Why are TIPs (Treasury Inflation-Protected Securities) excluded from IFA’s traditional 20 Index Portfolios?
It is important to understand that investors are paid for bearing inflation risk. If they wish to be protected from the risk of unexpected inflation, they will pay for this privilege. It is the classic economic trade-off of risk for reward. As always, there are no free lunches. A good way to mitigate inflation risk without sacrificing the inflation risk premium is to use short-term fixed income. The maximum maturity in the IFA Index Portfolios is five years. The reason short-term fixed income works well as an inflation hedge is that once the market anticipates high inflation, it is immediately reflected in short-term interest rates, so as bonds mature, they can be re-invested at the higher interest rates. Holders of long-duration fixed income could be stuck with their low yields for many years, and the decreased market price of their bonds will reflect this. This brings up another problem with TIPs, which is that they can carry a high degree of term risk which could potentially oversha
