Blackrock recently launched a suite of exchange-traded funds that make it easy to invest in Treasury inflation-protected securities (government bonds that move in step with inflation and pay a fixed coupon rate on top) of different maturities. All of the 10 new iShares iBonds ETFs — so-called target-maturity funds — come due in different years and sport target dates that range between 2024 and 2033.
Target-maturity ETFs aren’t new; Blackrock and Invesco started offering them nearly a decade ago. But the earlier versions focus on corporate, municipal or Treasury bonds, which don’t adjust with inflation.
By eliminating the hassles of buying individual bonds, these ETFs make it easy to build a bond ladder, which involves spreading your investments among bonds with staggered maturities — the ladder “rungs.” The goal is to provide steady income or minimize interest rate risk (bond prices and interest rates move in opposite directions). As bonds mature, you reinvest the proceeds in a rung further up the maturity line, spend the cash or invest it elsewhere.
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TIPS may be timely given current inflation rates. Kiplinger expects inflation to average 2.4% by late 2024 (which is a smidge below its 30-year average). Inflation-protected securities work differently than traditional Treasuries.
The principal, or face value, of TIPS, which are issued with five-, 10- and 30-year maturities, rises or falls monthly in step with the consumer price index. On top of that, TIPS pay a fixed rate of interest, or coupon rate, every six months. As of October 31, a 10-year TIPS had a yield of 2.5%. By contrast, the standard 10-year Treasury yielded 4.9%.
Target-maturity funds need some explaining, too. The iShares iBonds Oct 2024 Term TIPS ETF (symbol IBIA), for example, holds TIPS that come due between January 2024 and mid October 2024. Interest payouts are made quarterly. As the portfolio’s bonds mature, the proceeds are reinvested into October-dated bonds or held in a money market fund within the ETF. On October 15, 2024, the ETF will officially close and return all of the capital to shareholders.
It’s best to buy and hold these funds to maturity. Each of the 10 funds charge a 0.10% expense ratio, and all sport a yield of at least 6% or better. But those yields include both interest income and inflation adjustments to the principal.
Blackrock likes to say these investments “mature like a bond and trade like a stock.” You can buy shares in the ETFs for as little as the price of one share or less if your broker offers fractional-share purchases. That’s less than the $1,000 minimum to buy Treasuries on most broker platforms, as well as the $100 minimum outlay required to buy the securities directly from TreasuryDirect.gov.
And you can reinvest your interest income and buy more shares in the ETF. “I’m a fan of TIPS ladders. And if you like TIPS ladders, you’ll like these funds,” says Morningstar’s John Rekenthaler.
Whether you hold TIPS directly or invest through an ETF, the tax implications are the same: Interest payments are exempt from state and local taxes, but you’ll owe federal income tax on interest income and inflation adjustments to the principal — due in the tax year they occur, even if you don’t sell the bond — if you hold these assets in a taxable account.
Note: This item first appeared in Kiplinger's Personal Finance Magazine, a monthly, trustworthy source of advice and guidance. Subscribe to help you make more money and keep more of the money you makehere.
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FAQs
By eliminating the hassles of buying individual bonds, these ETFs make it easy to build a bond ladder, which involves spreading your investments among bonds with staggered maturities — the ladder “rungs.” The goal is to provide steady income or minimize interest rate risk (bond prices and interest rates move in ...
Can you build a bond ladder with ETFs? ›
The unique features of iShares iBonds ETFs can help you more easily build bond ladders, pick points on the yield curve, or even match expected cash flow needs in the future.
What are the benefits of a bond ladder ETF? ›
Bond ladders can also enhance diversification and flexibility. Bond ladders may contain ETFs with various maturity dates, which boosts portfolio diversification. They also provide flexibility because proceeds at maturity can be reinvested or used to cover an expense.
Should I buy tips in 2024? ›
April 2024, in fact, is also an opportune time for making new TIPS investments. But as this chart shows, real yields could go higher. Or, as happened in the months after October 2023, they could move sharply lower.
What is the difference between tips bonds and tips ETF? ›
Income Reinvestment
TIPS ETFs distributions consist of accrued coupon income and the principal inflation adjustment. Unlike individual TIPS bonds, TIPS ETFs distribute any upward adjustment in principal due to inflation as interest income in the year it occurs.
