What are index-linked gilts?
Index-linked gilts are bonds issued by the UK government through the Debt Management Office (DMO) where both the periodic coupon payments and the final principal repayment are adjusted for inflation. Unlike a conventional gilt, which pays a fixed nominal coupon and returns a fixed principal at maturity, an index-linked gilt adjusts these amounts upward with rising prices, preserving the real value of the investment. They are also called 'inflation-linked bonds' or simply 'linkers'.
The UK was the first country to issue modern index-linked bonds, with the inaugural gilt issued in 1981. It was initially restricted to pension funds and institutional investors. Today, UK linkers are held by pension schemes, insurance companies and individual investors seeking inflation protection within bonds portfolios. The UK has the highest proportion of index-linked debt among major economies, with approximately £620 billion outstanding across 33 issued gilts. Source: interactive investor citing CG Asset Management.
How do index-linked gilts work?
The indexation mechanism adjusts the coupon and principal by the change in the Retail Prices Index (RPI) from the gilt's base date. Here is a simplified example:
Example: 1.25% Index-Linked Gilt 2032
Face value at issue: £100. Coupon rate: 1.25% semi-annually.
If RPI rises 5% in the first year: adjusted face value = £105.
Next coupon payment = (1.25%/2) x £105 = £0.656 (rather than £0.625 without indexation).
At maturity in 2032: the principal repaid is the original £100 adjusted for total RPI inflation since issue.
Source: JM Finn (UK gilt broker). The indexation lag matters: gilts issued before 2005 use an eight-month indexation lag (today's coupon reflects RPI from eight months ago); those issued since 2005 use a three-month lag. This creates a small discrepancy between current inflation and the inflation actually feeding into coupon adjustments.
Real yield vs nominal yield: the key distinction
A conventional gilt has a nominal yield: the percentage return in cash terms before adjusting for inflation. A linker has a real yield: the return above inflation. The relationship is approximately:
Real yield = Nominal yield - Inflation (Fisher equation, approximate)
Breakeven inflation rate = Nominal yield - Real yield
As of September 2026, the 10-year nominal gilt yield was approximately 5.4% and the equivalent index-linked gilt (TG36) yielded approximately 1.9% real, implying a breakeven inflation rate of approximately 3.5%. This means that if RPI inflation averages above 3.5% over the relevant period, the linker outperforms the conventional gilt in real purchasing power terms; below that level, the conventional gilt wins.
Real yields can be negative: during 2010-2022, UK 10-year real yields fell as low as -3%, meaning buyers were accepting a guaranteed loss in real terms in exchange for inflation protection and the safety of UK government credit. The sharp rise in real yields from 2022, as central banks raised rates, caused catastrophic losses for long-dated linker holders.
The 2022 LDI crisis: duration risk in practice
The most dramatic illustration of index-linked gilt risk in recent UK financial history came in September-October 2022. Following the Liz Truss government's mini-budget on 23 September 2022, gilt yields spiked sharply. Long-dated index-linked gilt yields rose from approximately -1% to +0.5% real within days, a move that destroyed the hedging strategies of many defined benefit pension schemes running liability-driven investment (LDI) portfolios.
LDI strategies typically use large leveraged positions in long-dated index-linked gilts to match the inflation-linked liabilities of pension schemes. When yields rose sharply, these positions lost value rapidly; pension schemes were forced to sell gilts to meet margin calls, which pushed yields higher still, creating a doom loop. The Bank of England intervened with an emergency gilt purchase programme to restore market stability. The episode demonstrated that index-linked gilts carry interest rate risk that can overwhelm their inflation protection in the short to medium term, particularly at long maturities and high leverage. Source: globalinvestments.net.
This context matters for any investor considering bond trading or government bond exposure. Long-dated linkers have the highest duration and therefore the greatest sensitivity to changes in real interest rates. A 1% rise in real yields can cause a 30%+ loss on a long-dated linker, regardless of whatever inflation protection it notionally provides.
Index-linked gilts vs conventional gilts vs cash ISA
Feature | Index-linked gilt | Conventional gilt | Cash savings (ISA) |
Return type | Real yield + RPI (government guaranteed) | Fixed nominal yield | Variable nominal rate (not guaranteed) |
Inflation protection | Yes (RPI-linked) | No (nominal return eroded by inflation) | Partial if rate tracks inflation |
Duration risk | High for long-dated gilts; 30%+ loss possible on 1% rate rise |
How to invest in index-linked gilts
Direct gilt purchase
Index-linked gilts can be purchased directly through our share dealing account or stocks and shares ISA. Gilts held within an ISA are exempt from income tax on coupon income and from CGT on any capital gain (though gilts purchased at a premium may crystallise a loss at redemption within the ISA wrapper). Individual gilts have ISIN codes and trade like shares on the secondary market through a broker.
Index-linked gilt ETFs
For investors who want diversified exposure across the linker curve rather than a single gilt, ETFs provide a practical route. The iShares Core UK Gilts UCITS ETF (IGLT) and the Lyxor UK Government Inflation-Linked Bond UCITS ETF offer varying exposures. These are ISA-eligible ETFs available through our share dealing account. Note that a gilt ETF will always have mark-to-market duration risk, as it continuously holds gilts at prevailing market prices rather than holding to maturity.
Gilt CFDs and spread bets
For traders wanting leveraged exposure to gilt price movements (for example, to profit from expected changes in real yields), we offer gilt CFDs
Index-linked gilt FAQs
What are index-linked gilts?
Index-linked gilts (linkers) are UK government bonds where both coupon payments and the principal repayment are adjusted in line with the Retail Prices Index (RPI). They are the only sterling asset that provides a government-backed guarantee of a real (above-inflation) return when held to maturity.
Are index-linked gilts safe?
Index-linked gilts carry UK government credit risk, which for sterling investors is effectively zero. However, they carry substantial duration risk: long-dated linkers can lose 30% or more of their market value when real interest rates rise. They are not 'safe' in the sense of being immune from mark-to-market losses. The 2022 LDI crisis demonstrated this risk in practice.
Are gains on index-linked gilts taxable?
Gains on gilt redemption are exempt from capital gains tax under section 115 of the Taxation of Chargeable Gains Act 1992. Coupon income is subject to income tax outside an ISA. Gilts held within a stocks and shares ISA are exempt from both income tax and CGT. This CGT exemption makes direct gilt holding through a share dealing account more efficient than some equity investments for higher-rate taxpayers.
What is the 2030 RPI reform?
From 2030, the RPI measure used for indexing gilts will be aligned with CPIH (Consumer Prices Index including owner occupier housing costs), which historically runs 0.5-1% lower than RPI. This reduces the inflation protection that long-dated linkers (maturing after 2030) provide in practice. The reform affects only the indexation basis, not the coupon rate. Source: gilt-edge.uk (June 2026).
