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Are Series I Savings Bonds a Good Investment?

Investing ideas made easy and safe

By Steve FoxPublished 2 years ago 5 min read
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Are Series I Savings Bonds a Good Investment?

If you feel like nothing good comes from inflation, you are probably right for the most part. Groceries cost more, gas is ridiculously expensive right now, and so on. There is one exception, and you should consider investing in it. That investment I am referring to is Series I savings bonds. Are series I savings bonds a good investment? I have been tracking them for several months now and decided to invest in them the beginning of the quarter.

Also known as “I bonds,” these investments are virtually risk-free as they’re backed by the U.S. government. They don’t lose value, and they offer tax benefits under certain circumstances. Most importantly, as of May 1st they now pay 9.62% in interest a year. I tend to be analytical, so to understand the math a little better, there is a fixed rate and an inflation-adjusted variable rate that all translates into the composite rate. Composite rate = [fixed rate + (2 x semiannual inflation rate) + (fixed rate x semiannual inflation rate)]. For example, the I bonds I purchased on May 1 had a fixed rate of 0%, semiannual inflation rate of 4.81%, and the composite rate of 9.62%. To arrive at the composite rate, you take 0% + 2 * .0481 + 0 * .0481=.962. To note, the fixed rate at the time of purchase remains the same for the life of the bond. The inflation rate is adjusted every six months in May and November.

The interest rate is based on the CPI (consumer price index), set by the Treasury Department. The CPI was released April 12th and reflects interest rates have increased 8.5% year over year. With every investment vehicle, there are pros and cons of owning them and I bonds are no different. Let me spend some time reviewing the pros and cons for you.

Benefits of owning I bonds

First and foremost, a primary benefit of owning I bonds is that you can be purchase them at the 9.62% interest rate through October 2022. As of this writing on May 11, 2022, the CPI report just came out today at 8.3% inflation rate year over year. It could mean I bond rates will still be quite high in November when the new composite rate comes out.

I bonds mature after 30 years, so you can continue to earn interest on them unless you choose to cash them out early. I will mention this again in the drawbacks of owning I bonds, but I wanted to note you will lose the last three months of interest if you cash them out before five years. The return is almost always higher than high-yield savings accounts and CD’s so this should have little impact on the overall returns. In fact, the returns should be much higher like they are today. The idea here is that this is a long-term investment. You shouldn’t need this cash for a couple of years or more while earning interest.

Another benefit is that interest is calculated based on compound interest. Every six months the interest that is earned is added to the principal value and then that interest earns interest moving forward, known as compounding.

The minimum investment is only $25, and you earn the current rate for the next rolling 6 months making this a great tool to set aside a small monthly budget with. If I invest $25 in May I earn the 9.62% interest through end of October. If I invest another $25 in June, then I earn the current rate through end of November and so on.

You can defer declaring your interest earned until maturity or until you cash out so that is a tax benefit of owning them. They are also exempt from state and local taxes.

Drawbacks of owning I bonds

The first negative aspect of owning I bonds is you cannot purchase them through a brokerage account. By default, you cannot invest in them with a traditional or Roth IRA. You can only purchase them through the U.S. Treasury Department’s website (https://www.treasurydirect.gov).

There is also a limit of $10,000 per year that you can invest in I bonds. You can invest an additional $5,000 if you put your tax return into paper bonds, but that requires that you get a tax refund.

If inflation rates retreat, and even go negative, you can earn little to nothing on them. The charts show only one time in the past 15 years that they paid 0% interest. Even then that was for only 6 months. Quick glance shows they have probably earned more like 4% on average over the same ten-year period, but that is an estimate and not a figure I tried to calculate as it fluctuates every six months.

As previously mentioned, I bonds are also not as liquid as a cash savings account. You must hold them for a minimum of one year. You also must hold them for a minimum of five years or you lose the previous three months of interest. So if you cash them out between one and five years you will lose that interest.

Conclusions and my opinion

To this point I have tried to remain factual without many opinions, though I did recently invested in I bonds. Are Series I Savings Bonds a Good Investment? In conclusion, I believe investing in I bonds is a great choice. The pros outweigh the cons of owning them.

I look at them as middle ground between emergency cash and something to invest in over the long term. If you are looking to protect your principal and at least keep up with inflation, then I bonds are a great combat to rising inflation.

I have a tiered approach to “cash” where I keep funds for short-term expenses in a checking account, another emergency fund in a high yield savings account, and I bonds are a higher earning cash savings plan for me even though they are illiquid until after year one. The way I see it, I am getting 9.62% for at least six months. This is to be determined, but you will also likely something close to that for another six months. If inflation stagnates or turns negative, then I will cash them out after fifteen months. Even if I must forego the interest in months 13-15, I still have earned at a rate that is much higher over this time than a savings account or CD can provide. Ultimately, I see I bonds being a much longer-term part of my overall investment portfolio though.

Check out my blog at www.financecoachonline.com

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