How about those TIPS and nominals?
Don’t know what that means? You’re forgiven. You have to be an inflation worrywart to think about these sorts of things.
In a nutshell, this refers to a quick way to see what investors think about the risk of inflation, and right now it says they’re not too worried.
Still, the dangers of inflation should play a leading role in any long-term financial plan, because small-sounding numbers have big consequences.
TIPS are Treasury Inflation-Protected Securities, a form of U.S. government bond designed to protect investors from inflation. Every six months, a sum is added to the TIPS principal to equal inflation. If you spent $100 and inflation was 3%, your bond would be worth $103 after 12 months. The interest rate, or yield, is fixed for the bond’s life, but interest earnings rise because the yield is applied to the growing principal.
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Nominals refers to ordinary Treasury securities. They pay a fixed yield against a principal, or face value, which does not change.
Comparing the yields on 10-year TIPS with those on 10-year nominals shows what investors expect inflation to be during the next decade. Currently, 10-year TIPS yield about 1.67%, which means you would earn that much on top of the inflation rate. Meanwhile, 10-year nominal Treasuries yield about 3.44%
The difference suggests investors expect inflation to average around 1.77%, lower than its long-term average of around 3%.
Unfortunately, the overall inflation rate, measured by the consumer price index, doesn’t really reflect any one individual’s rise in cost of living, because it is based on prices for thousands of items and no one buys them all. If you face a lot of out-of-pocket medical expenses or tuition at a private college, your cost of living may well rise faster than overall inflation rate.
