Another key concept related to inflation linked bonds, such as TIPS is the break-even inflation rate. The break-even inflation rate is the difference between the yield on a regular non-inflation linked treasury bond and the real yield on a comparable TIPS bond. Essentially, it represents the inflation rate at which an investor would be indifferent between holding a nominal treasury bond or a TIPS. In other words, if future inflation averages out to the break even rate, both bonds would deliver similar returns In real terms, looking at a simple example, if the nominal yield on a bond due to mature in February 2054 was 4.502%, and the real yield on a TIPS bond due to mature in January 2054, close to the maturity of the standard fixed coupon bond was 2.146%. This would give a break-even inflation of the difference between the two. In other words, 2.356%. This break even inflation tells us that the bond markets expect inflation to be 2.356% over the time to maturity on the bonds. As previously described, if the expected inflation was zero, the nominal yield on the fixed coupon bond would be 2.146% rather than what it currently is of 4.502%. Let's see why the break even inflation rate is often viewed as a proxy for market expectations of future inflation. If investors expect inflation to rise above the current break even rate, they'll likely buy more TIPS to protect their purchasing power, increasing TIPS prices, and lowering their real yield. At the same time, they might sell off conventional treasuries driving those prices down and pushing their yields higher. This action widens the gap between the nominal treasury yield and the real TIPS yield, which translates to a higher break even inflation rate. Conversely, if investors expect inflation to fall below the break even rate, they might reduce their TIPS holdings and shift back to conventional treasuries. This would drive TIPS prices down, raising their real yield and increased demand for treasuries, lifting their prices and lowering their yields. As a result, the break even inflation rate would decrease reflecting the market's revised expectations for lower inflation. It's important to note that while the break-even inflation rate serves as a useful indicator of market inflation expectations, it isn't a perfect predictor since markets can get things wrong, other factors such as liquidity differences between the nominal treasury and TIPS markets, supply and demand imbalances and varying risk premia can influence the break-even rate independently of pure inflation expectations. Still, the break-even inflation rate provides a valuable insight into how the market as a whole is positioning itself relative to inflation, as it reveals the relative demand for inflation protected versus nominal bonds based on anticipated inflation trends.