Index-Linked Bond


DEFINITION of 'Index-Linked Bond'

A bond in which payment of income on the principal is related to a specific price index - often the Consumer Price Index. This feature provides protection to investors by shielding them from changes in the underlying index. The bond's cash flows are adjusted to ensure that the holder of the bond receives a known real rate of return.

In Canada, they also referred to as "real return bonds."

BREAKING DOWN 'Index-Linked Bond'

This type of bond is valuable to investors because the real value of the bond is known from purchase and the risk involved with uncertainty is eliminated. These bonds are also less volatile than nominal bonds and they help investors to maintain their purchasing power. For example, assume that you purchase a regular bond with a nominal return of 4%. If inflation is 3%, you will actually only receive 1% in real terms. On the other hand, if you buy an index-linked bond your cash flow will be adjusted to changes in inflation and you will still receive the full 4% in returns.

  1. Purchasing Power

    The value of a currency expressed in terms of the amount of goods ...
  2. Inflation

    The rate at which the general level of prices for goods and services ...
  3. Cash Flow

    The net amount of cash and cash-equivalents moving into and out ...
  4. Bond

    A debt investment in which an investor loans money to an entity ...
  5. Consumer Price Index - CPI

    A measure that examines the weighted average of prices of a basket ...
  6. Volatility

    1. A statistical measure of the dispersion of returns for a given ...
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