Inflation backdrop may soon increase appetite for this roughed-up bond play

The appetite for Treasury inflation-protected securities ETFs, otherwise known as TIPS, may soon increase.

According to Charles Schwab’s D.J. Tierney, these investments are becoming more appealing as the economy shows further signs of a slowdown.

“With the rate move upward and inflation breakevens, [TIPS ETFs] might make more sense right now than they did a year or two ago,”  the firm’s senior investment portfolio strategist told CNBC’s “ETF Edge” last week. “We still believe in it for the long haul.”

TIPS ETFs are indexed to inflation, so their principal value is adjusted up when inflation rises. Despite major inflows in 2020, TIPS ETFs have been seeing meaningful outflows this year.

“What you’re seeing in 2022, it’s just a little bit of the pendulum swinging the other way,” Tierney said. “Is inflation as big a concern right now moving forward as it was a year ago? Probably not. Investors might have made tactical allocations towards TIPS ETFs and maybe they’re pulling that back a little bit.”

Tierney is the client liaison for Schwab U.S. TIPS ETF, which is down 16% so far this year. However, over the past two months it’s up more than 2%.

“It’s just heartening that in the face of a very tough year, we’re still seeing investors in aggregate utilize ETFs as a long-term investment vehicle,” Tierney said.

However, VettaFi financial futurist and ETF expert Dave Nadig cautioned TIPS breakevens tend to be driven more by investor sentiment than reality.

“TIPS are one of these things that are notoriously difficult for even really great traders to get right,” he said. “The old adage is by the time you’ve decided to make a trade in TIPS either in or out, you’re probably wrong.”

But if investors can get timing right, Nadig said the TIPS downtrend may soon reverse.

“We’ve had massive outflows in TIPS, but the breakeven on the 10-year TIPS is 2.3%, which means you have to believe inflation is going to average less than 2.3% to choose the straight Treasury over the 10-year TIPS,” Nadig said. “I think that’s a pretty good bet … that now may be the right time to get in.”