Do you want a guaranteed return of 9.62%? Try this government-backed resource

SmartAsset: Investing in Series I Savings Bonds (iBonds)

SmartAsset: Investing in Series I Savings Bonds (iBonds)

There is a bond that pays an interest rate of 9.62% and is guaranteed by the US Treasury. Investors should keep a few limitations and conditions in mind before investing, but as inflation has exceeded 8% since March 2022, this could be an attractive option for the fixed income side of your portfolio. Consider working with a financial advisor as you seek capital appreciation or capital preservation in a high inflation environment.

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What are iBonds?

Known as Series I Savings Bonds, or iBonds for short, the Treasury created them in 1998 as a way to help savers cope with inflation. They come in terms ranging from one year to 30 years. This bond has two rates: a fixed rate, which is always zero, and an inflation rate, which is linked to the consumer price index for all urban consumers (CPI-U). Interest accruing every six months is added to the principal value of the bond. Furthermore, in May and November, the Treasury adjusts the inflation rate of this bond in line with the latest CPI-U reading.

Together, the interest rate and inflation adjustment on iBonds, sold at face value, are called the “composite rate”. The composite rate on such a bond can never fall below zero, even in the rare event that deflation would otherwise drag a bond’s composite rate into negative numbers.

Pros of iBond

There are several aspects of these bonds that make them attractive:

  • They currently have one of the highest interest rates available. From May 2022 to October 2022, these bonds pay 9.62% interest. It’s hard to ignore when the Bloomberg US Aggregate bond index has so far paid a negative rate of 9.4% in 2022.

  • Series I Savings Notes are not subject to state or local taxes.

  • They have the security of a US government guarantee.

  • Series I Savings Bonds are easy to buy. You can buy up to $10,000 of them online. You can also purchase an additional $5,000 of paper bonds using your federal income tax refund.

Potential Disadvantages of iBonds

SmartAsset: Investing in Series I Savings Bonds (iBonds)

SmartAsset: Investing in Series I Savings Bonds (iBonds)

These bonds come with a few conditions and restrictions that may dampen their appeal for some fixed income investors. For one thing, their future returns may decline as they are pegged to the CPI-U. Only US citizens, legal residents, or civilian employees of the US government (regardless of citizenship or residency) may purchase iBond. There is no market for your iBond. Finally, iBonds also have these maturities:

  • Within one year of purchase: You cannot cash the bond.

  • Within one year and five years of purchase: You can cash on the bond, but you will lose the previous three months’ interest payments. This is known as an early repayment.

  • Five years or more: If you want to avoid a fine, you have to wait at least five years.

  • After 30 years of purchase: The bond ceases to pay interest and thus becomes vulnerable to inflation.

Why Other High Yield Bonds Are Less Attractive (Right Now)

A Series I savings bond is an exception to the caution currently expressed by financial experts about other high-yield bonds.

Charles Schwab, for example, argues that credit spreads, the difference in rates between corporate bonds and government bonds of similar duration, are small. Corporate bonds pay more than government bonds to reward investors for taking the risk of lending to a private company that may fail. But currently the difference in rates between the two is still too small to justify buying higher yielding corporate bonds.

Schwab also notes that corporate earnings growth is slowing, citing inflation, supply chain issues and borrowing costs. “Rising borrowing costs through higher interest payments can dent corporate profits,” the firm said. “Meanwhile, wage increases are good for consumers, but can be a pain point for companies, as it’s another rising input cost.”

Finally, the yield curve does not look favorable for high yield bonds, with the exception of iBonds. The yield curve is a curve on a graph that plots the yield of bonds of various maturities. Typically, shorter duration bonds yield fewer longer duration bonds and total returns on high yield bonds relative to Treasuries have been higher when the yield curve is steep (long dated bonds pay more than short dated bonds ). However, as of May 2022, the yield on 2-year and 10-year government bonds was very close, and in fact the month before the 2-year actually exceeded the 10-year, which is called an inversion. This strains the profitability of high-yield bond issuers like banks.

Bottom line

SmartAsset: Investing in Series I Savings Bonds (iBonds)

SmartAsset: Investing in Series I Savings Bonds (iBonds)

Series I Savings Bonds are a powerful anchor in the wind, financially speaking. They are low-risk savings bonds issued by the US government that pay a very high rate of interest. Until October 2022 they paid a high 9.62%. You can buy them electronically through TreasuryDirect (up to $10,000) or you can use your IRS tax refund to buy Series I paper bonds (up to $5,000). By combining electronic and paper purchases, you can purchase up to $15,000 worth of Series I bonds each year. Keep in mind that there is no secondary market for them.

Tips for investing

  • A financial advisor can help you manage the fixed income portion of your portfolio as interest rates rise and inflation rages. SmartAsset’s free tool matches you with up to three financial advisors serving your area, and you can interview your advisors at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you reach your financial goals, get started now.

  • Check out SmartAsset’s free inflation calculator to help you determine the purchasing power of a dollar over time in the United States.

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