What you actually hold
A conventional gilt pays coupons and a final principal that are fixed in pounds. Inflation is your problem. If prices rise and the pound in your pocket buys less, the bond does not apologise. Its attraction, when it has one, is the nominal yield you locked in and the credit of the state.
An index-linked gilt — a “linker”, in market slang — scales those payments by an index ratio. The ratio compares a relevant RPI reading with a base RPI fixed when the bond was issued. Coupons are typically paid twice a year. If you hold a linker to redemption, and the UK government pays, you receive a stream that has been uplifted with that lagged RPI, on top of whatever real coupon the bond was born with. Many linkers were issued with a very small real coupon. Some of the appeal, in those cases, sits in the inflation uplift rather than in a fat cash coupon.
You can sell before redemption. The buyer does not pay you “par plus inflation” as a kindness. The buyer pays a market price. That price is the present value of the remaining real cash flows, discounted at the real yield investors demand that day, and then scaled by the index ratio. When real yields rise, the present value falls. The inflation uplift does not cancel that arithmetic for someone who has to leave early.
The lag is part of the contract
RPI is not known on the morning it happens. It is compiled and published later. Linkers therefore use a lagged index. Older UK index-linked gilts commonly use an eight-month lag. Linkers issued under the later convention commonly use a three-month lag. Two bonds can both say “index-linked” and still follow different calendars.
The practical consequence is simple. A sudden jump in prices does not appear in the very next coupon in full. A sudden fall does not disappear from it overnight either. If you need a payoff that matches next month’s energy bill, a linker is the wrong shape of tool. The Debt Management Office prospectus for the specific gilt is the document that settles the rule. Do not inherit the lag from a headline, a fund factsheet summary, or this essay.
Breakeven inflation is a market price
Subtract a linker’s real yield from the yield on a conventional gilt of similar maturity and you get a rough “breakeven” inflation rate. It is the inflation path, on the linker’s index, that would leave a hold-to-maturity investor roughly indifferent between the two, before tax and before a long list of caveats.
The caveats matter. The two bonds may not match in maturity or coupon. Conventional gilts and linkers can attract different buyers, so the gap includes a premium for uncertainty and for who is under pressure to own which one. Linkers reference RPI, while the Bank of England targets CPI. RPI has historically run above CPI. A breakeven is not a forecast you are obliged to believe, and it is not the Office for National Statistics. It is a price.
What 2022 did to the story
UK CPI reached 11.1% in the twelve months to October 2022, on the Office for National Statistics release. Inflation was not subtle. Anyone who had been told that “linkers hedge inflation” could be forgiven for expecting a calm experience.
Prices of long-dated index-linked gilts fell very sharply that year, in places by several tens of percent, because real yields rose. The episode became tangled with liability-driven investment and with forced selling. You do not need the institutional drama to keep the household lesson: the inflation uplift and the bond’s market price are not the same number. A person who held to maturity was on a different journey from a person, or a fund, that had to sell into the fall.
This is why we refuse the sentence “linkers failed”. The contract did what contracts of that type do. The label “inflation hedge”, used as if it meant “the price goes up when the supermarket does”, failed. Words were doing too much work.
| Question | Nominal gilt | Index-linked gilt | Cash deposit |
|---|---|---|---|
| What is promised if you stay the course | Fixed pounds, coupons and principal | Pounds scaled with lagged RPI, plus the real coupon | Pounds plus whatever interest rate the account states, for as long as that rate lasts |
| Shop-price risk | You bear it | Reduced against RPI, not erased, and not identical to CPI | You bear it. The balance can look stable while the basket moves |
| If you leave early | Price moves with nominal yields | Price moves with real yields, then scaled by the index ratio | Usually the balance, subject to the account terms, notice, and any compensation limit |
| A stress people still remember | Prices fell as nominal yields rose | Prices fell as real yields rose, even while RPI was high | The pounds stayed. Their buying power did not |
This table is a reading aid. It is not a ranking, a forecast, or a suggestion to prefer one column.
The index itself is due to change
The Retail Prices Index has well-documented weaknesses. The UK Statistics Authority’s position, confirmed by the government, is that RPI’s methods will be aligned with CPIH from February 2030. Holders of index-linked gilts do not receive a separate compensation cheque for that methodological change. Litigation did not undo the decision.
RPI has historically tended to increase faster than CPI and CPIH. Many analysts therefore expect the alignment to reduce the future inflation uplift on linkers relative to an unreformed RPI, from 2030 onward. Markets are capable of reflecting that expectation in the price long before 2030. None of this tells you what the price of bread will be. It tells you that “RPI-linked” in 2040 may not mean what a reader in 2015 assumed. Check the ONS and the DMO for the wording that governs, rather than relying on a blog paraphrase, before you stake a plan on the gap between the indices.
Tax, funds, and the certificate that is not on the shelf
For a UK individual holding a gilt directly, capital gains on gilt-edged securities are exempt from capital gains tax under the current rules, and that exemption covers index-linked gilts. The coupon is interest. Interest is taxable as savings income unless a wrapper such as an ISA or a pension says otherwise. The inflation uplift on the principal of a linker held directly has its own treatment and should not be casually described as “interest”. Tax law changes, and a fund is not a gilt: inside a collective scheme you are taxed according to the fund’s rules, reporting status, and your wrapper. Read HMRC and the fund documents. Do not import the direct-gilt exemption into a product that does not have it.
NS&I has, in the past, offered Index-linked Savings Certificates that uplifted with inflation. They have not been on general sale to new customers for years. Existing holders have sometimes been invited to renew. Assume nothing about availability. The NS&I website is the only honest source on whether a product is open.
Defined-benefit pension schemes have been heavy owners of linkers because some of their promises resemble real or limited-price liabilities. That institutional match is not a reason for a household ISA to mimic a pension fund. The household does not have the same liabilities, the same time horizon, or the same ability to sit through a mark-to-market fall.
What this note refuses to say
It does not say “buy linkers”, “sell linkers”, or “prefer cash”. It says: learn which index, which lag, which real yield, and which exit you actually have. If you cannot explain those four without the marketing adjective, you do not yet understand the position, and no one at Cityfulviro is going to fill that gap with a tip.
Primary reading lives at the Debt Management Office, the ONS inflation pages, and the Bank of England. Bring a specific bond’s prospectus if the sentence you care about depends on it.