What is an 'IndexLinked Bond'
An indexlinked bond is a bond in which payment of interest income on the principal is related to a specific price index, usually 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.
An indexlinked bond is also known as a real return bond in Canada, Treasury InflationProtected Securities (TIPS) in the US, and a linker in the UK.
BREAKING DOWN 'IndexLinked Bond'
A bond investor holds a bond with a fixed level of interest rate. The interest payments, known as coupons, are usually paid semiannually and represent the bondholder’s return on investing in the bond. However, as time goes by, inflation also increases, thereby, eroding the value of the investor’s annual return. This is unlike returns on equity and property, in which dividend and rental income increases with inflation. To mitigate the impact of inflation, indexlinked bonds are issued by the government.
An indexlinked bond is a bond which has its coupon payments adjusted for inflation by linking the payments to some inflation indicator, such as the Consumer Price Index (CPI) or the Retail Price Index (RPI). These interestbearing investments typically pay the investors a real yield plus accrued inflation, providing a hedge against inflation. The yield, payment, and principal amount are calculated in real terms, not nominal numbers. One can think of the CPI as the exchange rate that converts the return on a bond investment to real return.
For example, consider two investors – one purchases a regular bond and another buys an indexlinked bond. Both bonds are issued and purchased for $100 in November 2017, and have the same terms – 4% coupon rate, 1 year to maturity, and $100 face value. The CPI level at the time of issuance is 204.
The regular bond pays annual interest of 4% x $100 = $4, and the principal amount of $100 is repaid at maturity. At maturity, the principal and the interest payment due, that is, $100 + $4 = $104, will be credited to the bondholder.
Assuming the CPI level in November 2018 is 207, the interest and principal value must be adjusted for inflation with the indexlinked bond. Coupon payments are calculated using an inflationadjusted principal amount, and an indexation factor is used to determine the inflation adjusted principal amount. For a given date, the indexation factor is defined as the CPI value for the given date divided by the CPI at the original issue date of the bond. The indexation factor in our example is 207/204 = 1.0147. Therefore, the inflation rate is 1.47%, and the bondholder will receive $104 x 1.0147 = $105.53 when it matures.
The annual interest rate on the bond is [($105.53  $100.00)/$100.00] x 100% = 5.53%. The investor’s approximate real return rate can be calculated as 5.53% nominal rate – 1.47% inflation rate = 4.06%.
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 help investors to maintain their purchasing power.

Straight Bond
A straight bond is a bond that pays interest at regular intervals, ... 
Bond Yield
Bond yield is the amount of return an investor will realize on ... 
Bond Discount
Bond discount is the amount by which the market price of a bond ... 
Discount Bond
A discount bond is a bond that is issued for less than its par ... 
Dollar Bond
A dollar bond is a U.S. denominated bond that trades outside ... 
FixedIncome Security
A fixed income security is an investment that provides a return ...

Investing
How To Choose The Right Bond For You
Bond investing is a stable and lowrisk way to diversify a portfolio. However, knowing which types of bonds are right for you is not always easy. 
Investing
Corporate Bonds for Retirement Accounts
Corporate bonds are usually the preferred choice in retirement accounts. Here are some of the benefits of corporate bonds, and strategies for a portfolio. 
Investing
Corporate Bond Basics: Learn to Invest
Understand the basics of corporate bonds to increase your chances of positive returns. 
Investing
Key Strategies To Avoid Negative Bond Returns
It is difficult to make money in bonds in a rising rate environment, but there are ways to avoid losses. 
Investing
How Interest Rates Impact Bond Values
The relationship between interest rates and bond prices can seem complicated. Here's how it works. 
Investing
5 Fixed Income Plays After the Fed Rate Increase
Learn about various ways that you can adjust a fixed income investment portfolio to mitigate the potential negative effect of rising interest rates. 
Financial Advisor
Calculate PV of different bond type with Excel
To determine the value of a bond today — for a fixed principal (par value) to be repaid in the future — we can use an Excel spreadsheet. 
Investing
Find the Right Bond at the Right Time
Learn about the types of bonds you should consider investing in, when you should be buying them and how to compare yields against their time to maturity.

What are the risks of investing in a bond?
Are you thinking of investing in bond market? Learn more about bond market investment risk, including interest rate risk, ... Read Answer >> 
How a bond's face value differs from its price
Discover how bonds are traded as investment securities and understand the various terms used in bond trading, including par ... Read Answer >>