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I-bond rate spikes with inflation

Thanks to oil and other inflation culprits, the I bond's new compound rate is 4.8 percent; a nice jump from the previous 3.67 percent. The I bond is the government's inflation-fighting savings bond.

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The compound rate includes a fixed rate of 1.2 percent and a semiannual inflation-adjusted rate of 3.58 percent. (The slight discrepancy is due to the way the composite is calculated.) The fixed rate stays with investors for as long as they own the bond, while the adjustable rate is pegged to the Consumer Price Index. The rates are reset every May 1 and Nov. 1.

Dan Pederson, president of the Savings Bond Informer, a bond consulting service, says he's surprised the government raised the fixed rate to 1.2 percent from 1.0 percent.

"I'm at a loss to understand why they're giving away more money than they need to. They still would have had a very attractive rate; it would have been 4.6 percent without bumping the fixed rate. It's good for the consumer; they'll take it."

The new rate for the series EE bond is 3.5 percent, up from 3.25 percent. The EE had been an adjustable-rate bond pegged at 90 percent of the average five-year Treasury securities for the preceding six months. It's now a fixed-rate bond with its new rate based on the 10-year Treasury average for the preceding month with adjustments made for features such as tax deferral.

Both the EE and the I bond must be held for one year before they can be cashed. If you hold them for less than five years, you'll pay a penalty of three months' interest.

If you're trying to choose between the two bonds, Pederson suggests buying the I bond if you only plan to hold it for a year or so and take the three-month penalty. You won't know the actual annual return until Nov. 1, when the variable portion is adjusted for inflation, but Pederson says there's a chance the I bond could outperform the EE bond for the full year.

But he cautions that while the current 4.8-percent rate may be attractive to some consumers, the fixed rate is only 1.2 percent. If oil prices level off we're likely to see a lower inflation rate in the second six-month period.

"The key to long term is if you believe inflation will average more than 2.3 percent (the difference between the EE's 3.5 percent and the I bond's fixed rate of 1.2 percent), the I bond will be more attractive to you," Pederson says. "If you think inflation will average less than 2.3 percent, go with the EE."

You can learn more about the government's decision to change the EE to a fixed-rate bond by reading Bankrate's "Savings bond buyers may be offered a lousy deal."

-- Posted: May 2, 2005




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