Searching for yield in all the wrong places?

[Mel Lindauer]

If so, here's something to consider. http://blogs.forbes.com/thebogleheadsview/

Best regards to all.

Mel

[livesoft]

There used to be an important exception to savings bonds being tax-free for qualified educational expenses: Income too high. Is that still true?

[Mel Lindauer]

There used to be an important exception to savings bonds being tax-free for qualified educational expenses: Income too high. Is that still true?

Yes, and that's why I always try to say "qualifying educational expenses".

[Mel Lindauer]

There used to be an important exception to savings bonds being tax-free for qualified educational expenses: Income too high. Is that still true?

I should have added that if someone thinks that they'll be earning too much to qualify for the tax-free educational benefit by the time their child is entering college, they can always redeem their bonds while they still qualify and put the entire proceeds into a 529 Plan, which qualifies for the tax-free educational benefit. Then they'd use the 529 later for their children's education.

[nedsaid]

I have always liked Savings Bonds. I bought some EE bonds when they had a guaranteed return of 6%. Unfortunately, I didn't buy the I Bonds when they first came out. I bought a couple of them and that was it.

I saw the errors of my ways and started buying the I Bonds at Treasury Direct during the last financial crisis. I add to these rather than to my savings accounts. Atleast I get the rate of inflation as a yield.

[Johm221122]

Good written and informative article, I think it will be useful to many Forbes readers
John

[xram]

So what are the odds of IBONDS paying out 3.56% average over twenty years?

From article:

I Bonds

I Bonds (the “I” stand for inflation) provide a risk-free, tax-deferred inflation-adjusted return that’s made up of a composite rate that’s a combination of the fixed rate (currently 0%) and an inflation adjustment (currently 1.76%). The inflation adjustment changes every six months, on May 1 and November 1, and reflects changing inflation rates.

EE Bonds

While the current fixed yield is nothing to get excited about ( 0.20%), it still is better than many current bank account yields. (That’s the rate you’ll get on EE Bonds purchased through April 30, 2013.). However, there’s a rainbow for EE Bond investors at the end of the 20-year holding period, since they’re guaranteed to DOUBLE in value at that time. And with that doubling, you’ll earn a not-too-shabby (by today’s standards ) of ~3.56%.

[Johm221122]

So what are the odds of IBONDS paying out 3.56% average over twenty years?

From article:

I Bonds

I Bonds (the “I” stand for inflation) provide a risk-free, tax-deferred inflation-adjusted return that’s made up of a composite rate that’s a combination of the fixed rate (currently 0%) and an inflation adjustment (currently 1.76%). The inflation adjustment changes every six months, on May 1 and November 1, and reflects changing inflation rates.

EE Bonds

While the current fixed yield is nothing to get excited about ( 0.20%), it still is better than many current bank account yields. (That’s the rate you’ll get on EE Bonds purchased through April 30, 2013.). However, there’s a rainbow for EE Bond investors at the end of the 20-year holding period, since they’re guaranteed to DOUBLE in value at that time. And with that doubling, you’ll earn a not-too-shabby (by today’s standards ) of ~3.56%.

Here is a recent post discussing this
viewtopic.php?f=10&t=106029
John

[Phineas J. Whoopee]

So what are the odds of IBONDS paying out 3.56% average over twenty years? ...

Hi xram,

Let's start with what we know. Savings bonds are US Treasury obligations, like other Treasuries. We can work out break even inflation for non-Savings bond treasuries based on the present 20-year nominal rate minus the 20-year TIPS real rate.

According to the Treasury, at the end of trading yesterday, 20-year nominals yielded 2.78%, and the same term TIPS, 0.20% real.
http://www.treasury.gov/resource-center/data-chart-center/interest-rates/Pages/TextView.aspx?data=yield

2.78 - 0.20 = 2.58%. That number, break even inflation, is a reasonable estimate of what bond market participants, in aggregate, think inflation is likely to average over the next 20 years.

My calculator says doubling in 20 years is equivalent to 3.53%, so that's what I'll use.

I Bonds bought today have a fixed rate of 0%, which is added to the inflation component as updated every six months. Over the long term today's I Bonds are expected to track inflation, nothing more or less, so I'll show the expected 20-year I Bond rate to be the same as break even inflation.

3.53% > 2.78% = 2.78% > 2.58% = 2.58% > 1.76% > 0.20%

Which is to say:
EE bond doubling > nominal = TIPS (adjusted to expected nominal yield) > break even inflation = expected I Bond yield > present I Bond yield > EE bond yield if not held all the way to 20 years.

It seems market expectations are that at break even inflation, EE bonds will outperform nominals, TIPS, and I Bonds bought today for 20 years, without being exposed to market fluctuations like the TIPS and nominals.

We'll know in two decades whether the market's expectations were accurate.

Let me ask you a question back:

What are the odds of you personally being able to hold EE bonds for exactly twenty years, despite the likelihood of unforeseen and unforeseeable events?

If the odds are high, EEs may be a good choice for you.

PJW

[xram]

So what are the odds of IBONDS paying out 3.56% average over twenty years? ...

Hi xram,

Let's start with what we know. Savings bonds are US Treasury obligations, like other Treasuries. We can work out break even inflation for non-Savings bond treasuries based on the present 20-year nominal rate minus the 20-year TIPS real rate.

According to the Treasury, at the end of trading yesterday, 20-year nominals yielded 2.78%, and the same term TIPS, 0.20% real.
http://www.treasury.gov/resource-center/data-chart-center/interest-rates/Pages/TextView.aspx?data=yield

2.78 - 0.20 = 2.58%. That number, break even inflation, is a reasonable estimate of what bond market participants, in aggregate, think inflation is likely to average over the next 20 years.

My calculator says doubling in 20 years is equivalent to 3.53%, so that's what I'll use.

I Bonds bought today have a fixed rate of 0%, which is added to the inflation component as updated every six months. Over the long term today's I Bonds are expected to track inflation, nothing more or less, so I'll show the expected 20-year I Bond rate to be the same as break even inflation.

3.53% > 2.78% = 2.78% > 2.58% = 2.58% > 1.76% > 0.20%

Which is to say:
EE bond doubling > nominal = TIPS (adjusted to expected nominal yield) > break even inflation = expected I Bond yield > present I Bond yield > EE bond yield if not held all the way to 20 years.

It seems market expectations are that at break even inflation, EE bonds will outperform nominals, TIPS, and I Bonds bought today for 20 years, without being exposed to market fluctuations like the TIPS and nominals.

We'll know in two decades whether the market's expectations were accurate.

Let me ask you a question back:

What are the odds of you personally being able to hold EE bonds for exactly twenty years, despite the likelihood of unforeseen and unforeseeable events?

If the odds are high, EEs may be a good choice for you.

PJW

I think the odds of holding them for 20 years are very good. I am fortunate to have a high-paying stable job that should not go out of demand (i.e. surgeon (specialist)) at any time in the near future.

I have a 6-7 month emergency fund already saved.

I already own some I bonds in my portfolio.

I think we (wife and I) will buy some ee bonds pretty soon. A guaranteed 3.56 or close to that sounds PRETTY darn good to me....

thanks...
xram

[Old Guy]

In 2001 I bought $27,000 worth of I bonds. I think the minimum they would earn was 3%. I bought them in part because I could charge them to my credit card and get Marriott Reward points. I planned to use the money tor paying for my son's college expenses. I did not need them and have still have them. They're now worth over $50,000 and they keep on chugging along nicely.