How TIPS Work

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Widely considered one of the safest investments, Treasury Inflation Protected Securities (TIPS) are bonds backed by the U.S. federal government. The principal on TIPS is tied to the Consumer Price Index (CPI), a measure of inflation. The principal increases when inflation increases and decreases with deflation (deflation occurs when prices go down, and is rare). Once the security matures, the U.S. Treasury pays either the original or adjusted principal, whichever is greater. Interest is paid twice a year at a predetermined fixed rate for the current value of the bond adjusted for inflation.

The U.S. Treasury began issuing TIPS in 1997. Sold in increments of $100, TIPS can have five-year, 10-year or
30-year maturities. You can hold TIPS until maturity or sell on a secondary market before they mature. The Treasury holds auctions for TIPS at multiple times throughout the year, but they can also be purchased through a bank, broker or dealer.

TIPS can be a useful diversification tool for investors, particularly for investors that are nearing or already in retirement, as they are a relatively conservative investment that provides some protection against inflation.

TIPS Funds

Although you can purchase individual TIPS on your own, you may be able to invest in a TIPS mutual fund through your 403(b) or 457 plan, if offered as one of the investment selections.

TIPS funds allow for professional management that may add value by looking for underpriced TIPS in the secondary market. It can also be a good vehicle for diversifying a portfolio, as TIPS with varying maturities will be owned by the TIPS fund. Whether individual TIPS or a TIPS fund is right for you depends on your risk tolerance and financial goals. Be sure to consider your overall asset allocation when considering a TIPS fund for your portfolio.