Here’s a blast from the past. I think I was reading an article about how savings bonds stop earning interest after 30 years, and so I asked my mom if she bought any bonds when I was born. I don’t know why, I figured that’s just what people did back then. It turned out she did, and the earliest bonds happen to stop earning interest next this month. She dug them out of storage, and sent me a scan of them:

She bought an EE savings bond with a face value of $100 for the purchase price of $50 in February of 1981. I was two years old. Using the savings bond calculator at TreasuryDirect, I found the current value to be $300.04. So over the last thirty years, the value went up 6x. This works out to an annualized return of about 6.1%.

According to TreasuryDirect.gov, for bonds issued before November 1982:

Bonds which have not reached final maturity are earning interest at either guaranteed or market-based rates; whichever produces the higher redemption value.

The guaranteed “original maturity period” was 9 years for this bond, which meant it was guaranteed to be worth the face value of $100 after 9 years. That works out to an 8.0% annual interest rate. If only we could get such a guaranteed return now, but the early 80s was a time of high inflation.

When the original maturity period ends, the bond enters a new 10-year maturity period where the government can reset the minimum rate. That’s why my bond is now earning only 4%. I can’t find the market rate for 1981, though. I could probably calculate it if I really wanted to, as it is defined as “85% of the average of 5-year Treasury marketable security yields”. The market rate in November 1982 was 13.05%!

If you have some old savings bonds, find them before they stop earning interest completely. In addition, the IRS supposedly requires you to report the interest as earned in the year of final maturity, even if you don’t redeem it. If you have a lost, stolen or destroyed savings bond, you will need to fill out Form PD F 1048. Also check out this Treausury Hunt page.

The new fixed rate for Series I Savings Bonds (“I Bonds”) was announced on 11/1/10 to be 0.0%, down from the previous fixed rate of 0.20%. Inflation protection is being held at a relative premium right now, so this isn’t all that surprising.

As predicted earlier, the new variable inflation-linked rate will be 0.74%. The total composite rate = fixed rate + variable inflation rate. Thus, any Series I savings bonds bought in November will have a total rate of 0 + 0.74 =0.74% for 6 months. If you already own I-Bonds, your fixed rate is always the same but the variable rate changes every six months from your purchase month, so it may not immediately change over this month.

Despite the relatively low fixed and variable rates, there are several unique advantages of savings I-bonds that can make them a potentially desirable investment. Combine this with their low annual purchase limits, and I am holding on to my bonds (and bought more last month in October).

For more related info, see the rest of my savings bonds posts.

New inflation numbers are out for September 2010, so it’s time for another semi-annual update:

New Inflation Rate
March 2010 CPI-U was 217.631. September 2010 CPI-U was 218.439, for a semi-annual increase of 0.37%. (This was 1.1 increase over the last 12 months.) Using this official formula, the variable interest rate for the next 6 months will be approximately 0.74%, depending on the fixed rate. Here’s the math:

218.439/217.631 = 1.00371, or a semi-annual increase of 0.37%. Using a fixed rate of the existing 0.2% announced in May 2010:

Variable rate = 2 x Semiannual inflation rate + (Semiannual inflation rate X Fixed rate)
Variable rate = 2 x 0.00371 + (0.00371 X 0.002)
Variable rate = 0.00743, or 0.74%

Buying Now? If you buy before the end of October, the fixed rate portion of I-Bonds will be 0.20%. You will be guaranteed a total interest rate of 0.20 + 1.54 = 1.74% for the next 6 months due to previous deflation, and 0.20 + 0.74 = 0.94% for the six months after that. The inflation component will continue to change every six months. You can’t redeem until 12 months have gone by, and any redemptions within 5 years incur a 3-month interest penalty.

A known “trick” with I-Bonds is that if you buy at the end of the month, you’ll still get all the interest for the entire month as if you bought it in the beginning of the month. Let’s say we buy on October 31st. You’ll be able to sell on October 1st, 2010 for an actual holding period of 11 months. You have to be careful with transaction cut-off times, though, otherwise you may trip into the next month. (3-month interest penalty still applies.)

Buying Later? If you wait until November 1st, you will get a new unknown fixed rate + ~0.74% for the first 6 months, and an unknown rate based on ongoing inflation after that. Based on the tiny fixed real rates on the related Treasury Inflation-Protected Securities (TIPS) currently, my guess is that the new fixed rate is likely to remain very low, perhaps even zero.

