The silver lining of high inflation
It’s been a year since I first wrote about Series I US Savings Bonds. If you took my advice and bought some in May 2021, you’re set to earn 5.33% on the first 12 monthly interest payments. That’s far better than the sub-1% returns of CDs and money markets and the negative returns of most bond funds.
The idea started to catch on, with a few other authors discussing the merits of savings bonds since then. However, with the recent CPI publication, it bears repeating. Series I savings bonds purchased before May 1 are guaranteed to return 8.37%, as much as some high-yield closed-end bond funds with almost no risk.
While rates on other fixed income investments have risen since last year, the current surge in inflation makes the yield advantage of savings bonds even more important.
Inflation isn’t nice, but the silver lining is the opportunity to get a great return for next year with limited risk. Purchases for each calendar year are limited to $10,000 purchased electronically via CashDirect plus $5,000 in paper bonds received as part of your income tax refund. That may not seem like a lot to some investors, but current rates should allow you to maximize your contributions and those of other members of your household before committing funds to other fixed income investments.
8.37% Sounds good! How did you calculate it?
Series I Savings Bond Rates are adjusted every six months. The rate for the first six months changes on May 1 and November 1 of each year according to the variation of the consumer price index (CPI-U) during the periods October-March or April-September. The CPI report just released sets the first semi-annual rate for all savings bonds sold from 05/01/2022 to 10/31/2022.
Each 6-month change in the CPI represents a semi-annual rate, so added together they form the annual rate. For bonds purchased in April 2021, the rate is determined as follows:
|April 2021 CPI||264.877|
|CPI Sep 2021||274.310|
|6 month change||3.56%|
|(fixes a semi-annual rate for bonds sold from 11/2021 to 4/2022)|
|CPI Sep 2021||274.310|
|March 2022 CPI||287.504|
|6 month change||4.81%|
|(sets a semi-annual rate for bonds sold from 5/2022 to 10/2022)|
The 8.37% rate I quoted is just the sum of those two semi-annual rates. If you wait until after May 1, your first six initial payments will be higher, but you run the risk of inflation cooling during the 4/2022-9/2022 period which would determine your second six months of interest payments. It could be lower than the 3.56% indicated above.
The fine print
The actual Series I rate is technically a combination of the 6-month floating rate calculated above and a fixed rate that remains constant for the duration of the bond. Since November 1, 2010, the fixed rate has been either zero or less than 0.5%. The Treasury does not disclose how it sets the fixed rate, but in my experience it tends to go above zero when needed to make savings bonds competitive with prevailing CD rates. Although this happened in 2019, current CD rates are so much lower than savings bond rates that the fixed component will almost certainly be zero when announced on May 1.
Another caveat is that there is a three month delay in interest payments for the first 5 years of ownership to create a penalty for those who sell before 5 years. For example, if you buy a bond in April 2022, no interest will be credited to your account on May 1, June 1 or July 1. From 08/01/2022 until 01/01/2023, the bond will be credited monthly at the half-yearly rate of 3.56% indicated above. From 01/02/2023 to 01/07/2023, the deposit will be credited monthly based on the rate of 4.81%. This pattern continues until 01/05/2027, when you will be credited with an additional 3 months of interest at the then prevailing rate.
Bonds must be held for at least 12 months, so if you buy in April 2022 and sell in April 2023, your actual return will only be 3.56 + 4.81/2 = 5.96%. In the past, I’ve held savings bonds for the minimum one-year period when CD rates were competitive. I don’t expect that to be the case this time around, so I think it’s worth holding out beyond the minimum 12 month period.
Interest is always credited on the first of the month at a full month’s rate, regardless of when you purchased the bond.
How to recharge?
The $10,000 electronic limit can act as a deterrent to high net worth individuals. You have to decide for yourself if the work involved in setting up the Treasury Direct account and tracking it is worth it. In my case, the minimal effort required to earn $837 with a maximum savings bond purchase of $10,000 versus $150 or less in a CD is worth it.
If that’s not enough, for minimal extra work, you can create TreasuryDirect accounts for other members of your household. To hold savings bonds, all you need is a social security number and one of three conditions:
- Citizen of the United States, whether you live in the United States or abroad
- United States resident
- United States civilian employee, no matter where you live
For children under 18, a parent can open a TreasuryDirect custodial account linked to the parent’s account. The parent can purchase bonds in the child’s account on their behalf without counting against the parent’s $10,000 limit. Any adult can also buy bonds to donate as a gift. The purchase counts toward the recipient’s $10,000 limit, not the donor’s.
Savings bonds are not tax until they are redeemed. At that time, they are exempt from state tax. They are not exempt from federal tax, except when the proceeds are used for qualified graduate school fees. For parents of teenagers heading to college soon, I Bonds are a great way to supplement college funds and earn a good return without worrying about losing principal.
Since I and several others have written in detail on Seeking Alpha about Series I Savings Bonds, this article was not intended to answer all questions about them. My point here is to highlight the excellent guaranteed rate of 8.37% available before May 1st. comments. Seeking Alpha readers have been very helpful in answering others’ questions on this topic.
Inflation is no fun, but it does create an opportunity to earn a safe, guaranteed high rate on a portion of your fixed income allocation. Purchasing Series I Savings Bonds in April 2022 guarantees an 8.37% return on the first year of interest payments.