Best of the Week
Most Popular
1.SNP Offers Labour Deadly Death Embrace Alliance, Holding England to Ransom, Destroy UK From Within - Nadeem_Walayat
2.Gold And Silver – Most Widely Used Currency In Western World? Stupidity - Michael_Noonan
3.Election Forecast 2015 - Coalition Economic Recovery vs Labour Collapse - Nadeem_Walayat
4.Election Forecast 2015 - Debates Boost Labour Into Opinion Polls Seats Lead - Nadeem_Walayat
5.Why are Interest Rates So Low? Ben Bernanke, Confused as Ever, Starts His Own Blog to Prove It - Mike_Shedlock
6.Leaders Debate Election 2015 - Natalie Bennett Green Party Convincing Anti-Austerity More Debt Argument - Nadeem_Walayat
7.Labour Economic Collapse vs Coalition Recovery - UK Election Forecast 2015 - Video - Nadeem_Walayat
8.China’s Stock Market Mania; How High can Red-chips Fly? - Gary_Dorsch
9.Gold and Misery, Strange Bedfellows - 31st Mar 15 - Dan_Norcini
10.Ed Miliband Debate Election 2015 Analysis - Labour Spending, Debt and Economic Collapse - Nadeem_Walayat
Last 5 days
Stocks Bull Market Looks to Resume - 25th Apr 15
Gold And Silver - The U.S. Is A Corporation. Precious Metals Stand In The Way - 25th Apr 15
When the Nuclear Money Option Fails - 25th Apr 15
The War on Cash Special Report - 25th Apr 15
China Economic Slowdown Story - Why “Didi Dache” Is a Phrase You Need to Know - 25th Apr 15
The Trans-Pacific Partnership and the Death of the Republic - 25th Apr 15
Stock Splitting Caused the Stock Market Crash - 25th Apr 15
China Stock Market Parabolic Mania’s Global Risk - 24th Apr 15
What Will Happen to You When the U.S. Dollar Collapses? - 24th Apr 15
Why 2 of U.S. Dollar's Recent Bottoms Have 1 Thing In Common - 24th Apr 15
UK Economy Debt Timebomb Will Explode After Election - 24th Apr 15
Are Gold Stocks the Cheapest Ever? - 24th Apr 15
God, the Stock Market and Pascal's Wager - 24th Apr 15
Greedy Insurers Are in for a Nasty Surprise – Positioning You for Big Profits - 24th Apr 15
Four Things Missing From Obama’s First-Ever Energy Review - 24th Apr 15
How to Grow a Regenerative Medicine Industry - 23rd Apr 15
Stocks and Bonds Seven Year of Negative Returns; Fraudulent Promises - 23rd Apr 15
The Existential Danger To The Euro Is Elections - 23rd Apr 15
Stock Market No Clear Direction As Investors React To Quarterly Earnings Releases - 23rd Apr 15
Is China The Next United States? - 23rd Apr 15
U.S. Oil Glut: How High Can It Go? - 23rd Apr 15
Distorted Financial System Expect Deflation, Inflation And Hyperinflation - 23rd Apr 15
What McDonald’s Corporate Earnings Report Is Really Telling You - 23rd Apr 15
Gold Price Forecast to Become Priceless - 23rd Apr 15
FDIC Plots a Bank Heist Involving YOUR Accounts - 23rd Apr 15
$GOLD Price Year 2007 Again - 23rd Apr 15
Stocks Bubble - The Spread between Stock Prices and GDP is Blowing Out - 23rd Apr 15
Ukraine War - When Did We All Become Murderers? - 23rd Apr 15
Libya Crisis - EU Leaders Are Indicted for Nazi-Style Crimes against Humanity - 22nd Apr 15
Why Alternative Energy Isn’t Taking It on the Chin Despite Low Oil Prices - 22nd Apr 15
Bill Gross - German 10-Year Bunds Short of a Life Time - 22nd Apr 15
How to Profit from the Drop in the Oil Price - 22nd Apr 15
The U.S. Dollar's Move Is More Dangerous than You Think - 22nd Apr 15
Apple Watch Means Apple Will Become Worlds First $1 Trillion Stock - 22nd Apr 15
Half a Stocks Bubble Off Dead Center - 22nd Apr 15
They Said Go to College - Learning to become Debt Slaves - 22nd Apr 15
Best Cash ISA 2015/16, Instant and Fixed Savings Interest Rates, New Flexible Withdrawal / Deposit Rule - 22nd Apr 15
Unsound Banking: Why Most of the World's Banks Are Headed for Collapse - 21st Apr 15
Bitcoin Recent Low Price Volatility Might Be Deceptive - 21st Apr 15
Currency Wars Back As Russia Buys Gold - One Million Ounces in March Alone - 21st Apr 15
The Greece 'Grexit' Issue and the Problem of Free Trade - 21st Apr 15
Why Europe Lets People Drown - 21st Apr 15
Wealth Destruction for the 99.9 Percent - 21st Apr 15
SNP Publish England's Suicide Note as Pollsters Still Forecast Labour-SNP Election Disaster - 21st Apr 15
Characteristics of Extremely Over-Indebted Economies - 21st Apr 15
Trader Education Week -- a Free Event to Help You Learn to Spot Trading Opportunities - 21st Apr 15
Gold & Silver Alert: Silver Stocks’ Signal - 20th Apr 15
Now is the Time to Buy Resource Stocks, Especially Gold Equities - 20th Apr 15
DJ Transportation & Utility Averages Suggest Stocks Bull Market Is Over - 20th Apr 15
Crude Oil Price Bull Market Hope - 20th Apr 15
Stock Market Bears Get Slaughtered Despite Greece Counting Down to Grexit Financial Armageddon - 20th Apr 15
The Rise of the Paper Machines - 20th Apr 15
Gold and Silver Inflection Point - 20th Apr 15
SP500: A Butcher's Stock Market (Chop Chop Chop) - 20th Apr 15
Are Stock Market Bears Slowly Gaining Control? - 20th Apr 15
Sugar Commodity Price Bear Rally - 19th Apr 15
Avoid the Spread of the Stock Market "China Syndrome" - 19th Apr 15
Stock Market Going Nowhere Fast - 19th Apr 15
An Easy Way to Profit From the Two Biggest Trends in the Stock Market - 19th Apr 15
No Scripture Is Divine, Authentic and Beyond the Creation of the Human Brain - 19th Apr 15

