The Labor Department released the March CPI-U numbers earlier this month, and with these numbers, the next I Bond inflation component can be computed. The declining gas prices late last year definitely impacted the numbers resulting in negative inflation. This is bad news for savers who have I Bonds or who are considering buying I Bonds. Based on September and March CPI-U numbers, the inflation component for the May I Bond should be -1.6% (annualized). This number is added on to the I Bond fixed rate to derive the I Bond composite rate. Fortunately, they have a floor for the composite rate of 0%. The composite rate can’t be negative. We’ll have to wait for May 1st before we know the next fixed rate. The current fixed rate is zero. The fixed rate hasn’t been above 1% since 2008, so it’s very likely that the composite rate announced on May 1st will be zero.
I Bond Rates of Return for April 2015 Purchase
In summary, an I Bond purchase this April will neither be a good short-term deal nor long-term deal.
If you buy I Bonds before May, your I Bond will have a fixed rate of 0% and an inflation component of 1.48%. Thus, the composite rate is the same as the inflation rate of 1.48%. This rate will remain in effect for six months until October 1, 2015. The I Bond inflation component that the Treasury announces in May will take effect for your I Bond (purchased this month) in October. That will remain in effect for six months. Since we know the May I Bond inflation component, we can compute the I Bond return for the next year for I Bonds purchased in April.
The semiannual inflation rate announced in May is the change between the CPI-U figures from the preceding September and March
All previous CPI-U numbers are available from this government webpage. The CPI-U for September 2014 was 238.031. The March 2015 CPI-U was 236.119. This is a decrease of 0.8%. The annualized version of this is -1.6%.
If you buy before May, you'll receive the current I-Bond fixed rate of 0% for the life of the I Bond. The inflation component will be added to this rate and will change every 6 months. The current inflation component is 1.48%, and the composite rate is 1.48%. Here's an estimate of the return for the next year:
- 1.48% from April 2015 through September 2015
- 0% from October 2015 through March 2016
I Bonds increase in value on the first day of the month. So on May 1st, you'll earn the interest for the full month of May. So for maximum return, it's best to buy I Bonds near the end of the month and redeem them early in the month.
If you redeem an I Bond before 5 years, you lose the last 3 months of interest. So based on this and the above numbers, if you buy an I Bond on April 30, 2015 (best not to wait to the last day), the redemption value of the I Bond on April 1, 2016 would be about 0.74% higher. For 11 months, this comes out to an annualized yield of about 0.81%.
Below is an estimated annualized return for I Bond redemption from April 1, 2016 to July 1, 2016. It is assumed you will buy the I Bond on April 30, 2015 which gives you almost an extra month of interest. This effectively reduces the 3-month penalty to 2 months.
- 0.81% - redeem on 4/1/16, 6mo of 1.48%, 3mo of 0%, and 3mo of 0% (penalty)
- 0.74% - redeem on 5/1/16, 6mo of 1.48%, 4mo of 0%, and 3mo of 0% (penalty)
- 0.68% - redeem on 6/1/16, 6mo of 1.48%, 5mo of 0%, and 3mo of 0% (penalty)
- 0.63% - redeem on 7/1/16, 6mo of 1.48%, 6mo of 0%, and 3mo of 0% (penalty)
Note, it's best not to wait until the last day of the month to buy I Bonds at Treasury Direct. You probably want to give yourself at least two business days to ensure they are officially purchased before the end of the month. I did an experiment in 2011 to see how close to the end of the month one could wait (see the middle of this post).
I Bond Purchases AFTER April 2015
We won't know the I Bond fixed rate until May. The current fixed rate is zero, and as I mentioned above, the fixed rate hasn’t been above 1% since 2008. The highest it has been since 2011 is 0.20%, which was the fixed rate that took effect on November 2013. That was after three years of zero fixed rate. The Treasury doesn’t disclose how it makes its decision regarding the fixed rate. If they want to make the savings bond look at least a little bit attractive, you would think they would at the very least offer a fixed rate higher than zero. That’s another reason to hold off on an I Bond purchase. I think there’s a reasonable chance of seeing a higher fixed rate in May, although it may not be much above zero.
With a high negative inflation component of -1.6% in May, the composite I Bond rate will most likely be zero since the composite rate has a floor of zero. The only way that it won’t be zero is if the Treasury announces a fixed rate of more than 1.6%. The last time the Treasury announced a fixed rate that high was in 2003.
For a I Bond purchase in May, it’s very likely the rate will be zero for the first six months. We’ll have to wait until mid October to know the inflation component for the next six months. If the fixed rate rises considerably in May, it may be worthwhile to purchase an I Bond. The long-term benefit of the higher fixed rate will offset the six months of the zero rate.
Remember the $10K Annual Purchase Limit
Don’t forget that the annual purchase limit is $10K (excluding the purchases using your tax refund). Also, remember that the Treasury ended offering paper savings bonds at banks. However, it did double the annual purchase limit at Treasury Direct (see post).
How It Compares to Today’s CDs
Even with the tax advantages of the I Bond, a 12-month CD is currently a better short-term deal than an I Bond. You can easily get 12-month CDs with rates much higher than what an I Bond will offer over the next 12 months. The best nationally available 12-month CD rate is 1.31% APY at Chartway Federal Credit Union. The best 12-month CD rate at a bank is 1.23% APY at Synchrony Bank. The CD rates are accurate as of 4/27/2015.
I Bond Features
Below is a summary of the I Bond features. More information is available at this Treasury I Bond page:
- Can't be redeemed within 12 months of issue date
- Lose 3 months interest if redeemed within 5 years
- Interest is composed of fixed and inflation-based rate
- Fixed rate remains for life of bond
- Inflation-based rate changes every 6 months after issue date
- New rates announced every six months on November and May 1st
- Federal tax can be deferred on interest until bond is redeemed
- Interest is exempt from state and local tax
- Some or all interest is tax exempt when used for educational expenses
- $10,000 maximum of I Bond purchases per year (excluding purchases using your tax refund) - total was $60,000 before 2008 (Treasury's press release).
For more details about the purchase limit, please refer to the Treasury Direct's FAQ on the new purchase limit.