The TIPS–Treasury Bond Puzzle
2012
We show that the price of a Treasury bond and an inflation-swapped TIPS issue exactly replicating the cash flows of the Treasury bond can differ by more than \$20 per \$100 notional. Treasury bonds are almost always overvalued relative to TIPS. Total TIPS– Treasury mispricing has exceeded \$56 billion, representing nearly 8\% of the total amount of TIPS outstanding. We find direct evidence that the mispricing narrows as additional capital flows into the markets. This provides strong support for the slow-moving-capital explanation of the persistence of arbitrage.
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