With the Federal Reserve keeping interest rates at zero and Fed Chairman Powell saying last month that the Fed “is not even thinking about thinking about raising rates”, interest on your cash reserves is very hard to come by. Also, as we’ve talked about in prior Cadence Clips pieces, inflation has been gaining steam, which further erodes the purchasing power of your cash.
So, what is one solution if you want to keep a cash reserve but also earn some interest without any downside risk to your principal? CDs used to be an answer, but as of the writing of this article, a quick search finds the best rate available for a 2-year CD to be .75%, and going all the way out to a 5-year CD, the best rate available is 1.1%. Not very appealing. A possible solution that may work for you are Series I Savings Bonds, or I bonds for short.
Series I Savings Bonds are issued by the US Treasury and can be purchased online by setting up a TreasuryDirect account at www.treasurydirect.gov. Electronic I bonds can be purchased to the penny in any amount for $25 or more, up to $10,000 a year. Paper I bonds can also be purchased using your tax refund, but they are only available in denominations of $50, $100, $500, and $1,000 with a $5,000 annual limit.
I bonds earn interest two ways: A fixed rate (currently at 0%), and a rate that is set twice a year based on inflation. The inflation rate is based on the non-seasonally adjusted Consumer Price Index for all Urban Consumers (CPI-U) for all items, including food and energy, and is set every six months on the first business day of May and November. The current rate of an I bond issued from May 2021 through October 2021 is 3.54% (*note that as of this blog post’s publication date the new 6 month rate for an I Bond issued from November 2021 to April 2022 is 7.12%.) Not too shabby!
What are the drawbacks?
- I bonds must be held for 12 months before they can be sold. After 12 months and up to 5 years, I bonds can be sold, but you’ll lose the last 3 months of interest. With the top one-year CD rate of .7%, you’ll definitely earn more interest with an I bond.
- You are limited to purchases of $10,000 annually per person.
What are the advantages?
- I bonds are issued by the US Treasury and backed by the full faith and credit of the Federal government, so they are very safe.
- I bonds can help your cash reserves keep place with rising costs because the inflation component is adjusted twice per year to the CPI-U.
- The current interest rate of 3.54% is 2.44% better than the current best 5-year CD interest rate.
- After 5 years, there is no interest penalty to sell an I bond, and they can earn interest for 30 years.
- No state tax is owed when you sell your I bond.
- Federal tax is only owed after the I bond is sold, not as it grows.
In summary, if you have funds that you want to keep as cash for at least a year, but you also want to earn some interest that can keep pace with inflation, consider purchasing Series I Savings Bonds from the US Treasury. And as always, please reach out to your Cadence advisor with additional questions you may have regarding I bonds or to determine if they may be an appropriate tool for your portfolio.
Editor’s Note: This article was originally published in the August 2021 edition of our “Cadence Clips” newsletter and edited on 11.16.2021 to include the new 6 month rate.
Important Disclosures
This blog is provided for informational purposes and is not to be considered investment advice or a solicitation to buy or sell securities. Cadence Wealth Management, LLC, a registered investment advisor, may only provide advice after entering into an advisory agreement and obtaining all relevant information from a client. The investment strategies mentioned here may not be suitable for everyone. Each investor needs to review an investment strategy for his or her own particular situation before making any investment decision.
Past performance is not indicative of future results. It is not possible to invest directly in an index. Index performance does not reflect charges and expenses and is not based on actual advisory client assets. Index performance does include the reinvestment of dividends and other distributions
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Examples provided are for illustrative purposes only and not intended to be reflective of results you can expect to achieve.
