Opinions Larry Berman CFA, CMT, CTA
BMO REAL RETURN BOND INDEX ETFZRR.TOCOMMENTDec 06, 2021
Larry Berman CFA, CMT, CTAStock price when the opinion was issued
As of May 29, 2026. Market Open.
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He's assuming the question refers to the equity, not bond, market correcting. The answer is that it depends. When a real return bond is issued, it's issued at a coupon that's the prevailing rate of interest in the marketplace plus the expected rate of inflation.
As future payments are made, what's realized by the bond is the current rate of interest plus what the inflation rate is at the time. So you're getting an adjustment to the distribution on one of these securities.
So the question becomes what's already priced into the current price regarding future rates of inflation? If the stock market's correcting because the economy is getting hit hard, then it's typically because inflation is going down not up. So your coupon payment will fall, which doesn't make ZRR a good hedge.
Where real return bonds work is when inflation's really low, future inflation is expected to increase, and you don't want to use nominal bonds (which perform badly when inflation is rising). The final answer is don't use real return bonds to hedge equity risk in your portfolio; use nominal bonds instead.
He never recommends that individual investors play real return bonds at all. Very challenged asset class. Buy at the wrong time, and you could have a really bad outcome. If inflation expectations are fully anticipated, this will give you a bad return. If inflation is underestimated, then this would be a good holding. So you have to have the ability to do that analysis, and it's not a skill set that most people would have.
Real return bonds are often misunderstood. They offer inflation protection, because they offer both an inflation and interest rate component (tracking both). So, if inflation ticks higher, these go higher. However, they underperform during low inflation. There's much talk of Trump's tariffs being inflationary, but part of his plank is deflationary. If you predict the former, you want some of ZRR.
Real return bonds are challenging to the average investor. The distribution of these is low, plus the inflation rate. This asset class sometime anticipates inflation and prices it in, and if not, there's big downside risk. Take advantage if it underestimates inflation. Is also serious interest rate risk.
Designed to protect from the ravages of inflation. The real return rate itself is highly variable, now they're under 2%, and they were negative a couple of years ago. Long duration, low coupon, nominal yields, risky. A messy security. Worst performers in the bond market last 3 years, by far.
It's been a tricky year, but part of your bond portfolio that you really want in there. Longer term, these ones give you a coupon rate along with whatever the CPI is. Accounting is a bit funny, so owning them through an ETF and in a registered plan makes sense. Tax calculation tricky outside a registered plan.
Adds protection during inflationary shocks. Nice complement to your bond portfolio, just an allocated piece of it.
If you want inflation protection and bonds. They take the CPI and add a spread. It's about inflation expectations. So if they're robust, they're already reflected in the bond price, then you won't see a big pop in the ETF price. Conversely, if they're underpriced, this ETF can perform. Real return bonds have struggled. Own this in a registered account to avoid tax headaches. You should own real return as well as nominal bonds. But don't go all-in in real return bonds.
Mike Philbrick
