TIPS question

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manet_5

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R26 Asset Allocation P.243 Exhibit5 says
Coupon is unprotected for deflation ,while protected for inflation.
Principal is partialy protected for deflation ,while protected for inflation.
Why is it unprotected by deflation ??
Thanks in advance.
 
With TIPS, the principal is adjusted to the CPI while the coupon rate is constant.
The coupon rate is constant, but generates a different amount of interest when multiplied by the CPI adjusted principal - protecting the holder against inflation.
With deflation, the coupon rate is constant but will generate a lower amount of interest when multipled by the adjusted principal - thus not protecting the holder against deflation. When TIPS mature, you are paid the adjusted principal or original principal, whichever is greater. So, principal is partially protected from deflation.
Hope this helps.
 
Thanks thommo77 !!!
One mone thing, sorry for my poor understanding,
Coupon itself is protected for deflation?
I think constant coupon rate increases its purchasing power in deflationary environment.
Please correct my understanding…
 
Coupon = principal * rate. If principal is adjusted for Inflation/Deflation payment lowers with Deflation (so compared to nominal Bonds there is no protection and no increasing pp). There is kind of Deflation Protection via the principal: you effectively own a floor at 100 because this is the Minimum amount which will Be paid back at maturity. One Year ago - when the US was on the brink for Deflation - there was a heavy Impact on pricing with These floors: newly issued (on the Run issues) with principal trading closed to 100 and Short maturity (say2years) had extremely valueable floors because of the priced in Deflation, while dated issues with remaining Life also closed to 2 Years (they had already accumulated a lot Inflation Adj. - principal far more than 100) had floors with nearly Zero value.
 
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