Real Yields and Breakeven Inflation

Why this matters

The Yield Curve in Depth described a long-term yield as expected inflation, plus an expected real rate, plus a premium. That was a way of thinking. For US Treasuries it can be made into numbers, because the Treasury issues two kinds of bond: ordinary ones, which pay fixed dollars, and TIPS, which pay fixed purchasing power. Comparing their yields shows what the market is charging for inflation and what it's paying for waiting. Those two pieces behave very differently, and telling them apart explains events that a single yield can't.

Two bonds, two promises

An ordinary Treasury note promises dollars. Its yield is a nominal yield, and what it will buy depends on inflation over its life.

A TIPS promises purchasing power. Its principal goes up with inflation and down with deflation, measured by the Consumer Price Index. Interest is paid every six months at a fixed rate on the adjusted principal, so the payments rise with prices too. At maturity the holder receives the adjusted principal or the original principal, whichever is greater.¹ Inflation-Protected Bonds: TIPS and I Bonds covers the mechanics.

Because inflation is added on separately, the yield quoted on a TIPS leaves it out. It's a real yield: the return the holder earns above inflation, whatever inflation turns out to be.

The breakeven rate

Breakeven inflation rate = Nominal Treasury yield − TIPS yield of the same maturity

At the end of 2025, the 10-year Treasury yielded 4.18% and the 10-year TIPS yielded 1.93%.²³ The difference, 2.25%, is the breakeven inflation rate.⁴ The name describes what it does.

Ten-year yields at the end of 2025: 4.18% nominal and 1.93% real. The inflation rates are hypothetical.

Average inflation over the ten years	Ordinary Treasury earns	TIPS earns, roughly	Ahead
1.5%	4.18%	1.93% + 1.5% = 3.43%	Ordinary Treasury
2.25%	4.18%	1.93% + 2.25% = 4.18%	Neither
3.0%	4.18%	1.93% + 3.0% = 4.93%	TIPS

If inflation averages exactly the breakeven rate, the two bonds return the same. Above it, TIPS come out ahead, and below it, the ordinary bond does. Adding the two rates is a close approximation. The exact sum multiplies them, 1.0193 × 1.03 − 1 = 4.99%, which makes little difference at these levels.

So a buyer choosing between the two is, knowingly or not, taking a view on inflation against the market's price. The breakeven is that price.

What each piece has done

Daily figures from the Federal Reserve's series.²³⁴

Read down the last column and little happens. The breakeven stays between 2.25% and 2.56% across fourteen years. Read down the middle column and almost everything happens there: the real yield goes from below −1% to nearly 3%. In this table, the large moves in Treasury yields were moves in real yields.

The full record, which starts in January 2003, shows the same contrast. The 10-year real yield has ranged from a low of −1.19% on 3 August 2021 to a high of 3.15% on 21 November 2008.³ The 10-year breakeven has averaged 2.11%, with a high of 3.02% on 21 April 2022 and a low of 0.04% on 20 November 2008, a figure the next section returns to.⁴

Negative real yields

The 10-year TIPS yield was below zero on 955 trading days, all of them between August 2011 and April 2022.³ A buyer at the low of −1.19% was accepting, for certain, a loss of purchasing power of about 1.2% a year for ten years, which compounds to roughly 11%.

People bought anyway, and the reason shows in the same day's figures. The ordinary 10-year Treasury yielded 1.19% that day, with the breakeven at 2.38%.²⁴ The ordinary bond offered the same expected loss if inflation matched the breakeven and a larger one if inflation ran higher. A negative real yield isn't a quirk of TIPS. It means the market as a whole was paying less than expected inflation for safe ten-year money, and TIPS simply stated it openly.

The rest of this lesson is for members

Still to come in this lesson: Why the breakeven isn't a forecast, Inflation protection isn't rate protection, Reading the two numbers, the key takeaways, and 2 quiz questions with explanations.

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