It Pays to Procrastinate: The New 6.89% I bonds Will Beat the Old 9.62% Bonds in Just 4 Years

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Yielding 9.62%, the recently maturing Series I bond was understandably popular. With interest rates rising, pension funds are down this year and banks continue to offer abysmal rates on deposit accounts. It's no wonder, then, that late last month a horde of investors crashed the Treasury.gov website in a bid to beat the clock and rake in the highest interest rate the bonds have paid since their inception in 1998.
On Friday, October 28, the day when the old interest rate was to be frozen, the Treasury sold $979 million worth of I bonds. In a bear market, this asset, which offered robust returns and low risk, has angered investors.
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But now it turns out that investors should have waited. Those who snagged new I-Bonds at the last auction, yielding 6.89%, will be making more money a few years from now than those who snagged the old, higher rate. How is that possible? Dive deep into the ins and outs of I Bonds below and consider working with a financial advisor for free to see if I Bonds make sense in your portfolio.
How can an I-Bond rate of 6.89% beat a rate of 9.62%?
This is because I-Bond interest rates have two components: a guaranteed base rate and an adjustable inflation rate that changes at each new semi-annual auction. That staggering 9.62% interest rate was only guaranteed for the first six months that investors hold their bonds. After that, the interest rate will decrease, while the interest rate for the November 2022 bonds will increase steadily.
That's because bonds purchased between May 1, 2020 and October 31, 2022 had a base rate of 0%. The new bonds will be issued with a base interest rate of 0.40%. The new inflation rate of 6.49% means that all previous investors receive exactly that return, while buyers of the new bonds receive a compound rate that includes the basis, giving them 6.89%.
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Even better for the new bond buyers, the base rate is guaranteed for the life of the bonds that don't mature in 30 years, giving those bondholders an extra boost as long as they last. Even if inflation falls to 0%, they still get a 0.40% yield.
Amid the higher base rate, buyers who got I-Bonds at the 6.89% rate should be ahead of buyers who locked in the 9.62% after about four years. It's always important to ask an advisor what makes sense for you in terms of growth and cash flow.
A historical look at I Bonds
The first I-Bonds were issued in September 1998 with a policy rate of 3.40%, which rose to 3.60% in May 2000, the highest ever. Since then, the guarantee has declined steadily, hitting 0% several times, including this last, longest run from May 2020 to October. That means anyone holding an I-Bond purchased between May 1, 2000 and October 31, 2000 is enjoying a 10.20% interest rate today, although that's quite a drop from the last six months , when he received 13.39%.
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Last-minute buyers of I-Bonds needn't feel bad, though -- they'll get the 9.62% interest rate through the end of April, as the bonds will pay the compound interest rate at the time of their auction for six months, starting on the first day of the month month in which they were purchased. The inflation rate is adjusted twice a year at each auction, which takes place on May 1st and November 1st.
How is bond interest calculated?
In case you're wondering how exactly I-Bond rates are calculated, it's the sum of the fixed rate plus twice the semi-annual inflation rate for the last six months (in the most recent auction, that's the CPI change from March to September). This result is added to the sum of the fixed interest rate multiplied by the inflation rate. The whole calculation looks like this: [fixed rate + (2 x semi-annual inflation rate) + (fixed rate x semi-annual inflation rate)].
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Full details of I-Bond rates and how they are calculated can be found here, while a historical chart of each bond's full history is posted here.
bottom line
In a truth that's quite counterintuitive, investors who buy I Bonds at the new 6.89% rate can find themselves after four years ahead of investors who locked in the 9.62% rate that expired last month. Amid all the fanfare to deliver that nearly 10% yield, investors would have done well to exercise patience and factor the base rate into the equation, which has jumped to 0.40% in this latest offering.
Fixed Income Tips
A financial advisor can help you select fixed income securities that complement your investment goals, timeline, and risk profile. Finding a financial advisor doesn't have to be difficult. SmartAsset's free tool puts you in touch with up to three financial advisors operating in your area and you can interview your matching advisors for free to decide which one is right for you. If you're ready to find an advisor who can help you achieve your financial goals, start now.
Use our free investment calculator to get a quick estimate of how your investments are likely to perform over time.
It is possible to buy more than the individual limit of $10,000 for I Bonds. Here's how. Senators are also currently fighting to allow you to buy even more I-Bonds.
Photo credits: ©iStock.com/jetcityimage, ©iStock.com/jetcityimage
The post It Pays to Procrastinate: The New 6.89% I Bonds Will Beat the Old 9.62% Bonds in Just 4 Years appeared first on the SmartAsset blog.

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