Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Register

23 January 2026

Home / Caveat Emptor

Inflation linked bonds

Question from Douglas

Do long dated inflation linked bonds help the investor in a rising interest rate environment?

 

Answer from Elizabeth Moran, Director of Education and Fixed Income Research, FIIG Securities

The simple answer is yes, insofar as the Reserve Bank of Australia (RBA) uses its control of interest rates as its primary mechanism to control inflation, so interest rates should only rise if inflation is rising.

Principal and interest on inflation linked bonds are linked to inflation (as measured by the Consumer Price Index, or CPI), so the value of these assets will increase as inflation rises.

As an example, the Sydney Airport Finance capital index bond maturing in November 2020 is currently yielding a quarterly coupon of CPI plus 4.65%. If CPI averages 2.50% (which is the middle of the RBA target band) over the remaining life of the bond, this bond will yield 7.15%. However, if inflation rises at some stage over the life of the bond, and averages 3.50% over that period, that directly translates into an additional 1% annual return on the bond, increasing the yield to 8.15%.

  •   4 December 2013
  • 2
  •      
  •   
2 Comments
Esther
December 09, 2013

Hi

How do i buy into Sydney Airport Finance capital index bond? are these Bonds registered in ASX??

thanks heaps!

Warren Bird
December 09, 2013

The more complex answer is that it depends on your time frame. Inflation linked bonds, like nominal bonds, fall in price for a while when yields rise. Whatsmore, inflation-linked bonds are longer duration* than nominal bonds of the same final maturity date, so the capital price impact is going to be greater.

Of course, as I harp on about a lot, for an investor in a portfolio of bonds who correctly looks at their investment for a time horizon similar to the duration of the portfolio, this needn't put you off. The rising real yield means that maturing linkers can get reinvested into the market at those higher real yields. A fall in bond prices is never permanent - every inflation linked bond will mature at an inflation-adjusted value of 100.

But if you have a shorter term time horizon than that, then inflation linked bonds might not be suitable for capital preservation. Every investor is different and needs to talk to their planner about their needs.

It's possible for nominal yields to rise while the real yield on an indexed bond to remain unchanged. That happens when the market simply pushes up bond yields because of higher inflation expectations. That's a great outcome for holders of inflation linked bonds as they get a lift in the nominal value of their assets and their interest payments due to the higher inflation. But it's rare and usually you get some increase in the real yield as well when nominal yields rise.

In the current climate the big fear that many people have is that real yields will return to 'normal' (whatever that is these days!) In which case, most of any increase in market yields is likely to be almost fully reflected in real yields. This has already happened to some extent over the past year or so as bond yields have risen from their very, very low levels of mid-2012. Inflation linked bonds have pretty much fully reflected this increase, and the longer duration means that their total return has been well below that of nominal bonds.

I don't want any of that to put people off buying inflation-linked bonds, because they are a suitable investment for many long term portfolios. But please do understand that there's more to them than just 'inflation up, bond value and interest up', so that you aren't surprised or disappointed at the short term fluctuations.

There are a few brokers around, like Curve Securities or FIIG, who can source Sydney Airport inflation linked bonds, and other fixed interest assets for clients who have 'wholesale' amounts of money to invest.


* see my Cuffelinks article http://cuffelinks.com.au/term-deposit-investors-did-not-understand-the-risk/ for an explanation of duration risk. It's not as scary as many think!

 

Leave a Comment:

RELATED ARTICLES

Bonds have a role in managing inflation risks

Australia joins the PIIGS

5 charts every retiree must see…

Firstlinks is sponsored by:
banner

Most viewed in recent weeks

Australian stocks will crush housing over the next decade, 2025 edition

Two years ago, I wrote an article suggesting that the odds favoured ASX shares easily outperforming residential property over the next decade. Here’s an update on where things stand today.

Building a lazy ETF portfolio in 2026

What are the best ways to build a simple portfolio from scratch? I’ve addressed this issue before but think it’s worth revisiting given markets and the world have since changed, throwing up new challenges and things to consider.

Get set for a bumpy 2026

At this time last year, I forecast that 2025 would likely be a positive year given strong economic prospects and disinflation. The outlook for this year is less clear cut and here is what investors should do.

Meg on SMSFs: First glimpse of revised Division 296 tax

Treasury has released draft legislation for a new version of the controversial $3 million super tax. It's a significant improvement on the original proposal but there are some stings in the tail.

Property versus shares - a practical guide for investors

I’ve been comparing property and shares for decades and while both have their place, the differences are stark. When tax, costs, and liquidity are weighed, property looks less compelling than its reputation suggests.

10 fearless forecasts for 2026

The predictions include dividends will outstrip growth as a source of Australian equity returns, US market performance will be underwhelming, while US government bonds will beat gold.

Latest Updates

Economy

Ray Dalio on 2025’s real story, Trump, and what’s next

The renowned investor says 2025’s real story wasn’t AI or US stocks but the shift away from American assets and a collapse in the value of money. And he outlines how to best position portfolios for what’s ahead.

Superannuation

No, Division 296 does not tax franking credits twice

Claims that Division 296 double-taxes franking credits misunderstand imputation: franking credits are SMSF income, not company tax, and ensure earnings are taxed once at the correct rate.

Investment strategies

Who will get left holding the banks?

For the first time in decades, the Big 4 banks have real competition in home loans. Macquarie is quickly gain market share, which threatens both the earnings and dividends of the major banks in the years ahead.

Investment strategies

AI economic scenarios: revolutionary growth, or recessionary bubble?

Investor focus is turning increasingly to AI-related risks: is it a bubble about to burst, tipping the US into recession? Or is it the onset of a third industrial revolution? And what would either scenario mean for markets?

Investment strategies

The long-term case for compounders

Cyclical stocks surge in upswings but falter in downturns. Compounders - reliable, scalable, resilient businesses - offer smoother, superior returns over the full investment cycle for patient investors.

Property

AREITs are not as passive as you may think

A-REITs are often viewed as passive rental vehicles, but today’s index tells a different story. Development and funds management now dominate earnings, materially increasing volatility and risk for the sector.

Australia’s quiet dairy boom — and the investment opportunity

Dairy farming offers real asset exposure, steady income and long-term growth, yet remains overlooked by investors seeking diversification beyond traditional asset classes.

Sponsors

Alliances

Site Map

About Firstlinks

© 2026 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. To the extent any content is general advice, it has been prepared for clients of Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), without reference to your financial objectives, situation or needs. For more information refer to our Financial Services Guide. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.