24 Oct Are inflation-indexed bonds — I Bonds — still a good deal?

Q. Are inflation indexed bonds still smart now that more bank accounts are paying higher interest for savings?
— Investor

A. This is a great question.

Series I Bonds, or inflation bonds, grew in popularity last year when inflation was rearing its head.

An I Bond has two interest rate components: a fixed rate, which is generally minimal, and a variable rate that fluctuates with inflation, said Molly Rimes, a planning associate with Modera Wealth Management in Westwood.

The inflation-based rate is set every six months.

“The interest is compounded, or added to principal, when the new interest rate is set,” she said. “So unlike some other bonds, the interest earned is not paid out as cash, but rather reinvested.”

The bonds earn interest for 30 years unless you cash it out first, she said.

“You have the ability to cash out the bond after holding it for at least 12 months,” she said. “However, if you cash in the bond after holding it for less than 5 years, you lose the last three months of interest as a penalty.”

It’s also worth noting that each person, via their Social Security number or tax ID, can only purchase $10,000 worth of I Bonds annually, she said.

Currently, I Bonds are yielding about 4%, but last year there were times when they were hovering around 8%, which was very attractive to investors, Rimes said.

To compare, high yield savings accounts are currently also yielding about 4%, and some are even close to 5%. They also compound the interest you earn, generally on a monthly basis, where I Bonds compound semi-annually.

“Whereas the I Bonds are tracking inflation, bank accounts are tracking interest rates,” she said. “There are no limits to how much you can hold in a bank account, although you should be aware of the FDIC coverage limits.”

When comparing your options, one factor to consider is how much reward you are receiving for giving up immediate liquidity, Rimes said.

“If you purchase the I Bond and you keep it for over five years, there is no penalty for cashing in the bond, but what if you decide you need the funds earlier? There are no such penalties with a bank account,” she said. “Right now, I Bonds are not providing any extra yield to compensate for the risk of locking your money up.”

Rimes said another factor to consider is where you think inflation and interest rates are going. Is high inflation behind us, or will it be persistent and increase again? Is the Fed going to lower interest rates, or increase them?

“Try as we might, we do not have a crystal ball, but we do know that the Fed has stated that their goal is to tame inflation by raising interest rates,” she said.

Email your questions to .

This story was originally published on Oct. 24, 2023.

NJMoneyHelp.com presents certain general financial planning principles and advice, but should never be viewed as a substitute for obtaining advice from a personal professional advisor who understands your unique individual circumstances.