All about bonds
for the same reason, whereas conventional Gilts redeem at par (100)
The advantage is that the holder is protected against inflation in a way that holders of traditional bonds are not. However this index linking only fully works if the bond is held to maturity. All bonds fluctuate between issue and maturity and index linked bonds are no exception.top
The holders of index linked Gilts receive coupons, which are linked to the Retail Prices Index. If inflation rises then so does the nominal value of the coupon in order to compensate the investor for the erosion of the value of money caused by rising retail prices. The redemption value of the bond is also linked to the RPI.
The longer dated index bonds require a very large move in the price to deliver a significant change in the real yield. For example, to change the yield on Treasury 2.5% 2024 by 1% requires a move in the market price by approximately 24 points. Although this particular bond has a theoretical duration of 19, implying a very volatile bond, this is extremely misleading, as the real yield is much more stable than nominal yields on conventional Gilts.
Coupons are subject to income tax for tax-paying investors. Any capital Gain (inflation uplift) used to be tax-free to all investors but this has now been amended to an indexation tax whereby the gain due to inflation is tax-free. Any gains over and above the rate of inflation are now taxed.top