Using TIPS to Preserve Your Capital

by Miranda Marquit · 0 comments

One of the concerns that many people have about investing right now is the economic uncertainty. During times like these, many people just want to preserve their capital. This is often done with investments that are considered safer than stocks.

Capital preservation is all about making sure that your money is safe and that you maintain your buying power. Inflation can erode your buying power as prices rise and your dollar doesn’t buy as much as it used to.

One way to help preserve your capital is to invest in Treasury Inflation Protected Securities (TIPS). You can get started investing in TIPS fairly easily, and use them in your portfolio to help you offset some of the effects of inflation.

How Do TIPS Work?

Basically, TIPS are meant to help your money keep pace with inflation. You invest your principal in these Treasury securities, and you earn interest. However, twice a year, the inflation rate is considered, using CPI, and your principal is adjusted to reflect that. So, if inflation is on the rise, your principal will increase. That means that, even though the interest rate is fixed, you will earn more money since the principal is higher.

Over time, as inflation rises, your capital will keep pace, and your buying power won’t be as diminished. However, this only works if there is actually inflation.

Risks to Investing in TIPS

As with all investments, bonds come with risks. While TIPS can be helpful in a portfolio, it’s important to be aware of the possible risks. Some of the things to keep in mind include:

  • The fixed interest rate is generally lower on TIPS than it is for “regular” bonds.
  • Inflation might not be as high as you anticipated, so you might not do as well with TIPS as you could with another bond.
  • There is a chance that the United States could default on your debt, so you could lose your principal as well as future interest.
  • Understand that you will have to pay taxes on the increase. Even though you won’t actually see the cash until the bond matures, the adjustment made every six months requires the paperwork and the income report — and for you to pay taxes.

TIPS can be great way to help you limit your exposure to inflation, while helping you keep your capital relatively safe. Many people feel safer about the situation when they have a little diversity in their portfolios, and when some of that diversity includes bonds.

Carefully consider your situation, and your investing goals, as well as how close you are to retirement, or your other financial goals. Even if you want to invest in bonds, you should consider the merits of different types of bonds, including TIPS, as well as other types of bonds. You can also consider bond funds, or other investments, depending on your goals. And, if you aren’t sure about what you should do, you can consult an investment professional or a knowledgeable financial advisor to help you put together an investment plan.

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