TIPS Outperform Treasurys in the Fourth Quarter and for all of 2019

After underperforming for two consecutive quarters, TIPS posted a small gain of 0.5% in the 2019 fourth quarter, significantly outperforming comparable maturity straight Treasurys, which posted a decline of 1.4%.

That performance mirrored the trend in the equity markets, which bounced back first on the rumors and then on the news of a Phase 1 trade deal with China. Equity markets had essentially traded sideways with two modest corrections from the beginning of May to the end of September; but they took off in October on rumors of a pending trade deal.

At the same time, Treasury markets rallied and inflation expectations eased during the middle two quarters of the year, as investors worried about a weakening economic outlook. As those fears began to subside in the fourth quarter, investors sold straight Treasurys but continued to buy TIPS, driving Treasury yields up and TIPS yields down.

In 2019. TIPS outperformed Treasurys in the first and fourth quarters; while Treasurys outperformed TIPS in the second and third quarters. For all of 2019, TIPS earned a total return of 9.1%, which was 1.5 percentage points or 150 basis points (bps) better than the 7.6% total return on comparable maturity straight Treasurys. By my estimates, the 9.1% total return for TIPS included a yield of 1.3%, price appreciation of roughly 6.0% and an inflation adjustment of 1.8%. With the 6% of price appreciation, the average yield on TIPS, which is equivalent to the real rate of interest (i.e. excluding inflation) was just 0.24% at the end of 2019, down from 1.34% at the end of 2018.