TIPS do provide great inflation protection, but the yield on some of them actually went negative yesterday due to the current deflationary fears. Again, I would rather have cash.

I do think that there is a place for bonds in every portfolio, but for safety, simplicity and liquidity, you just can’t beat cash. Thanks for stopping by!

2. “If deflation is the order of the day, cash is the place to be.” Treasuries aren’t significantly different. Obviously they can fluctuate in value, but that is true compared to cash in all environments – it’s not something that comes about because of deflation anymore than because of inflation. Owning high-quality, fixed-rate debt during deflationary periods is great. The slowdown doesn’t hurt it because it’s high-quality, and the fixed rate is effectively increased by the deflation.

3. “Economic slowdowns and volatility can lead investors to reduce risk by selling other asset classes, thereby driving their prices down significantly. Cash doesn’t usually experience these big swings.” Ditto for high-quality, short-term debt. In fact it will often get driven up under these circumstances. Check out the Vanguard Treasury funds during the recent slowdown and volatility.

4. “If you don’t hold a decent amount of cash, you won’t be ready to buy when other asset classes get hit.” Unless you were holding high-quality debt, which wouldn’t get hit with those other asset classes, as above.

At a macro level it is obvious why this would be the case. If you are holding short-term, nominal Treasuries you are earning just a bit of return but your principle is going to behave nearly identically to cash. You’ll still be liquid because it’s not going to vary much from the equivalent cash position. If you are holding long-term, nominal Treasuries then you win when reality holds more deflation than they were priced for, and lose if it holds more inflation. If you are holding TIPS then your *real* returns will mimic the stability of the short-term nominals (low but steady real return), thought you may experience significant value fluctuations between purchase and maturity.

Any of those choices might make more sense based on the investor’s situation, but short-term, nominal Treasuries are going to have a small return in virtually every environment, including deflation. Unless you can match that return in CD’s, the bonds are preferable.

Thanks for your comment!