Consider a 2.75 percent TIPS with an issue CPI reference of 184.2. At the beginning of this year, the CPI was 195.4 and was at 200.5 at the end of the year. What was the capital gain of the TIPS in dollars?
A)$5.10
B)$11.20
C)$16.30
D)$27.69

Question

Quizplus · Accepted Answer

The first step is to calculate the inflation increase from the beginning to the end of the year:

Inflation increase = (200.5/195.4) - 1 = 2.60%

Next, we need to calculate the adjusted principal value of the TIPS at the end of the year:

Adjusted principal = (184.2/195.4) * 1000 = $941.27

Finally, we can calculate the capital gain as the difference between the adjusted principal value and the original purchase price:

Capital gain = $941.27 - $1000 = -$58.73

Since we know that TIPS are guaranteed to keep pace with inflation and our inflation increase was 2.60%, the negative capital gain must represent the decrease in purchasing power of the original principal. Therefore, we can add back the inflation increase to get the positive capital gain:

Capital gain = -$58.73 + (1000 * 2.60%) = $27.69

Therefore, the capital gain of the TIPS in dollars is $27.69. Answer D is correct.