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Treasury Inflation-Protected Securities, or TIPS, are bonds issued by the US Treasury which provide investors with protection against inflation. They are offered in maturities of 5, 10 and 20 years.
The principal on these securities are adjusted based on the Consumer Price Index, which is a measure of inflation. For example: Suppose inflation rate is 2%. If an investor bought TIPS worth $1000 and held it for a year, his principal would have grown by 2% to $1020.
Upon maturity, the TIPS pay back the adjusted principal or the original principal, whichever is greater. TIPS also pay interest twice a year at a fixed rate. However, the interest is paid on the adjusted principal, and as a result increases with inflation and decreases with deflation.[1]
TIPS are useful in determining the expected inflation. The difference between the yield of normal Treasury bonds and the yield of TIPS is a good indicator of the market's inflation expectation.
TIPS can be bought from Treasury Direct.
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