Treasury Market Rout Is Even Worse for Inflation-Linked Bonds
Inflation-linked bonds are the biggest losers in this month’s violent Treasury market selloff, and that’s only partly due to inflation expectations.
Yields on Treasury inflation-protected securities, or TIPS, have risen even more than those on regular Treasury bonds. The 30-year TIPS yield, for example, has gone up 41 basis points to its highest level since 2008, while the regular 30-year yield is up about 32 basis points at the highest level since January.
The difference in yields represents the average expected inflation rate to maturity, or the amount of inflation needed to equalize returns. So when TIPS yields rise more, the so-called breakeven rate declines.
However, it would be a mistake to conclude that inflation expectations are the sole driver behind the recent underperformance in TIPS, according to Michael Pond, head of global inflation market strategy at Barclays Capital Inc.
The market for TIPS is smaller than that for other Treasuries, with about $2 trillion outstanding versus about $20 trillion of regular notes and bonds. As a result, even when there’s a reason for inflation expectations to drop, once they start falling, “liquidity starts to dry up and the TIPS market dislocates from fundamentals,” Pond said.
A Bloomberg TIPS index lost 2.3% this month through April 10, while an index of comparable regular Treasuries lost about 1%.
“We’ve seen this movie before,” Pond said, pointing to the financial crisis in 2008, the March 2020 Treasury market liquidity crisis and — to a lesser degree — the regional banking crisis in early 2023.
Short-term inflation expectations have risen amid concerns that President Donald Trump’s tariff agenda will lead to higher prices, but longer-term periods covered by TIPS maturing in five, 10 and 30 years signal the potential for an economic slowdown to prove disinflationary. Also, the Federal Reserve’s ability to respond to a slowdown with interest-rate cuts may be limited if inflation and inflation expectations remain high.
A consumer survey by the University of Michigan released Friday found a jump in the expected inflation rate over the coming year to 6.7%, the highest since 1981 and up from 5% last month.
The current episode in the TIPS market is exacerbated by what Barclays describes as a mismatch between supply and demand, as the US Treasury has continued to increase the size of its TIPS auctions while holding others steady. At the same time, investor demand for long-maturity TIPS has been declining since 2022, when the funds that held them suffered losses as interest rates rose.
“We’ve been warning for a while about exactly this sort of breakdown in the TIPS market,” and advising investors to position for breakeven rates to fall more than warranted by fundamentals, Pond said. “The TIPS market has a tendency to break.”
This article was generated from an automated news agency feed without modifications to text.
