Investors should purchase derivatives that exploit concerns about inflation more efficiently than TIPS, Morgan Stanley advises. So-called swaptions allow investors to buy the right to purchase an inflation swap, in which one party agrees to pay a fixed rate in exchange for the inflation rate. Even if the CPI doesn't immediately rise, the instrument gains value on expectations for future increases.

This instrument is tied to the CPI, so it has all the advantages and disadvantages of the CPI as a measurement of inflation.  It thus fails to serve the purpose that the advisors quoted in the article are promoting it for.

Now, if there were an inflation swap linked to a Morgan Stanley Inflation Rate Index, with a transparent method for calculating the index, that might serve the purpose.  If Morgan Stanley can measure inflation better than the Treasury, they wouldn't need as much of a risk premium over TIPS as conventional bonds have over Treasuries.  However, I don't see any attempt to offer inflation-linked securities linked to anything other than the CPI, probably because those who don't trust the government to measure inflation properly trust Morgan Stanley even less. 

"However, I don't see any attempt to offer inflation-linked securities linked to anything other than the CPI"

 There is no need for those anyway.   Invest in precious metals, energy, infrastructure etc. and keep your cash in gold/silver and/or the currencies of resource-rich countries like Australia, Brazil, Canada, Norway, Sweden etc. and you do have a pretty good hedge against inflation.

"...probably because those who don't trust the government to measure inflation properly trust Morgan Stanley even less. "

 They are all the same.  These days, it is hard to say where the government bureaucratic lies end and the corporate lies begin!

 -d

Hi Jim:

In my opinion this article is an example of "investment pornogrophy." at its worst.  Let's analyze this summary statement:

 ``I figured somewhere along the way people would revolt over these bizarre calculations and maybe someday TIPS would offer some value,'' Fleckenstein said. ``So far they don't.''

According to Vanguard,  Inflation-Protected Securities Fund (TIPS) has the highest year-to-date, 1-year, and 5-year return of ALL Vanguard bond funds.

https://personal.vanguard.com/us/funds/vanguard/bytype

Best wishes.
Taylor

Taylor,

 I disagree with your view.  Fleckenstein is talking about whether TIPS offer any value, with respect to real-world inflation - not with respect to some other bond funds!

It may be true that TIPS did better than other bond funds, but that is little comfort to those who have to  deal with inflation and its effects in their day-to-day lives.

-d

Hi Dilip

I am with Taylor on this one.  If TIPS are the best performing bond fund and offer no value, it follows that we should sell ALL of our bonds and buy swaptions. This is nothing more than a sales pitch for swaptions.  Yup, ditch bonds and buy derivatives for a real secure retirement.  Just like the folks in Orange County.  Real sound investment advice from a swaptions salesman.

Regards

Jim

Hey all,

I must say that the cpi has been a joke for years; my friends and i would often discuss the high prices of things like food and joke that the government was saying there was no inflation while we knew there was...the cpi and tips is at the very least misleading if not deliberately deceptive.  The goverment needs to stop cooking there own books and get real.

" Fleckenstein is talking about whether TIPS offer any value, with respect to real-world inflation - not with respect to some other bond funds!"

 Is this the same William Fleckenstein who ranked 49 out of 50  in forecasting the future direction of the  U.S. stock Maket?  :-)

 http://www.cxoadvisory.com/gurus/

Best wishes.
Taylor

Taylor, nice.  Cool link.

Jim, I did not advocate swaptions or any such gimmicky stuff.  The fact that these guys were unable/unwilling for so many years to see that inflation had gotten out of hand, in and of itself says a lot about their competence and integrity.  So there.

 However, the reality is that TIPS do not measure  the actual inflationary impact on the day-to-day lives and expenditures of most Americans.  I would say a diversified portfolio of some foreign currencies and/or bonds, together with commodities funds, plus gold and silver bullion would be a good alternative.  I don't like the swaptions route at all.

-d

 

Taylor,

I am not a regular reader of Fleckenstein.  I only commented on his statement in the article with regard to inflation.  Whether he has been wrong on any other issue is immaterial to my judgment on the statement he has made here.  I think he is absolutely right in saying that the CPI is a fraud perpetrated by the government on gullible Americans.

-d

Hello77, I agree. The government cooking their books with regard to inflation  is the prime cause for the various bubbles that we have been subjected to over the years - first, the stock bubble, which was then followed by the housing bubble and the yet-to-burst bond bubble.

-d
 

Yikes!  Blind bidding at tomorrow's TIPS auction.  No thanks.

"As a TreasuryDirect investor, you won't actually place an auction bid. Large financial institutions do that outside of TreasuryDirect. However, you will receive the amount of TIPS you order at the highest interest rate determined in the auction. The actual price, yield, and rate of the investment won't be known until after the auction.

However, as of last Thursday, the Treasury calculated the 10-year yield of outstanding TIPS at 1.42%"

Jo