The Sarcasm Report v.32

Don’t Go Overboard With Inflation Protection

TIPS. You may be familiar with Treasury Inflation Protected Securities (TIPS), and they’re a very good long term inflation hedge.

Based on the article's headline, I am VERY impressed that he's getting off to such a great start. I expected to be heckling and/or using sarcasm by now. Have patience though. I assure you that it is coming. Hahaha!

But the problem with TIPS today is they don’t produce much income for you to live on.

Okay. The logic is starting to degrade now. TIPS are a capital preservation strategy. Nobody should expect TIPS to actually make them richer. I know this is a wacky theory, but I actually intend to use all of my savings to fuel my retirement. I expect to die relatively broke. I've just never been a very big fan of having my cake and eating it too.

That said, the "problem" he mentions surely doesn't apply to other investments. Investors have made a killing in the stock market over the last decade. Treasury Bills are yielding an amazing 0.1% right now. Sign me up. I'm still kicking myself for not buying houses in 2005 so that I could generate income through renting them out. Yeah, right!

So if you load up on TIPS and we don’t get high inflation, or it takes years for inflation to emerge, you may be forced to spend more of your principal to pay the bills.

There you have it. Complete economic logic degradation. The word asinine comes to mind.

There is ABSOLUTELY no circumstance when inflation can actually help those of us who buy TIPS and hold until maturity. The higher inflation goes, the more we'll pay in taxes and the lower our after tax return becomes. It's that simple. Although holders of TIPS have some inflation protection, we should NEVER pray for higher inflation. Period.

Further, higher inflation makes it even worse than that. With TIPS, we get taxed on the inflation adjustments each and every year but we do not even get paid the inflation adjustments until the bonds mature. In other words, the higher the inflation, the worse our short-term cash flow situation becomes. Should inflation go high enough, all interest payments would be used solely to pay the taxes. Further, the taxes could at some point even exceed the money we are paid. We could therefore actually go cash flow negative. Not only would we not have the income to live, but we'd have to find other income just to pay the taxes on the TIPS.

So let's sum this up. Higher inflation does two things to holders of TIPS.

The higher the inflation rate becomes, the more taxes we'll have to pay on the inflationary gains. This will reduce our inflation adjusted after tax return. Ouch!

The higher the inflation rate becomes, the worse our cash flow situation becomes. We'll be spending more of the interest we do receive simply to pay the taxes. Ouch!

So if you load up on TIPS and we don’t get high inflation...

I would be thanking my lucky stars!

Greenspan said in 1966 that there is no safe store of value in a welfare state. Clearly there is no safe store of value in a main stream media state either. As proof, he started with the premise that TIPS are a "very good long term inflation hedge" and then proceeded to use incorrect logic to say why we shouldn't own them. What does he want us to own instead?

Flexibility. As long as you keep your fixed income holdings flexible, you should be able to respond to inflation by eventually buying bonds that provide higher income, while still earning more income today.

Never mind that fixed income investing ruined investors in the 1970s. Those who take him up on it will indeed get higher income now. Spend all of it. Don't worry about inflation. Your nest egg's purchasing power will last a full 10 decades. Take that trip to Europe you always wanted. Enjoy!

Speaking of "10 decades", do yourself a huge favor. Watch the first scene from the Newlywed Game (both her answer and his answer).



In my opinion, our economy is packed with dumb luck. We can't help but win long-term.