Long-term US Treasuries have been 2016’s star performers, with the 10-year Treausry yield falling from almost 2.4% last November to an low of about 1.53% on Feb. 11, when markets feared a new financial crisis. Since then the 10-year yield has retraced to 1.9%. It could move higher, and investors who made profits in long-term Treasuries should be cashing out of the market.


Nothing should be simpler than a bond issued by the government of the world’s largest economy. Governments have way of making things complicated, though. And governments make bond markets complicated by selling inflation-tracking securities. The US government sells Treasury Inflation Protected Securities, or TIPS. At maturity, the principal amount of TIPS is adjusted to the government’s Consumer Price Index. If you buy 10-year TIPS at a dollar price of $100, and the Consumer Price Index doubles, the government pays you $200. In the meantime you receive a much lower yield than you would on ordinary Treasuries. TIPS yields frequent are negative: you might pay $102 for a $100 bond, in the expectation that inflation indexing will more than compensate you.

Ordinary Treasuries yield more than TIPS. The difference between the TIPS yield and the ordinary Treasury coupon yield is called the “breakeven inflation” rate, because that is the rate at which investors in TIPS and in ordinary coupon Treasuries earn the same yield.


Not surprisngly, the “breakeven inflation rate” tracks oil and commodity prices, as the above chart showing 10-minute interval data since October makes clear. The inflation rate that matters to TIPS investors is the CPI as measured by the BLS; this has been amplified increases in the cost of rental housing. Breakeven inflation has moved up a bit faster than the oil price during the past few weeks.

The TIPS yield, though, does not follow the oil price. Instead, it tracks the price of gold, quite closely, in fact. This has been emphatically true during the past several months. It has also been true for the past nine years.


Why should this be the case? We can think of TIPS as an out-of-the-money option on inflation. As the dollar weakens the value of TIPS (the inverse of their yield) increases. At a certain point TIPS began to trade like an in-the-money option, that is, with a low delta (price sensitivity to the underlying).

The optionality embedded in TIPS becomes more transparent when we plot TIPS yields against the price of gold. The r-square of regression between TIPS yields and gold price since 2001 is 78%. Gold and TIPS both can be thought of as deep out-of-the-money puts on the dollar; the investor sacrifices income (in the case of gold) or relative yield (in the case of TIPS), paying as it were the premium on an option which will pay off in the event of serious monetary instability.

Investors have been paying up for deep out-of-the-money puts on the dollar during the instability of the past two months. The price of such insurance probably has peaked. If markets continue to calm down, TIPS yields may rise while gold falls.

That’s a good reason to take profits now. Oil has snapped back, reducing deflation risk and fears of a global financial crisis have receded. That means both components of the Treasury yield are likely to rise: breakeven inflation has already risen along with oil, while TIPS are vulnerable to a reduced bid for catastrophe insurance.

David Paul Goldman (born September 27, 1951) is an American economist, music critic, and author, best known for his series of online essays in the Asia Times under the pseudonym Spengler. Goldman sits on the board of Asia Times Holdings.

Join the Conversation


  1. I do not even know the way I finished up here, but I believed this publish was once great. I do not realize who you are but definitely you are going to a famous blogger in the event you aren’t already 😉 Cheers!

  2. Hello there, You’ve done a great job. I will definitely digg it and personally recommend to my friends. I am confident they’ll be benefited from this website.

  3. Throughout this grand pattern of things you secure a B- for hard work. Where exactly you actually confused me was first on your facts. As it is said, details make or break the argument.. And that couldn’t be more correct right here. Having said that, let me inform you what exactly did do the job. Your article (parts of it) is definitely highly persuasive which is possibly the reason why I am taking an effort to comment. I do not really make it a regular habit of doing that. Secondly, even though I can easily see the leaps in logic you make, I am not sure of how you seem to unite the ideas that make the actual conclusion. For the moment I will yield to your issue however wish in the foreseeable future you actually link the facts better.

  4. Does your website have a contact page? I’m having problems locating it but, I’d like to shoot you an e-mail. I’ve got some suggestions for your blog you might be interested in hearing. Either way, great website and I look forward to seeing it expand over time.

Leave a comment