Treasury inflation-protected securities or tips, Financial Management

Assignment Help:

Treasury Inflation-Protected Securities (TIPS) are the inflation-indexed bonds, the US Treasury offers. The first offer was made in the year 1997. As the name suggests, it offers protection from inflation. In this type of securities, the interest is paid every six months and the principal amount at the time of maturity. These are normally offered in 5-year, 10-year and 20-year maturities. The specific difference between TIPS and other types of treasury securities is that the coupon amount and the outstanding principal amount in TIPS gets automatically increased to compensate for inflation as measured by the Consumer Price Index (CPI).

CPI is an index used for measuring inflation. The principal amount of TIPS gets adjusted to the CPI so that the purchasing power of the investor is not affected due the inflation. Though the coupon rate is constant in the case of TIPS, it still provides an interest amount which is duly multiplied by the inflation-adjusted principal. Thus, it is evident that TIPS protects its investors against inflation.

The US treasuries are considered safe investments. Of all these securities, TIPS are considered the safest treasury securities. The reason is that investors in TIPS get the rate of return duly compensated with the increase in inflation rate. This means the rate of return representing the growth of purchasing power is guaranteed. Due to this feature, it offers a low rate of return to its investors.

The interest payable on TIPS is taxable as per federal income tax laws in the year of receipt of such interest amount. The amount credited as an adjustment against inflation is also taxable every year. This tax treatment projects that the amount generated by this type of security is inversely related to inflation till the security reaches its maturity. In simple terms, when there exists no inflation then the amount generated may be exactly the same as for a normal bond. The investor receives the coupon amount less the taxable amount on the coupon amount. Similarly, where there is inflation the investor receives the coupon amount as per CPI less the taxable amount on the Coupon amount. Here, the investor has to pay an additional tax on the inflation adjusted principal.               


Related Discussions:- Treasury inflation-protected securities or tips

Accumulation option, It is a policy feature of permanent life insurance tha...

It is a policy feature of permanent life insurance that permits policyholders to left any dividends obtained with the insurer, where the dividends can gain interest. Accumulation o

Eps, a. Calculate expected earnings per share (EPS) if the firm is perfectl...

a. Calculate expected earnings per share (EPS) if the firm is perfectly hedged. EPS $

Explain intuition behind the npv capital budgeting framework, What is the i...

What is the intuition behind the NPV capital budgeting framework? The NPV framework is a discounted cash flow method. The method compares the present value of all cash inflows

Operating cycle, application of the operating cycle to a vegetable company

application of the operating cycle to a vegetable company

Capital Budgeting Decision Problem, SCL Ltd., a highly profitable company, ...

SCL Ltd., a highly profitable company, is engaged in the manufacture of power intensive products. As part of its diversification plans, the company proposes to put up a windmill to

Exchange rates, Exchange Rates The prices at which one country's c...

Exchange Rates The prices at which one country's currency can be changed into that of other country. Although perceptions in the currency markets of the privacy of a count

Two-for-one stock split, The equity accounts for Hexagon International are ...

The equity accounts for Hexagon International are as follows: a.    If Hexagon stock currently sells for $50 per share and a 20% stock dividend is declared, how many new s

None, Reacher Technology has consulted with investment bankers and determin...

Reacher Technology has consulted with investment bankers and determined the intere Reacher Technology has consulted with investment bankers and determined the interest rate it woul

Write Your Message!

Captcha
Free Assignment Quote

Assured A++ Grade

Get guaranteed satisfaction & time on delivery in every assignment order you paid with us! We ensure premium quality solution document along with free turntin report!

All rights reserved! Copyrights ©2019-2020 ExpertsMind IT Educational Pvt Ltd