Free Instant Analysis

Free Instant Technical Analysis


Market Oracle FREE Newsletter

US Historic Bubble

Why TIPS Won't Protect You from Inflation.​..and Other Government Lies

Politics / Inflation Dec 27, 2012 - 02:22 PM GMT

By: Casey_Research

Politics

If the "World Snake Oil Salesperson Society" had a hall of fame, good old Uncle Sam would be a charter member. When it comes to smooth-talking folks into buying debt instruments, he's the slickest around.

And Treasury Inflation-Protected Securities (TIPS) are one of his slickest gimmicks.


Here's how the federal government describes TIPS:

Treasury Inflation-Protected Securities (TIPS) are marketable securities whose principal is adjusted by changes in the Consumer Price Index. With inflation (a rise in the index), the principal increases. With deflation (a drop in the index), the principal decreases.

The relationship between TIPS and the Consumer Price Index affects both the sum you are paid when your TIPS matures and the amount of interest that a TIPS pays you every six months. TIPS pay interest at a fixed rate. Because the rate is applied to the adjusted principal, however, interest payments can vary in amount from one period to the next. If inflation occurs, the interest payment increases. In the event of deflation, the interest payment decreases.

When a TIPS matures, you receive the adjusted principal or the original principal, whichever is greater. This provision protects you against deflation.

Sounds like a sure-fire winner, right? If inflation goes up you're protected; and if deflation occurs, you'll still earn interest on the original principal.

When TIPS were introduced in 1997 my broker suggested them to me. My response was, "Okay, I'm the lender, right? And the amount of the loan, the interest rate, and the time frame are fixed. The only variable is the size of the final principal payment based on the inflation rate determined by the Consumer Price Index (CPI), and the borrower gets to keep score? I don't think so!"

Let's look at the details. Both the interest and principal growth are taxed. If the government calculates the inflation and pays out a net 4%, the investor must pay federal income tax on the income. That sure seems like a guaranteed way not to keep up with inflation.

And the picture gets even worse in today's economic climate. The government's version of the inflation rate, which it uses to adjust the interest and principal payments, is currently 3% – but that's really a lowball estimate. In the last few decades the government has significantly changed how it calculates inflation. Using the government's 1990 method, Shadowstats reports that the true inflation rate is really 6.2%, which is a much more realistic figure. If that's the case, the loss of buying power to inflation is even greater. Not only does the investor lose to inflation by being taxed on the income, he also loses because the true inflation rate is higher than the government's rate. This results in a final principal payment lower than the true inflation rate. I would call that a double-barreled loser.

The government has changed its method of calculating the CPI many times, and I urge readers to visit John Williams' ShadowStats website to see how. He clearly explains how true inflation is much higher than the figures the government calculates and reports.

I recently spoke with John, and he believes many consumers are under the illusion that the CPI is based on a constant basket of goods, and that their respective price changes are measured over time. In many of his special reports he outlines substitutions the BLS has made and the political significance of those changes.

In 1949 Benjamin Graham wrote an investment bible called The Intelligent Investor, and many pundits and advisors reference his work to justify their recommendations. Graham passed away before TIPS were introduced, but Jason Zweig has added some significant comments to the most recent publication of Graham's book, including a discussion on TIPS.

