Inflation-protected bonds still lose when real yields rise

Buyers of inflation-protected bonds often think they have bought safety from inflation. They have, partly. They have also bought duration, and when real yields rise, those bonds fall in price just as ordinary bonds do.

Protection with a catch

The inflation adjustment protects the principal against rising prices. It does nothing about rising real yields, which move with policy and with the supply of bonds. A period of rising real yields can wipe out years of inflation compensation.

That catches investors who bought the bonds as a hedge rather than as a rates position.

What I'm watching

• Real yields and their direction
• Duration of the inflation-protected market
• Supply of inflation-protected bonds at upcoming auctions

Where I stand

Short, on real yields that I think have further to rise. The inflation protection is real; it is not protection against this.

What would change my mind

Real yields falling as growth slows. At that point the duration works in the bonds' favour and the protection comes with a bonus.