{"id":19050,"date":"2021-08-03T22:47:56","date_gmt":"2021-08-03T22:47:56","guid":{"rendered":"https:\/\/analystprep.com\/study-notes\/?p=19050"},"modified":"2026-01-15T19:48:20","modified_gmt":"2026-01-15T19:48:20","slug":"describe-the-factors-that-affect-yield-spreads-between-non-inflation-adjusted-and-inflation-indexed-bonds","status":"publish","type":"post","link":"https:\/\/analystprep.com\/study-notes\/cfa-level-2\/describe-the-factors-that-affect-yield-spreads-between-non-inflation-adjusted-and-inflation-indexed-bonds\/","title":{"rendered":"Factors Affecting Yield Spreads"},"content":{"rendered":"<script type=\"application\/ld+json\">\r\n{\r\n  \"@context\": \"https:\/\/schema.org\",\r\n  \"@type\": \"QAPage\",\r\n  \"mainEntity\": {\r\n    \"@type\": \"Question\",\r\n    \"name\": \"Which element is least likely to influence the break-even inflation (BEI) rate?\",\r\n    \"text\": \"Which of the following elements is least likely to influence the break-even inflation rate (BEI)? A. Expected inflation. B. The risk premium for inflation uncertainty. C. The risk-free rate.\",\r\n    \"answerCount\": 1,\r\n    \"acceptedAnswer\": {\r\n      \"@type\": \"Answer\",\r\n      \"text\": \"The correct answer is the risk-free rate. The break-even inflation (BEI) rate reflects expected inflation and the inflation risk premium demanded by investors for uncertainty about future inflation. Mathematically, BEI equals expected inflation plus the inflation risk premium. The risk-free rate itself does not directly affect the BEI.\"\r\n    }\r\n  }\r\n}\r\n<\/script>\r\n\r\n\r\n<p><iframe loading=\"lazy\" src=\"\/\/www.youtube.com\/embed\/NFyA0qXHhww\" width=\"611\" height=\"343\" allowfullscreen=\"allowfullscreen\"><\/iframe><\/p>\r\n<p>The current value of a real default-free bond (inflation-adjusted) is given by:<\/p>\r\n<p>$$ P_0=\\sum_{t=1}^{n}\\frac{CF_t}{\\left[1+R\\right]^t} $$<\/p>\r\n<p>For a default-free nominal coupon-paying bond (non-inflation adjusted), we have:<\/p>\r\n<p>$$ P_0=\\sum_{t=1}^{n}\\frac{CF_t}{\\left[1+R+\\theta+\\pi\\right]^t} $$<\/p>\r\n<p>The difference between the yield on non-inflation adjusted (nominal) and inflation-indexed bonds with the same maturity is called the <strong>break-even inflation (BEI) rate<\/strong>. The inflation expectations, \\({\\theta}\\), and the risk premium demanded by investors as compensation for the uncertainty of future inflation, \\({\\pi}\\), determine the break-even inflation rate.<\/p>\r\n<p>Therefore,<\/p>\r\n<p>$$ BEI = \\theta+\\pi $$<\/p>\r\n<blockquote>\r\n<h2>Question<\/h2>\r\n<p>Which of the following elements is <em>least likely<\/em> to influence the break-even inflation rate (BEI)?<\/p>\r\n<ol type=\"A\">\r\n\t<li>Expected inflation<\/li>\r\n\t<li>The risk premium for inflation uncertainty<\/li>\r\n\t<li>The risk-free rate<\/li>\r\n<\/ol>\r\n<h4>Solution<\/h4>\r\n<p><strong>The correct answer is C.<\/strong><\/p>\r\n<p>The break-even inflation (BEI) rate is the difference between the yield on non-inflation adjusted (nominal) and inflation-indexed bonds with the same maturity. The break-even inflation rate stems from inflation expectations \\((\\theta)\\) and the risk premium demanded by investors as compensation for the uncertainty of future inflation \\((\\pi)\\). Mathematically,<\/p>\r\n<p>$$ BEI = \\theta+\\pi $$<\/p>\r\n<\/blockquote>\r\n<p>Reading 43: Economics and Investment Markets<\/p>\r\n<p><em>LOS 43 (e) Describe the factors that affect yield spreads between non-inflation adjusted and inflation-indexed bonds.<\/em><\/p>\r\n","protected":false},"excerpt":{"rendered":"<p>The current value of a real default-free bond (inflation-adjusted) is given by: $$ P_0=\\sum_{t=1}^{n}\\frac{CF_t}{\\left[1+R\\right]^t} $$ For a default-free nominal coupon-paying bond (non-inflation adjusted), we have: $$ P_0=\\sum_{t=1}^{n}\\frac{CF_t}{\\left[1+R+\\theta+\\pi\\right]^t} $$ The difference between the yield on non-inflation adjusted (nominal) and inflation-indexed bonds&#8230;<\/p>\n","protected":false},"author":4,"featured_media":0,"comment_status":"closed","ping_status":"closed","sticky":false,"template":"","format":"standard","meta":{"_acf_changed":false,"footnotes":""},"categories":[102,473],"tags":[216,564],"class_list":["post-19050","post","type-post","status-publish","format-standard","hentry","category-cfa-level-2","category-portfolio-management","tag-cfa-level-2","tag-portfolio-management","blog-post","no-post-thumbnail","animate"],"acf":[],"yoast_head":"<!-- This site is optimized with the Yoast SEO plugin v27.4 - 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