Despite these yields not being especially attractive right now, I am thinking about buying some more I-Bonds for my emergency fund, and will probably split them between buying late in October and in November since to me there is not a clear choice to go with one over the other.

Existing I-Bonds? If you have an existing I-Bond, the rates reset every 6 months depending on your purchase month to your original fixed rate + variable rate. I have some at 1.2% fixed rate, which will give me 1.94% for the next 6 months. Interest on savings bonds is not subject to state income taxes. Also, one of the benefits of I Bonds over TIPS is that the total rate (fixed + inflation) can ever go below zero, providing some protection from potential deflation.

Beware Low Purchase Limits
The annual purchase limit is now $5,000 in paper I-bonds and $5,000 in online I-bonds per Social Security Number. For a couple, that’s a $20,000 total cap per year. If you have children, you may be able to buy additional savings bonds by using a minor’s Social Security Number (additional considerations apply).

Buy online at TreasuryDirect.gov. As for paper, here is a post on how to buy paper savings bonds from your local bank. According to this Pittsburgh Post-Gazette article, the Treasury has indicated that it plans to phase out paper bonds in the near future.

For more background, please see the rest of my posts on savings bonds.

New inflation numbers for March 2010 were announced today, so it’s time for the usual semi-annual update and rate predictions.

New Inflation Rate
September 2009 CPI-U was 215.969. March 2010 CPI-U was 217.631, for a semi-annual increase of 0.77%. Using the official formula, the variable interest rate for the next 6 months will be approximately 1.54%, depending on the fixed rate. Here’s math:

217.631/215.969 = 1.00769, or a semi-annual increase of 0.77%. Using a fixed rate of the existing 0.3%:

Variable rate = 2 x Semiannual inflation rate + (Semiannual inflation rate X Fixed rate)
Variable rate = 2 x 0.0077 + (0.0077 X 0.003)
Variable rate = 0.0154, or 1.54%

Buying Now = ~2.33% APR, 11-month investment
If you buy before the end of April, the fixed rate portion of I-Bonds will be 0.3%. You will be guaranteed an variable interest rate of 3.06% for the next 6 months, for a total rate of 3.36%. For the 6 months after that, the total rate will be 0.3 + 1.54 = 1.84%.

You can’t redeem until 12 months have gone by, and any redemptions within 5 years incur a 3-month interest penalty. However, a known “trick” with I-Bonds is that if you buy at the end of the month, you’ll still get all the interest for the entire month as if you bought it in the beginning of the month. Let’s say we buy at the end of this April, hold for the minimum of one year, and pay the 3-month interest penalty for redeeming within 5 years. You’ll be able to sell on April 1, 2011 for an actual holding period of 11 months.

Taking into account the 3-month penalty, that leaves you with a 2.33% annualized return, which is also exempt from state income taxes on the interest. This is slightly better than any 1-year bank CD that I can find right now, keeping in mind the liquidity concerns and the purchase limits (see below).

Buying Later? If you wait until May 1st, you will get a new unknown fixed rate plus 1.54% for the first 6 months. My wild guess for the fixed rate would be 0.4% at most, probably less. The next 6 months will be based on an unknown rate based on future inflation. If you really want inflation protection, these I-Bonds may be a viable alternative to TIPS, but I wouldn’t pick them for short-term funds due to the low guaranteed rate.

Low Purchase Limits
The annual purchase limit is now $5,000 in paper I-bonds and $5,000 in online I-bonds per Social Security Number. For a couple, that’s $20,000 per year. Buy online at TreasuryDirect.gov. As for paper, here is a post on how to buy paper savings bonds from your local bank. Some larger banks may have an electronic process.

For more background, see the rest of my posts on savings bonds.

The new fixed rate for Series I Savings Bonds (“I Bonds”) was announced on Monday to be 0.3%. This is a follow-up to the ~3.07% inflation rate previously calculated based on CPI-U data.

As a long-term investment, a 0.3% real yield makes I-Bonds a slightly worse choice than Inflation-Protected Treasury Bonds (TIPS). As of yesterday, a 5-year TIPS had a 0.73% real yield.

As a short-term investment, it depends on how you think inflation will turn out in the near future. If you buy a new I-Bond in November, you will earn 0.3% fixed + 3.06% based on inflation = 3.36% for the first 6 months. The second 6-month rate will be 0.3% + a variable rate based on inflation from September 2009 to March 2010.

