Bond Market's Inflation Expectations Called Delusional as TIPS Auction Reveals 2.4% CPI Forecast

On Thursday, the US government issued $19 billion in 10-year Treasury Inflation Protected Securities (TIPS) with a yield of 2.169%. By Friday, the yield for these 10-year TIPS in secondary market trading settled at 2.16%. The bond market's inflation outlook, indicated by the disparity between the 10-year Treasury yield (4.56%) and the TIPS yield (2.16%), suggests an average annual CPI of 2.40% over the next decade. Wolf Richter contends this figure is significantly underestimated, referencing past inaccuracies: in May 2016, a 1.8% CPI was anticipated, yet actual inflation averaged 3.2% over the next decade. Similarly, a May 2021 forecast of 2.4% was followed by a 4.5% average CPI in the first five years. The TIPS market, valued at $2.1 trillion, is limited and illiquid, rendering it vulnerable to Federal Reserve influence during quantitative easing (QE), which drove TIPS yields negative and distorted inflation expectations. The Fed's TIPS acquisitions during QE manipulated the metrics justifying ongoing QE and zero interest rates, even amidst soaring inflation in 2021. With quantitative tightening (QT) now concluded, Richter believes the bond market's misconceptions are unjustifiable. TIPS also face tax drawbacks, as annual inflation protection is taxed as income, despite being payable only at maturity, contributing to their unpopularity. Furthermore, selling TIPS quickly may result in losses due to low liquidity.