twice a year and return their principle after a specified period of time. What’s more, TIPS are issued by the Treasury Department and backed by the U.S. government, a debtor that despite recent deficit spending still enjoys a good reputation in the investment community. To cap it all off, the initial invested principal holders put into TIPS rises and falls in value to keep pace with inflation as measured by the consumer price index or CPI.

TIPS aren’t the only inflation-fighting bond offered up by the Treasury.  I-bonds, another offering, are pegged to the CPI as well, but offer investors less flexibility.  TIPS are adjusted to CPI fluctuations monthly, whereas I-bonds are tweaked twice a year in May and November.  TIPS can be bought and sold through a broker at any time; I-bonds must be redeemed and cannot be traded.  I-bond holders pay a penalty if they opt out within the first five years.

Investing in TIPS is fairly straightforward.  They come in five-, 10- and 20-year maturities – that is, the number of years investors receive interest payments before their principal is returned.  Investors can purchase TIPS directly from the government in $100 denominations at Treasurydirect.gov. There are a couple of important caveats nonetheless.  One consideration is that TIPS income payments are taxed as income by the government, an assessment that can take a sizable chunk out of the bonds’ return.

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