(Savings Bond Reminders: You must hold for at least a year (or 11 months and a day if you buy on the last day of the month). If you hold for less than 5 years, there is a penalty of the last 3-months interest. Savings bond interest is exempt from state income taxes, and all taxes can be deferred until the time of bond redemption.)

Worst case scenario, there is deflation of worse than 0.3% which makes the total rate zero for the 2nd six months. Earning 3.36% for 6 months with an 11-month holding period gives you an effective rate of approximately 1.83% APY. This is only slightly lower than the top yields for a 12-month CD. If the annualized inflation rate over the 2nd 6 months is just 1%, your effective rate after the 3-month interest penalty rises to 2.00%. It’s not a screaming buy, but if you are looking for 1+ year safe investment and haven’t exceed your annual purchase limits, I would personally buy them over a bank CD since you do well in cases of rising inflation and okay otherwise.

For more background, see the rest of my posts on savings bonds.

Got a reader question today about the purchase limits for savings bonds:

Can I get around the $20,000 annual buying limit by purchasing I-bonds in my child’s name?

After doing some research, it does appear that yes, you can exceed the usual purchase limits by buying more bonds in the names of your children. Currently, the annual purchase limit is now $5,000 in paper bonds and $5,000 in electronic bonds per series type (EE/I) and per Social Security Number. Thus, a couple could buy a total of $20,000 per year in I-Bonds.

From the TreasuryDirect Change in Annual Purchase Limit FAQ:

I’m buying bonds for myself and my children through my TreasuryDirect account. How does the limit apply to these purchases?

You can buy up to $5,000 each year of electronic Series EE and I bonds in TreasuryDirect on which you are the primary owner, plus up to the limit of each series in the name of each child for whom you’ve established a linked account in the child’s name as primary owner. Minor linked accounts are sub-accounts of your own master account, but do not provide you with ownership rights to securities held in the linked sub-accounts.

The next question is do you have the ability to buy and sell the bonds? From the TreasuryDirect Establish an Account for a Minor page:

A Minor account is a custodial account you may establish for a child under the age of 18 if you are a parent, natural guardian, or person providing chief support. You may purchase, redeem, receive gift deliveries, and perform other transactions within the account on behalf of the minor. When the minor reaches age 18 and establishes his or her own Primary account, you may de-link the securities from the Minor account to move them to the newly established account.

Other considerations
When the child turns 18, it is then in their control and you can no longer perform most transactions like selling the bonds. In addition, there is also the education exclusion which can allow bond owners to avoid paying tax on the interest when used for qualified higher education expenses. If you’re thinking of doing this, remember that the bond has to be in the parent’s name, not the child’s name. More details here. More details on tax considerations here.

New inflation numbers are out, so it’s time for another semi-annual update:

New Inflation Rate
March 2009 CPI-U was 212.709. September 2009 CPI-U was 215.969, for a semi-annual increase of 1.53%. Using this official formula, the variable interest rate for the next 6 months will be approximately 3.07% based on current fixed rates.

Buying Now? If you buy before the end of October, the fixed rate portion of I-Bonds will be 0.10%. You will be guaranteed a total interest rate of 0% for the next 6 months due to previous deflation, and 0.10 + 3.07 = 3.17% for the six months after that. You can’t redeem until 12 months have gone by, and any redemptions within 5 years incur a 3-month interest penalty.

A known “trick” with I-Bonds is that if you buy at the end of the month, you’ll still get all the interest for the entire month as if you bought it in the beginning of the month. Let’s say we buy on October 31st. You’ll be able to sell on October 1st, 2010 for an actual holding period of 11 months. (3-month interest penalty still applies.)

However, given the first 6 months of 0% and the 3-month penalty off the end, I think I’d wait until November 1st.

Buying Later? If you wait until November 1st, you will get a new unknown fixed rate + ~3.07% for the first 6 months, and an unknown rate based on ongoing inflation after that. It can’t go much lower than the current 0.10%, so I’d wait a couple weeks and see if you haven’t used up your buying limits this year.

Existing I-Bonds? If you have an existing I-Bond, the rates reset every 6 months depending on your purchase month to your original fixed rate + variable rate. Even though you probably went through 6 months of 0% total interest, the next 6 months won’t be that bad as compared to current savings account rates of ~1.50% APY. I have some at 1.2% fixed rate, which will give me 4.28% for the next 6 months. Interest on savings bonds is not subject to state income taxes. I am keeping mine.

Beware Low Purchase Limits
The annual purchase limit is now $5,000 in paper I-bonds and $5,000 in online I-bonds per Social Security Number. For a couple, that’s a $20,000 total cap per year. Buy online at TreasuryDirect.gov. As for paper, here is a post on how to buy paper savings bonds from your local bank.

