The Capital-Protection Capacity of Emerging Markets Inflation-Linked Bonds

Abstract

We investigate the capital-protection property of inflation-linked bonds in an international context over the period 2012 to 2022. Inflation-linked bonds compensate domestic investors for loss of local purchasing power. Whether the bonds protect foreign investors effectively depends on the inflation levels they endure and on the currency hedging costs. We study the case of an American investor who considers allocating to emerging markets inflation-linked bonds rather than to US bonds in view of reaping higher inflation compensation. Our results suggest that over the past decade such allocation would have been worthwhile, even when taking latent risks, notably country default, into account.