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Treasuries beat inflation 1966-1996 [ClearOnMoney]
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Treasuries beat inflation 1966-1996

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Commentary

Treasuries beat inflation 1966-1996

17 Jan 2011 by Jim Fickett.

A strategy of investing in Treasury bond ladders was successful in beating inflation, for the period 1966-1996, and for each of several maturities. Over the long haul, the maturity chosen made remarkably little difference.

In an earlier post I showed that continuing to roll over 1-year T-bills was a reasonably successful strategy in preserving capital during the high inflation years of 1966 to 1996. (The point was based on a very useful comment from John Hussman. I chose those years somewhat arbitrarily as covering a period when inflation was over 3%.)

I hope to look at some other investments over the same period. Today's post looks at Treasuries of different maturities. The model was to smooth changing yields using a bond ladder. For example, for the 5-year maturity, one's money is always fairly evenly divided among bonds issued in the previous five years. Each year the oldest bond matures and is rolled over into the latest one. For this simulation I've ignored the fact that bonds come in multiples of $1000, and figured returns as if completely arbitrary amounts could be invested in any particular bond. All rollovers were conceptually done with the bonds maturing on 31 December and reinvested on 1 January, with constant maturity interest rates for each January taken from the Federal Reserve's H.15 release.

I was surprised at how little difference it made to move to longer maturities. In the following, the price level is taken as the CPI for all urban consumers, normalized to 100 at January 1966, and the three bond curves show total returns for $100 invested in bond ladders with maturities of 1, 5, and 10 years.

The above graph ignores tax, so would be realistic for returns inside an IRA or 401(k). Of course when the money is taken out, one will pay tax, pulling the final returns down by something like 20%.

In the second graph, the simulation is done for a taxable account, so each year 20% of the interest earned is taken out for the IRS. It is interesting that over the full period, capital is preserved for all maturities, even taking tax into account.

Of course there are several caveats:

  • This is for one particular historical period, and history never repeats exactly
  • 20% is an arbitrary tax rate; individual results will vary
  • The CPI is not a completely realistic measure of the cost of living

Even with all the caveats, these results are encouraging, and suggest that fixed income is not such a bad place to wait out a long period of high inflation. This is particularly so if you can get the timing right, and be in shorter maturities as inflation increases, and longer maturities after it peaks.