Short Term Government Bonds – Are They Protected from Inflation?

Short Term Government Bonds

Are short term government bonds protected from inflation? The answer is not a simple yes or no, and the specific bond being considered will determine just how much inflation protection is offered. Investing in municipal bonds with short term maturity dates means that inflation is not a big factor, because the rate of any inflation increase over the short time period until the bond is mature is usually small. These bonds are not protected from inflation though, they are just not affected significantly by this factor. Higher interest rates mean lower bond prices, and for short term government bonds that are not inflation indexed this will lower the return on investment received.

TIPS bonds are specifically indexed to inflation, so these do offer complete protection if the inflation rate increases. These can be long or short term government bonds, depending on the length until the bond matures. Inflation indexed securities can help mitigate any small increase in inflation with bonds held for short term gains. The government bonds interest rate is set when the bonds are sold at auction, and this can be below par, at par, or above par. A bond may be held until the maturity date or sold before this, but with short term bonds the goal is usually to hold them until they mature.

While many short term government bonds may not be protected from inflation they are usually less sensitive to this factor than bonds which have a longer term. Inflation indexed bonds will provide full protection against inflation, because these bonds keep pace with inflation and are adjusted accordingly. This type usually provides the greatest protection for long term government bonds, because the extended period until the bond matures increases the risk that the inflation rate will rise before this time. Short term bonds offered by the government may or may not be protected from inflation, depending on the specific bond chosen.