I-Bonds’ Appeal Fades Amid Changing Rates

The Value of Holding I-Bonds Has Diminished Following a Remarkable Two-Year Run

In December 2021, Lincoln Capital wrote about Series I Savings Bonds (“I-Bonds”) being a compelling investment opportunity for several reasons. I-Bonds are government issued, inflation protected bonds that earn interest monthly (compounded semiannually). The interest rate is reset twice a year based on current inflation rates plus a fixed rate component that is constant over the life of the bond.

At the time of the writing two years ago, I-Bond interest was 7.12% (which increased to 9.62% at the following reset in May 2022), an extremely attractive alternative to bank deposit rates, money-market funds, and CD’s*. As a comparison, a five-year CD was yielding a mere 1.35% at the time, so it was hard to ignore the opportunity to earn over 7% on an investment backed by the full faith and credit of the U.S government and with zero mark-to-market risk.

Short-Term Returns Impacted by Fed Inflation Measures

The yield for I-Bonds has decreased as the Federal Reserve has aggressively combated inflation by raising the Fed Funds Rate. As of the latest update (November 2023), new I-Bonds can be purchased with a yield of 5.27%. Investors who purchased in December 2021 had their rate reset to 3.94% last fall. Currently, you can purchase a 1-year Treasury yielding 4.8% or a 3-month Treasury Bill at 5.4%.

Long-term returns on I-Bonds are unknown due to the changing inflation landscape. From 1998 through 2019, the average inflation component was 1.07% versus today’s level of 1.97% (these are 6-month inflation rates)*. The inflation component of I-Bonds is heading lower with inflation tamed by the Fed. Therefore, while long-term returns on I-Bonds are uncertain, it is apparent that their investment appeal has waned since our prior recommendation.

Penalty Considerations When Redeeming I-Bonds

I-Bonds have a minimum holding period of 1-year before redemption and, if redeemed between years 1-5, the owner forfeits the last three months of interest. For investors purchasing closer to our original I Bonds update in December 2021, the penalty is likely to be approximately 0.85%. For bonds purchased more recently, through October 2022, the penalty could increase to 1.05%. Investors who purchased during these time periods should incur the penalty and sell. For bonds purchased after October 2022, the bonds are either still within the 12-month sales restriction period, or the last 3 months of interest is too high to justify incurring.

Final Thought: Consider a Treasury Bond Ladder

This will be our last writing about I-Bonds for the foreseeable future. For investors that may be uncertain on whether to sell their I-bonds, we suggest following the process Lincoln Capital does with all investments━analyze and understand the potential rate of return, as well as the diverse types of risk, then compare them to alternative investments on a risk-adjusted basis.

For investors that hold I-Bonds, we much prefer a Treasury bond ladder to I-Bonds.  Lincoln Capital’s one year treasury bond ladder was yielding 4.9% net of fees as of January 22.  For clients who wish to join our Treasury bond ladder program, we offer this service at a reduced rate of 0.25% (25 basis points; $100,000 minimum).

Contact us if you want to implement a Treasury Bond Ladder or if we may be of assistance in any manner.

*Treasury bond yields, including I-Bond’s and inflation data, are compiled from the website of the U.S. Department of the Treasury.