When teaching investments classes, I like to make the point that investors have to expect a positive real return on their investments for them to find investing attractive.
Expectations don't always come true, since markets can head south like they did in January, down 3.46 percent as measured by the S&P 500 index. But investors have to expect that both their wealth and purchasing power will grow over time to invest.
I got to thinking about the Series I savings bond after looking at the U.S. Treasury's Daily Treasury Real Yield Curve, where the Treasury calculates the implied real yields by comparing Treasury inflation-protected securities (TIPS) yields to Treasury yields to determine Real Constant Maturity Treasury Rates, or R-CMTs. Constant maturity is an adjustment that reflects the fact that outstanding Treasury issues see their final maturity shorten daily. A 10-year maturity issued three months ago now only has 9 3/4 years until it matures.
The R-CMT for the 5-year on Feb. 5, 2014, was a negative 0.28 percent yield. That's not shocking since the 5-year's R-CMT first went negative in September 2010 and has been mostly negative since that time. There were rare days since then when the 5-, 7-, 10-, and 20-year R-CMTs were all negative, with only the 30-year maintaining a positive real yield.
This isn't a post about the longer maturities. I'm focused on the 5-year because of the comparison to the Series I savings bond.
The I bond is an inflation-indexed savings bond. It has a fixed rate of return plus an inflation premium.
Investors can buy Series I savings bonds between now and the end of April and earn a 0.2 percent real return plus a yield based on the inflation rate as measured by the Consumer Price Index. That's 0.48 percent better than the 5-year R-CMT on Feb. 5.
While a Series I savings bond earns interest until its 30-year final maturity, savings bond owners have to own their bonds for at least five years or they pay a three-month interest penalty for early redemption. There's also a minimum holding period of one year, with certain exceptions.
Marketable TIPS don't have these constraints, but the TIPS will vary in price with changes in the interest-rate environment and don't have the option that savings bonds do of deferring income taxes on the interest earnings until the bonds mature or are sold.
The other thing that prompted this post on the Series I savings bond is that it's still available in paper (physical) form when you use your income tax refund to buy the bonds. You can buy them for yourself or for others. So, there's another way for investors to keep it real, buy using their tax refund to buy paper Series I savings bonds. Since the real rate of 0.2 percent won't change until the end of April, investors in Series I savings bond can lock in this positive real return until then.
Are these savings bonds the right decision for every investor? Of course not. For one thing, if you've got a longer investment horizon, then comparing a 5-year TIPS with a 30-year Series I savings bond isn't the right comparison.
My point is that if you're a retail investor and you're trying to decide between the 5-year TIPS and a Series I savings bond, there are some reasons to lean towards the savings bond between now and the end of April, especially if you want to own the savings bonds in paper form.
What do you think? Would your rather own the 5-year TIPS or the Series I savings bond?
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