For more background, see the rest of my posts on savings bonds.

Just thought I’d mention that I used TreasuryDirect today to purchase another $5,000 of Series I savings bonds. If you buy them by the end of April, you can lock in an investment that will get you about 3.08% APR over 11 months. The deadline is fast approaching, and I didn’t want to cut it that close. More details here.

Since the interest on savings bonds is exempt from state and local taxes, based on my tax situation that will bring my tax-equivalent yield to over 3.5%. Not too shabby. I might buy some more, as I think it’s a nice place to store emergency funds – which I see as a permanent cash allocation which I hope not to use – as long as you can wait out the initial lack of liquidity over the first 12 months.

New inflation numbers for March 2009 were announced today, so it’s time for the usual semi-annual update:

New Inflation Rate
September 2008 CPI-U was 218.783. March 2009 CPI-U was 212.709, for a semi-annual decrease of 2.78%. Using this official formula, the variable interest rate for the next 6 months will be approximately -5.55%, depending on the fixed rate. What does this deflation mean for the investment returns for I-Bonds?

Buying Now = ~3.08% APR, 11-month investment
If you buy before the end of April, the fixed rate portion of I-Bonds will be 0.7%. You will be guaranteed an variable interest rate of 4.94% for the next 6 months, for a total rate of 5.64%. For the 6 months after that, the total rate will be zero, not -4.85%. This is due to the 0% floor on savings bond rates.

You can’t redeem until 12 months have gone by, and any redemptions within 5 years incur a 3-month interest penalty. However, a known “trick” with I-Bonds is that if you buy at the end of the month, you’ll still get all the interest for the entire month as if you bought it in the beginning of the month. Let’s say we buy at the end of this April, hold for the minimum of one year, and pay the 3-month interest penalty for redeeming within 5 years. You’ll be able to sell on April 1, 2010 for an actual holding period of 11 months.

This would leave you with a 5.64% return on your money for 6 months, and then nothing for 5 months. Overall, that’s a 3.08% annualized return, and you will be exempt from state income taxes on the interest as well. This is very competitive with current bank CD rates.

Buying Later? If you wait until May 1st, you will get a new unknown fixed rate minus 5.55%, for a virtually guaranteed composite rate of zero for the first 6 months. (The next 6 months will be based on an unknown rate based on future inflation.) Unless there is a big bump in the fixed rate that makes it a good long-term investment, sticking with banks or credit unions will likely give you a higher yield.

Low Purchase Limits
The annual purchase limit is now $5,000 in paper I-bonds and $5,000 in online I-bonds per Social Security Number. For a couple, that’s $20,000 per year. Buy online at TreasuryDirect.gov. As for paper, here is a post on how to buy paper savings bonds from your local bank. Some larger banks may have an electronic process.

For more background, see the rest of my posts on savings bonds.

The new fixed rate for Series I Savings Bonds (“I Bonds”) was announced on Monday to be 0.7%. A few readers asked if I thought this was a good time to buy.

As a long-term investment, a 0.7% real yield makes I-Bonds a poor choice, as you can buy TIPS with much better yields. As of yesterday, a 5-year TIPS had a 3.66% real yield.

As a short-term investment, it depends on how you think inflation will turn out in the near future.

If you buy now in November, you will earn 0.7% fixed + 4.94% based on inflation = 5.64% for the first 6 months. The second 6-month rate will be 0.7% + a variable rate based on inflation from September 2008 to March 2009. So far, the markets seem to suggest that there is a decent possibility that there might even be deflation for this period. Reminders: You must hold for at least a year (or 11 months and a day if you buy on the last day of the month). If you hold for less than 5 years, there is a penalty of the last 3-months interest.

Worst case scenario, there is deflation of worse than 0.7% which makes the total rate zero for the 2nd six months. Earning 5.64% for 6 months with an 11-month holding period gives you only an effective 3.07% APY. If say, inflation is 1%, you’d get an effective 3.54% APY for the minimum 11-month hold. Even if this is exempt from state taxes, the tax-equivalent yield won’t be far above 4%. You can do better with bank CDs.

The only scenario where I-Bonds may be better than what you can get from a bank is if you think annualized inflation will be higher than 1.5% over the next 6 months. Personally, combined with the lack of short-term liquidity, I don’t think I’d take that bet right now.

For more background, see my last post on savings bonds.