Why not to invest in bond ETFs? ›
Disadvantages of Investing in Bond ETFs
Credit risk: Bond ETFs hold a portfolio of bonds, and the credit quality of these bonds can vary. If the ETF holds bonds with lower credit ratings, it may be exposed to higher credit risk. Defaults or downgrades of the underlying bonds can have an impact on the ETF's performance.
How much money do you need to build a bond ladder? ›
While it isn't a rule, investment experts only recommend making a bond ladder if you have at least $100,000 to invest. Otherwise the ladder will be too short, or the rungs will be too far spread out. If you are only investing in corporate bonds, you may want to purchase even more.
What is the downside of bond ladders? ›
It cannot predict or project the return of any specific investments. While predictable, bond income is not guaranteed and is subject to call risk as well as possible default on principal and interest (which increases with lower-rated securities).
What is the most risky bond to invest in? ›
High-yield or junk bonds typically carry the highest risk among all types of bonds. These bonds are issued by companies or entities with lower credit ratings or creditworthiness, making them more prone to default.
What is the best bond ETF? ›
9 of the Best Bond ETFs to Buy Now
| Bond ETF | Expense Ratio | Yield to maturity |
|---|
| iShares 0-3 Month Treasury Bond ETF (SGOV) | 0.07% | 5.4% |
| iShares Aaa - A Rated Corporate Bond ETF (QLTA) | 0.15% | 5.3% |
| SPDR Bloomberg High Yield Bond ETF (JNK) | 0.40% | 7.9% |
| Pimco Active Bond ETF (BOND) | 0.55% | 5.8% |
5 more rowsMay 7, 2024
The Cons of TIPS
The tax treatment of TIPS is a major disadvantage. TIPS investors pay tax on their income payments as well as the inflation adjustment made to their principal values, making them a far better choice for tax-sheltered accounts like an IRA or 401(k) than a taxable account.
Are tips good for retirees? ›
By using TIPS to cover your fixed spending and lock-in a desired living-standard floor in retirement, you can safely invest in stocks for their potential upside. The lower you set your living standard floor, the greater is your potential upside, and vice versa.
Does it make sense to buy tips? ›
TIPS may be a sound investment to protect against inflation, but they're not wealth-building tools like stocks. March 22, 2024, at 3:47 p.m. If you're worried about inflation, TIPS can be a good choice – just don't count on them for big gains.
Can tips bonds lose value? ›
As the name implies, TIPS are set up to protect you against inflation. Unlike other Treasury securities, where the principal is fixed, the principal of a TIPS can go up or down over its term.
Is it better to buy I bonds or tips? ›
Bottom line. If inflation and investment safety are your chief concerns — TIPS and I-bonds deliver both. TIPS offer greater liquidity and the higher yearly limit allows you to stash far more cash in TIPS than I-bonds. If you're saving for education, I-bonds may be the way to go.
Are tips riskier than Treasuries? ›
While TIPS have no default risk – or more accurately, as little default risk as U.S. nominal Treasury bonds – they are not risk-free in nominal terms, because their index ratios can adjust down in times of deflation (though the principal paid back by TIPS can never fall below the original bond principal amount).
What is the difference between ETF and bond ladder? ›
Bond Ladders. The liquidity and transparency of an ETF offers advantages over a passively held bond ladder. Bond ETFs offer instant diversification and a constant duration, which means an investor needs to make only one trade to get a fixed-income portfolio up and running.
Can you buy bonds through an ETF? ›
You can invest in just a few ETFs to complete the bond portion of your portfolio. Each of these ETFs includes a wide variety of bonds in a single, diversified investment. Vanguard Total Bond Market ETF holds more than 8,300 domestic investment-grade bonds.
How do I build a bond ladder? ›
How Do You Build a Bond Ladder With ETFs? Bond exchange traded funds (ETFs) give investors easy exposure to different types of bonds with defined maturity dates. Therefore, in order to build a bond ladder with ETFs, you simply have to purchase a few ETFs that match different points on the yield curve.
