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
Build bond ladders: iBonds ETFs make it is easy to create scalable bond ladders with only a few ETFs, rather than trading numerous bonds.
What is the difference between a bond ladder ETF and a bond ETF? ›
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. A bond ladder, which requires buying individual bonds, does not offer this luxury.
Are tips ETFs a good investment? ›
As inflation rises, the value of TIPS bonds increases, as does the net asset value (NAV) of the ETF. TIPS ETFs can be a good fixed-income option for investors to hedge inflation risk. They provide easy access to the benefits of TIPS with the convenience, diversification, and flexibility of ETFs.
Should I buy tips in 2024? ›
As you can see, the 2023 yields were about 30 basis points higher than today's elevated levels. October 2023 was a great month for building a ladder of TIPS investments, with all maturities yielding close to 2.5% above inflation. April 2024, in fact, is also an opportune time for making new TIPS investments.
Is it better to buy bonds or bond ETFs? ›
For many investors, investing in the right bond funds can be a better option than holding a portfolio of individual bonds. Bond ETFs can provide better diversification — often for a lower cost — can offer higher liquidity, and can be easier to implement.
Is a bond ladder a good idea now? ›
SHARE YOUR THOUGHTS
The verdict: The bond-laddering portfolio provides more-stable returns over various interest-rate environments. For instance, if you go with the short-term portfolio option you may secure 7.5% a year if rates go up, or you could wind up with 2.5% a year if rates decrease.
What is the best bond ETF? ›
- Vanguard Short-Term Bond ETF (BSV)
- Vanguard Intermediate-Term Bond ETF (BIV)
- Vanguard Long-Term Bond ETF (BLV)
- iShares MBS ETF (MBB)
- iShares 0-3 Month Treasury Bond ETF (SGOV)
- iShares Aaa - A Rated Corporate Bond ETF (QLTA)
- SPDR Bloomberg High Yield Bond ETF (JNK)
- Pimco Active Bond ETF (BOND)
Impact of interest rates on bond ETFs
Both long-term and short-term bonds are impacted by interest rate changes, but long-term bonds see a greater impact. Rising interest rates are one of the ways you can lose money investing in bonds.
What are the cons of bond ETFs? ›
Their daily transparency and the ease of tracking an index can be particularly appealing for those who value cost efficiency and operational simplicity. However, like bond funds, bond ETFs are also subject to market risk, including changes in interest rates and credit risk.
What are the downsides of tips? ›
Lower yield: TIPS usually pay lower interest rates than other government or corporate securities, so they are not necessarily optimal for income investors. Their advantage is mainly inflation protection, but if inflation is minimal or nonexistent, then their utility decreases.
TIPS allows you to park your cash during a recession and help preserve its value. The face value of TIPS goes up or down with inflation or deflation. During a non-inflationary time, your investment earns the interest rate offered when purchased.
Is there a downside to investing in ETFs? ›
What's the Biggest Risk of Owning an ETF? The greatest risk for investors is market risk. If the underlying index that an ETF tracks drops in value by 30% due to unfavorable market price movements, the value of the ETF will drop as well.
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.
What happens to tips when interest rates fall? ›
TIPS are a type of Treasury security whose principal value is indexed to inflation. When inflation rises, the TIPS' principal value is adjusted up. If there's deflation, then the principal value is adjusted lower.
Are tips a good idea now? ›
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.
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.
How much money do you need to build a bond ladder? ›
It's been said that a bond ladder shouldn't be attempted if investors do not have enough money to fully diversify their portfolio by investing in both stocks and bonds. The money needed to start a ladder that would have at least five rungs is usually at least $10,000.
How do I build a bond ladder? ›
With bond laddering, you invest in multiple bonds with different maturities. As each bond or CD matures, you can reinvest the principal in new bonds with the longest term you originally chose for your ladder. If interest rates move higher, you can reinvest at higher rates.
