Chartered Market Technician (CMT) Practice Exam

Treasury inflation-protected securities (TIPS) are designed to provide protection against inflation. The principal value of TIPS is adjusted based on changes in the Consumer Price Index (CPI), which measures inflation. As the CPI rises, the principal amount of TIPS increases, ensuring that the investor's purchasing power is preserved over time. This adjustment mechanism directly links the TIPS' principal to inflation, so when the inflation index rises, so does the principal, and conversely, if the CPI falls, the principal can decrease, but it will never fall below the original value at maturity.

While TIPS do pay interest, the interest rate itself remains fixed; it is the principal amount that changes. The coupon payments are calculated based on the fixed interest rate applied to the adjusted principal, so these may vary over time based on the principal adjustments but do not influence the principal itself. Maturity does not change, as TIPS are issued with a set date for maturity. Thus, the correct focus is on the adjustment of the principal amount in relation to inflation indicators.