NEW YORK ( TheStreet) -- When Treasury Inflation-Protected Securities, or TIPS, first appeared in 1997, they were hailed as powerful solutions for retirement savers.Because TIPS can prevent portfolios from being eroded by inflation, some academic researchers argued that all long-term investors should hold the securities. But in recent years it has become clear that inflation securities can be quirky. During the market turmoil of 2008, TIPS suffered sizable losses and lagged well behind inflation. Lately TIPS have climbed. Should you hold TIPS in your retirement account? That depends on your age and temperament. For rough guidance, long-term savers should consider the approaches taken by portfolio managers of three of the biggest providers of target-date funds: Fidelity Investments, T. Rowe Price ( TROW), and Vanguard Group. The managers at all agree that TIPS should play a role in portfolios of retirees and those who are approaching retirement. For younger people, inflation securities may not be the best choice. Target-date funds are designed for people who will retire around a certain year such as 2020 or 2040. The asset allocations of the portfolios shift gradually, becoming more conservative as investors approach retirement dates. Some 2040 funds start with 80% of their assets in stocks and the rest in fixed income. By the retirement date, the equity holdings decline to less than 50%. In its funds aimed at young people, Fidelity emphasizes big stock allocations. Fidelity Freedom 2040 ( FFFFX) has 71% of assets in stocks and no TIPS. The company introduces TIPS as the retirement date approaches. Fidelity Freedom 2030 ( FFFEX) has 2.1% in inflation securities. The figure rises to 10.4% in the 2015 portfolio and 10.9% in the 2010 fund. In its 2015 portfolio, Vanguard allocates 3.5% of assets to inflation securities. The figure climbs to 12% in the 2010 fund. John Ameriks, head of Vanguard's counseling and research group, says investors of all ages should guard against inflation. But younger people can get protection by holding stocks and bonds. "Over long periods, we expect that the returns of stocks and bonds will be greater than inflation," says Ameriks. While stocks should outdo TIPS over the long term, there could be temporary periods when equities lag inflation badly. Since retirees may not have time to recover from even brief setbacks, they need to hold TIPS, Ameriks argues.
For younger investors in its target-date funds, T. Rowe Price seeks to provide some inflation protection by including a small dose of T. Rowe Price Real Assets ( PRAFX), which holds stocks in energy, real estate, and gold. Those industries tend to rise when inflation flares. T. Rowe Price Retirement 2040 ( TRRDX) has 3.7% of its portfolio in the real assets fund. As the retirement date approaches, the managers phase out the real assets fund and begin introducing inflation-protected securities. The 2010 fund has 2.1% in real assets and 11.8% in inflation securities. Very cautious retirees may prefer T. Rowe Price Retirement Income ( TRRIX), which has a fairly static allocation that includes 1.6% in real assets and 29.4% in inflation securities. If you decide to buy TIPS, keep in mind the securities provide returns in two ways. Like other bonds, the inflation securities pay fixed yields. In addition, the principal of the securities rises along with the consumer price index. Say you put $10,000 in TIPS, and inflation rises by 2%. At the end of the first year, your principal would be $10,020. Lately TIPS have rallied sharply as nervous investors worried that the flood of money coming from the Federal Reserve could unleash inflation. With prices rising, yields have collapsed. The five-year TIPS now has a yield of -1.23%. So if inflation is flat, the investor would lose principal. If the CPI rises 1.5%, you would about break even. "It is hard for me to pound the table and say that TIPS are a screaming buy," says Dan Shackelford, a T. Rowe Price portfolio manager. But even if TIPS don't produce any short-term windfalls, they make sound long-term holdings, argues Shackelford. Eventually inflation could rise and erode the purchasing power of retirees. Savers can guard against that risk by taking a stake in TIPS. This article is commentary by an independent contributor, separate from TheStreet's regular news coverage. Stan Luxenberg is a freelance writer specializing in mutual funds and investing. He was executive editor of Individual Investor magazine.