Inflation problems?
To help your savings keep up
Consider I Bonds

Inflation is a hot topic right now. There is a dearth of products to buy due to supply-chain disruptions. The lack of supply coincides with large amounts of liquid cash floating around the economy thanks to pandemic stimulus programs. The result of this equation is high inflation. Current rates are the highest they’ve been in 40 years.

To help cool off inflation, the Federal Reserve can raise the discount rate. This causes the interest rates for all new debt in the country to increase. A higher discount rate means a higher Federal Funds Rate, which makes it more expensive for banks to lend each other funds to meet required reserve minimums. This in turn makes banks less likely to deplete their reserves through issuing new loans. This in turn causes banks to increase consumer lending rates. Companies and individuals looking to finance purchases through loans may decide against doing so if interest rates are too high.

This “tight” money policy chain reaction reduces the liquid cash circulating the economy. It changes the supply/demand equation by reducing demand. In the end, this change in the calculus underlying inflation causes the rate of inflation to decrease.

The problem is, while we all wait for inflation to cool off, the safest part of our portfolios – cash and guaranteed investments like annuities and bonds – can’t keep up with the cost of goods. This is especially difficult for retirees living on savings and investments.

People in retirement can expose themselves to sequence of returns risk by raising cash from equity-based investments in a down market. The only option is to pull funds from low risk holdings like cash and bonds at a time when cash and bonds aren’t worth what they were just a few months ago.

Fortunately, as is often the case, the financial system has a little-used tool for this situation.

Series I Bonds are designed to keep up with inflation. They have two interest rates, a fixed rate (which is currently 0.00%), and a second interest rate that the Fed updates every May and November. This second interest rate is tied to inflation via the Consumer Price Index (CPI). The result is an interest payment that keeps up with inflation.

Starting in May, Series I Savings Bonds will pay interest at 9.6%. They are currently paying 7.12%.

One of the golden rules of finance is that if something has a benefit, then it has a cost. The greater the proposed benefit, the more you will pay in fees, expenses, or restrictions to take advantage of that benefit.

In the case of Series I Bonds, the costs are as follows:

Individuals are limited to a maximum purchase of $10,000
There is a 1 year holding period requirement before the bond can be redeemed
If you redeem your bond within 5 years of purchase, you will forfeit the last three months of interest payments.
The bonds can only be purchased on what is arguably the worst website in the world: TreasuryDirect.gov
Interest is taxable at the Federal level as ordinary income
They cannot be held inside of IRA or Roth IRA accounts

Overall, not too bad. What exactly are the benefits of these bonds?

They are backed by the full faith and credit of the United States, making them the safest investment in the world (along with other US Government Securities)
Their interest payments are guaranteed to match or exceed the rate of inflation
They can be used tax-free to pay for qualified education expenses, (but not student loans).
Purchasers have the option to defer taxation until redemption or maturity
The bonds can be redeemed at any time after a 1 year holding period, making them reasonably liquid.

The Wall Street Journal has provided a helpful video about Series I Bonds . The author experienced the very worst of TreasuryDirect.gov when he tried to set up his account. My own experience wasn’t nearly as painful or ridiculous.

If you have $10,000 in savings that you don’t need for one year, and the costs and benefits outlined above align with your goals and values, this is an excellent opportunity to grow that cash in a safe, inflation-protected instrument.

Questions? We’re here for you .