TIPS

TIPS, short for Treasury Inflation-Protected Securities, are US Treasury bonds whose principal value adjusts up or down with changes in the Consumer Price Index. As the principal adjusts for inflation, the fixed coupon rate is applied to that adjusted principal, so the dollar amount of each coupon payment rises along with inflation as well, and at maturity the investor receives the greater of the inflation-adjusted principal or the original par value.

This structure directly addresses a problem that ordinary Treasury bonds do not solve. A fixed coupon and fixed principal repayment can lose real value over time if inflation runs higher than expected, even though the nominal dollar amounts never change. TIPS are designed to preserve purchasing power, which is why their quoted yields represent a real yield rather than a nominal one, the return an investor earns above and beyond whatever inflation turns out to be over the life of the bond.

Because TIPS carry the full backing of the US Treasury, they carry essentially no credit risk, and their main use for investors is as a hedge against unexpected inflation rather than as a source of high income, since their real yields have often been quite low or even negative during periods of very low interest rates. The difference between a regular Treasury's nominal yield and a TIPS yield of the same maturity is watched closely as the market's implied expectation for future inflation, commonly called the breakeven inflation rate.