Treasury Inflation-Protected Security (TIPS)
U.S. government bonds whose principal adjusts with the Consumer Price Index, protecting investors from inflation.
What is TIPS?
Treasury Inflation-Protected Securities (TIPS) are U.S. government bonds whose principal value is adjusted semiannually based on changes in the Consumer Price Index for All Urban Consumers (CPI-U). The coupon rate is fixed, but because it is applied to the inflation-adjusted principal, the dollar interest payment rises with inflation. At maturity, investors receive the greater of the inflation-adjusted principal or the original face value—providing protection against deflation as well. TIPS yields represent real (after-inflation) yields, and the difference between nominal Treasury yields and TIPS yields at the same maturity is the break-even inflation rate—the market's forecast for average inflation over that period.
Example
An investor buys $10,000 of 10-year TIPS at a real yield of 2.0%. CPI inflation averages 3.5% per year over the 10-year period. At maturity, the adjusted principal is $10,000 × (1.035)^10 = $14,106. The investor receives $14,106—which, adjusted for inflation, is worth exactly $10,000 in today's purchasing power. The 2.0% real coupon was paid on the growing principal throughout, providing a guaranteed 2% real return.
Source: U.S. Treasury — TIPS