Even after accounting for fees, these funds have outperformed plain vanilla TIPS funds over 5 and 10 years. If the Fed hikes rates again, we may see the value of their bonds go up sharply too.
Actual panic about inflation seems to be spiraling upward. But investments that will try to protect us from the ravages of inflation seem to be getting cheaper.But this is good news for retirees, who stand more to lose from inflation than pretty much anyone else.
Three months ago, when people were much less alarmed about inflation, long-term TIPS bonds were so overpriced that they were actually guaranteeing a total 10% loss in your purchasing power over 30 years—and that was measured using the official inflation rate. A similar fund , Western Asset Inflation-Linked Income WIA, -0.18%, is trading at 91 cents on the dollar.
This leverage, taken at short-term interest rates, has been a terrific deal while interest rates have been so low. Last year they paid about 0.2% — really—on the debt. If the money markets today are right, short-term interest rates in the next year or two will rise to about 2% or more. That could take a big chunk out of the fund’s returns.
Larsen tells me that the fund managers aren’t wedded to the amount of leverage, either. If short-term interest costs rise too much, and cease to benefit the fund investors, the company will simply borrow much less. “We’ll keep that leverage on as long as we have a positive “carry,”” he tells me, meaning as long as the return from the investments is greater than the cost of the debt. “The team does adjust the leverage,” Larsen adds. “It’s not “set it forget.
What is the actual outlook for inflation? Well, the latest numbers show the bond market is getting less concerned than it was a few weeks ago: It now expects inflation to average 3.26% a year over the next 5 years, down from a forecast of 3.6% just a few weeks ago. We shall see.
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