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Investing Specialists

How Much Should Retirees Stake in TIPS?

Add inflation protection to your portfolio, sensibly.

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Retirees and pre-retirees have been challenged by the investing environment during the past several years, to put it mildly. In addition to contending with the epic bear market from 2007 through early 2009, many retirees are finding that it's next to impossible to generate a livable income stream from their portfolios given ultralow bond yields. To cover their day-to-day expenses, retirees are having to choose between tapping their principal or venturing into higher-yielding, but also riskier, securities such as high-yield and emerging-markets bonds. Others, meanwhile, are concerned about what could happen to their bond portfolios if interest rates were to jump up.

And while inflation currently appears to be in line with historical norms, retirees are also rightfully worried about the potential for rising inflation to gobble up their portfolios' future purchasing power. I usually recommend inflation-linked securities like Treasury Inflation-Protected Securities as the most direct way to hedge against inflation. But even investors who are convinced that TIPS are a good place to be long term still have questions about implementation. How much of a retiree's fixed-income portfolio should go toward TIPS or other inflation-linked bonds? And what about timing? If you buy TIPS at an inflated level (pardon the pun) and the bonds' prices sink shortly thereafter, do you erode any long-term benefit you hoped to gain from them?

Christine Benz does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.