Tag Archives: TIP

Cautious Forecast for Next 6 Months

Pardon the obvious, Wall Street is a pretty bullish place. So, it’s refreshing to hear someone down there actually say things don’t look so good.

Ed Keon is one of the few.

“There remains a high level of caution and pessimism in the country among the average consumer and business executive,” said Keon, managing director and portfolio manager for Quantitative Management Associates. He spoke Tuesday at Prudential’s 2010 Midyear Market Outlook panel, the one with the tantalizing title: “Will the economy double-dip?” He added, “There’s plenty of money to invest, but people are reluctant to do so.”

He says the stock pullback is a symbol of not just the economic activity, but also a malaise among the American people. But he believes stocks represent a good value, compared to the long-term bond. The dividend yield for the S&P 500 Index is 2%. Considering that a quarter of the index doesn’t pay dividends, many of the stocks in the index are paying 3% to 6%, compared to the 10-year bond’s yield of 2.9%. When you can get a better return from risky large-cap stocks than Treasury’s you know stocks are cheap. Remember, prices move inversely to yield. So as prices move lower, yields rise.

For a full explanation of the relationship of yields to prices and dividends, check out Dividends Stocks for Dummies.

Not only are stocks cheap, but earnings are strong and will come in above expectations, said Keon. Still he cautions again the expectation that stocks will see a sudden resurgence of confidence. Until we address the structural problems in the economy, Keon said we won’t be able to get moving until we deal with the giant levels of debt. He says he’s currently holding allocations near benchmark weights, but is underweight TIPS bonds.

Top ETFs holding TIPS in alphabetical order:

  • Barclays Capital TIPS Bond Fund (TIPS)
  • PIMCO 1-5 Year U.S. TIPS Index Fund (STPZ)
  • SPDR Barclays Capital TIPS ETF (IPE)
  • SPDR DB International Government Inflation-Protected Bond ETF (WIP)

Getting Some TIPS from PIMCO

Pimco, the world’s largest bond fund manager by assets, launched its second ETF, the PIMCO 1-5 Year U.S. TIPS Index Fund (STPZ). The ETF began trading Monday on the NYSE Arca. It tracks the Merrill Lynch 1-5 Year U.S. Inflation-Linked Treasury Index. This unmanaged index holds TIPS (Treasury Inflation Protected Securities) with a maturity between one and five years, and averaging about three years. The fund charges in expense ratio of 0.20%.

STPZ is the first of three ETFs on TIPS, U.S. Government-issued fixed-income securities that give investors explicit inflation protection and the potential for additional yield. The principal value of TIPS is adjusted monthly according to the rate of inflation measured by the U.S. consumer price index.

Pimco said in a written statement that the new fund is the “first ETF to focus specifically on the short maturity segment of the TIPS market and aims to offer investors a high degree of protection against the immediate effects of inflation on their portfolio. Shorter-dated TIPS have historically shown a significantly higher correlation with current inflation and lower volatility relative to an index that covers the entire TIPS maturity spectrum.”

Currently, inflation remains close to non-existent, with deflation a bigger threat to the economy. But, that situation just can’t last. The government’s spending surge from the unprecedented fiscal stimulus bill passed earlier this year has the potential to significantly boost prices across the economy.

Pimco has been one of the most active participants in the TIPS market since the product’s inception in 1997. Next month, the bond fund firm expects to launch two more TIPS ETFs. The PIMCO 15+ Year U.S. TIPS Index Fund (LTPZ) will address the long end of the market while the PIMCO Broad U.S. TIPS Index Fund (TIPZ) will give TIPS exposure across the maturity spectrum. These two will take on the two TIPS ETFs already on the market, the iShares Barclays TIPS Bond Fund (TIP) and the SPDR Barclays Capital TIPS ETF (IPE).

“By focusing on the short end of the maturity curve, we’re addressing the two main concerns we’ve heard from investors (inflation protection and protection against the risk of rising interest rates),” John Cavalieri, a Pimco senior vice president and real return product manager, told IndexUniverse. He said while the ETFs on the market provide inflation protection, STPZ is uniquely positioned to protect against the risk of rising interest rates. “It boils down to this ETF providing exposure to the short end of the maturity curve, which limits interest rate sensitivity.”

Pimco launched its first ETF in June.

Book Review of ETFs for The Long Run

Research Magazine just came out with a supplement called the Guide to ETF Investing 2009. Some great articles in there.

On page 8 of the guide is a review of my book ETFs for the Long Run. The link goes to a PDF file. The article was written by Ron DeLegge, the editor of ETFGuide.com, a great resource for ETF information. I am reprinting it here because I can’t link directly to the article.

Long-Term Thinking

Mutual funds may have enjoyed a 65-year head start, but the interest in ETF investing by individual investors and financial professionals is blossoming. Naturally, the rise of ETFs has led to a proliferation of subject material related to this still emerging investment vehicle. ETFs for the Long Run tackles this growing investment universe in a fun, readable and easy-to-comprehend manner.

The first few chapters take readers through a brief review of how ETFs came about. Nathan Most, a product developer for the Amex was instrumental in helping to launch the U.S. ETF marketplace. Most asked his development team, “Why can’t we create a warehouse receipt which would be backed by the underlying stock in the index but trade like a share of stock itself?” His question would later be answered with product prototypes that would eventually lead to the first U.S.-listed ETF in 1993, the Standard & Poor’s Depository Receipt (SPY).

Author Lawrence Carrel writes about ETFs as being a “better mousetrap.” He argues that mutual funds are inefficient from a cost standpoint: “Funds charge their shareholders for everything that goes on inside the fund, such as transaction fees, distribution charges, and transfer-agent costs.” On top of these costs, Carrel explains that there are additional charges that erode performance such as capital gain distributions. These often have the ugly habit of surprising mutual fund investors.

Timing Trouble

Remember the mutual fund timing scandal from 2003? Carrel suggests the 2003 scandal actually helped to fuel the popularity of ETFs. As you may recall, mutual funds were accused of breaking their own rules by allowing a select group of privileged investors to late-trade and market-time within their funds. On one hand, fund companies were telling investors to be long-term investors. On the other hand, these same companies were allowing hedge funds to make quick short-term profits at the expense of long-term investors. In contrast, ETFs avoided becoming tainted by the scandal because ETF investors are unaffected by the trading activity of their fellow shareholders.

ETFs for the Long Run explains the importance of building an ETF portfolio that accomplishes a logical financial mission. Carrel cites the classic 60/40 conservative portfolio which has substantially less exposure to stocks and more exposure to bonds. He suggests an equity mix using SPY, VO, IWM and EFA. For the bond position, he uses BSV, BLV, CFT and TIP. He also throws in a REIT fund (VNQ) for non-correlated market exposure.

Future Tense

Toward the end of the book, Carrel considers what the future of the ETF marketplace could become. While active ETFs have yet to make any significant impact in the business, the number of active mutual funds outnumbers that of index mutual funds. Could the same thing eventually happen with ETFs? Another area of future ETF asset growth is inside the lucrative 401(k) retirement market. Millions of 401(k) investors have no low-cost investment options or diversified choices like commodities, international bonds or REITs. Companies like Invest n Retire and WisdomTree are already aggressively pushing ETF/401(k) retirement plans. As complicated as ETF investing may sometimes seem, simplicity is often best. “The basic challenge for
the individual investor is to achieve a broadly diversified portfolio for the least amount of money,” states Carrel. This book should go a long
way to helping not just investors but top-notch financial professionals accomplish this noble objective.