Because of the taxable nature of TIPS, Zweig suggests owning them inside an IRA or some other type of tax-sheltered account. He offers the following notes on TIPS:

In one easy package, you insure yourself against financial loss and the loss of purchasing power.

Either directly or through a fund, TIPS are the ideal substitute for the proportion of your retirement funds you would otherwise keep in cash.

For most investors, allocating at least 10% of your retirement assets to TIPS is an intelligent way to keep a portion of your money absolutely safe – and entirely beyond the reach of the long, invisible claws of inflation.

I would have agreed with the author when he wrote the book, but times have changed.

Most successful investors have a couple of things in common. First, they're not blinded by smokescreens and can see things as they really are. Second, they understand cause and effect. I suspect Graham, who had both of these qualities, would see TIPS for what they really are. When one applies these two principles to TIPS, a few conclusions become clear.

  1. TIPS won't protect against inflation if they're not held in a tax-sheltered account.
  2. If the government adjusts the principal of TIPS based on the CPI inflation rate, the best an investor can hope for is to stay even with inflation.
  3. If John Williams' inflation numbers are accurate, a TIPS investor risks losing a good portion of his life savings to the ravages of inflation.

Unfortunately financial planners tend to perpetuate the myth that TIPS adequately protect against inflation. Recently, when I asked a certified financial planner at a major brokerage firm how he protected his clients from the potential ravages of high inflation, he said he recommended TIPS. When I asked if they were doing anything else, he answered, "Not really." Several of my friends with managed accounts have also said their money managers "protect" them with TIPS.

Many financial planners simply take all of a client's financial information and plug it into the company computer, which then produces a report outlining a suggested financial strategy. If the person writing the computer program plugged TIPS into the formula, that's among the items a final report may suggest. If your planner insists that any of your money should be invested in TIPS, I would certainly ask for a solid explanation.

In my opinion, TIPS do the opposite of what they're supposed to do. With inflation on the rise and some creative accounting on the part of the scorekeeper, I think TIPS are a terrible investment. I urge every reader to do his own due diligence – ShadowStats is the best place to start. Questioning financial planners and money managers may lead to some stressful conversations, but the risk of losing a large portion of your nest egg to inflation warrants taking the time to educate yourself by demanding answers.

Many friends have asked me what they should invest in to protect themselves against inflation. Unfortunately, they're looking for an easy answer that doesn't exist. Only a combination of investments can accomplish the goal. Our model portfolio recommends a variety of alternatives to TIPS with the income potential and capital appreciation to help protect your portfolio.

Many readers may remember an entertainer named Alex Karras who also played professional football for the Detroit Lions. At the time, the Lions had a terrific defensive team and a horrible offense. When a reporter asked Karras for his prediction on the upcoming season, he replied, "I predict we will play to a lot of scoreless ties!"

If you're heavily invested in TIPS, a scoreless tie is the best you can hope for. At Miller's Money Forever we have much higher aspirations.

How I Realized the Government Lies about Broccoli

As a kid, I was led to believe the federal government was close to God. If a report came out from the government or even Walter Cronkite, no one considered questioning its authenticity. It was fact.

But somewhere in my 20s I actually started to think for myself a bit more and question certain things, including the government and its messages.

It all started with a headline-making government report. Apparently if I didn't eat broccoli – I mean at least two big helpings each week – I was certain to die of cancer by the end of the decade. Now, I hate broccoli. I hate the taste of it, the smell of it, and even the idea of having to eat it to survive. I began to suspect something was fishy.

Shortly thereafter there was a big editorial about Washington lobbyists corrupting America. I looked down the list and sure enough, there was a big broccoli lobby. Bingo! The broccoli lobby had corrupted the research process in the US. It bought and paid for the study that published the data indicating I had to eat two big helpings a week to avoid an early deathbed. Wasn't it that same broccoli lobby that paid someone to dump truckloads of broccoli on the White House lawn when Bush the First was president?

That was a traumatic day for me, realizing that the federal government could be paid to educate the public about something that wasn't true… particularly regarding broccoli.

I've finally concluded that any government that will lie to its constituents about big things like broccoli will think nothing of lying to them about little things like unemployment numbers, the inflation rate, nuclear weapons in Iraq, or the Vietnam War. Once it gets comfortable lying about the big stuff, the little ones come easy.

If you’re looking to get past the lies and misinformation on TIPS and want straight talk on retirement planning and boosting your income during retirement—without having to go back to work—then take a few minutes to read my newest report in my Miller’s Money Forever service. 

© 2012 Copyright Casey Research - All Rights Reserved

Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

Casey Research Archive

© 2005-2015 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in

Free Report - Financial Markets 2014