Sunday, January 13, 2008

TIPS – Treasury Inflation Protected Securities

This is one more new concept for us to learn from a much respected columnist whose writings we keep following in our blogs.

Mythili Bhusnurmath explains us today about TIPS. Treasury Inflation Protected Securities. Advise you to read the full article once. Do so here.

What makes the concept interesting is the fact that interest incomes are not indexed to inflation. The result is that – if you are dependent on interest income only, then over a period of time you will be poorer than what you were some time ago.

Tips are a special type of government securities that offer investors protection from inflation. First issued in the US in 1997, (many other countries have similar instruments) this is how Tips works: the principal increases in line with inflation (as measured by the consumer price index) and decreases as prices fall.

When the instrument matures the investor is paid the inflation-adjusted principal or the original principal whichever is more. Since a Tips investor will never receive less than his original principal what this means is that the amount invested is protected.

The government has been reluctant to issue such bonds. Only index- linked bonds have been issued but these did not find many takers since only the capital (not interest) was protected. Ideally both must be protected.

Unfortunately, the government seems more intent on spending its energies on meaningless legislation in areas that are clearly outside its remit like the Senior Citizens (Maintenance, Protection and Welfare) Act (mandating that children look after their parents) than on providing senior citizens the wherewithal to protect themselves where it matters most, economically.

Those of you who have been debating strongly about the Senior Citizens Act, have much more ammo now, I guess. Go ahead and fire in the shout-box.