The earnings rate on the Series I savings bond took a spill this spring, falling to 1.74 percent. Any I bonds purchased between May 1 and Oct. 31 will be sporting a fixed rate of 0.2 percent that is good for the 30-year interest bearing life of the bond.
The I bond earnings rate is made up of another component in addition to the fixed rate -- the semiannual inflation rate.
While the fixed portion of the rate will last for the duration of the bond, the inflation component is reassessed twice a year based on inflation over the previous six months and is changed May 1 and Nov. 1.
The inflation rate is measured by the Consumer Price Index for all Urban Consumers, or the CPI-U.
Because inflation increased at a slower rate during the period between October 2009 and March 2010 than it had previously, the earnings rate on the I bond fell from the rate issued last November, says Bankrate.com Senior Financial Analyst Greg McBride.
The previous I bond had a fixed rate of 0.3 percent and an inflation rate of 3.06 percent.
TIPS offer a better returnThe I bond has been kneecapped by sluggish fixed rates in recent years, but low returns aren't the only aspects detracting from its appeal.
"It's not a compelling investment. You can't cash it at all in the first year; if you cash anytime within the first five years, you give up three months of interest. So, in reality, you have to hold it for at least five years," McBride says.
He recommends that investors check out Treasury Inflation-Protected Securities, or TIPS, instead of the I bond for the inflation-protection portion of their portfolio.
TIPS offer a better return in addition to being guaranteed by the government.
"There are also different issues of TIPS, so if your investment horizon is 10 years instead of five years, you can invest in a 10-year that carries a higher return," says McBride.
Need a shorter time horizon?For investors with less time to invest than five years, CDs, savings accounts and money market deposit accounts will provide better returns and flexibility while capturing the guarantee of federal deposit insurance.
The Series EE bond also receives a new rate every six months, though the rate only applies to bonds purchased during the six-month period before the next adjustment. The new rate for the Series EE bonds is 1.4 percent.
Though it's nothing to write home about, the Series EE bond does come with the guarantee to double your money in 20 years.
"To double your money in 20 years is an average annual return of 3.5 percent. If you buy it today, you're going to earn 1.4 percent. If you hold it for a whole 20 years, they will make an adjustment at the end of that 20-year window to essentially double your investment, so you would have earned 3.5 percent a year," says McBride.
Then again, with 20 years to invest, most investors can do better than 3.5 percent annual returns.
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