Reflation Diehards Are Dialing Up $1.1 Billion Bet on TIPS ETF

(Bloomberg) -- Exchange-traded fund investors are adding to bets that the long-awaited uptick in U.S. inflation is on its way.

Roughly $1.1 billion has been funneled over the past six days into BlackRock Inc.’s $25.7 billion iShares TIPS ETF (ticker TIP), which tracks inflation-linked U.S. Treasuries, according to data compiled by Bloomberg. That’s the strongest streak over such a span since early March, before the coronavirus upended financial markets and forced global lockdowns, crushing inflation expectations.

Momentum is building behind the reflation trade as Covid-19 vaccines start to be administered and U.S. lawmakers debate another round of fiscal aid. A resurgence in global growth in 2021, along with the Federal Reserve’s increased tolerance for inflation, should fuel price pressures and favor securities that protect against cost-of-living increases, according to Mizuho International Plc’s Peter Chatwell.

“The U.S. inflation view is still dramatically underpriced,” said Chatwell, Mizuho’s head of multi-asset strategy. “I would expect to see much more inflows into TIP and other similar ETFs in the coming few months. I think the market in the second quarter will be particularly interested in inflation protection.”

A flurry of vaccine breakthroughs have buoyed five-year breakeven rates -- a proxy for inflation expectations measured by the yield difference in linkers and regular Treasuries -- to the highest level since March 2019. Meanwhile, the spread between two- and 10-year Treasury yields touched the steepest level in three years last week, a bet on a healthy economy and higher interest rates to come.

It remains to be seen whether inflation takes root and if markets are setting up for another false dawn, inflation has failed to consistently hit the Fed’s 2% target. Though forecasters surveyed by Bloomberg generally anticipate the U.S. CPI will rise above 2% in the second quarter of next year, it’s expected to settle back at or slightly below that level in subsequent months. And there are questions about how sustainable any rise in price pressures can be given the slack in the U.S. labor market.

Still, there’s money to be made while waiting to find out. TIP has returned 5.2% over the past six months, more than eight times what investors got holding the $18.7 billion iShares 20+ Year Treasury Bond ETF (ticker TLT) -- which tracks long-dated Treasuries.

“With better growth comes increased inflation expectations so that’s actually a rational move if you believe in better growth next year,” said Alicia Levine, chief strategist at BNY Mellon Investment Management. “You could have many people vaccinated by the end of March -- there’s your inflation scenario.”

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