Required rates of return on U.S. Government fixed income investments account for which additional risk?

The required rates of return on U.S. Government fixed-income investments take into account expected inflation because investors need to be compensated for the loss of purchasing power due to inflation. When investors lend money or purchase bonds, they expect to receive interest payments over the life of the bond. If inflation rises during that period, the real value of those interest payments and the principal upon maturity may decrease. Therefore, the expected rate of return must be adjusted to reflect anticipated inflation rates to ensure that the investment provides a return that preserves the purchasing power of the invested capital.

In fixed-income investing, especially with government securities, inflation expectations are critical to determining the appropriate yield. Investors commonly use yields on government bonds as a benchmark for expected returns, and these yields typically include a premium for anticipated inflation.

While other risks such as recent inflation, market risk, and reinvestment rate risk are important considerations, they do not specifically address the fundamental adjustment that must be made for expected inflation when calculating required rates of return. This makes expected inflation the central factor in evaluating the real returns on fixed-income investments.