Opinion: Treasury should raise the I Bond’s fixed rate

But will it? The odds are better now. The data clearly support a higher fixed rate.

By David Enna, Tipswatch.com

How the U.S. Treasury sets the fixed rate on the Series I Savings Bond is wrapped in mystery. No one knows how or why. There is no formula. The Treasury says nothing except to announce the new fixed rate every May and November.

Right now, the common thinking in the I Bond community is this: “Demand for I Bonds is unusually strong and the Treasury doesn’t need to raise the fixed rate.” And, yes, this is true. But as a matter of fairness, the Treasury should raise the fixed rate, to reinforce the idea that an I Bond is a quality long-term holding for small-scale investors.

There is no question that demand for I Bonds is strong, triggered by the current annualized variable rate of 9.62%. This demand will probably continue into 2023 with a new variable rate somewhere around 6.2% to 6.4%. This is from a Barron’s article on the boom in demand in I Bonds:

“The average monthly issuance of $2.7 billion so far in 2022 compares with monthly sales of just $30 million in early 2021 when the rate was just 1.7%.”

The fairness issue

For short-term investors looking to swoop into very attractive I Bond rates for 12 to 15 months, a higher fixed rate doesn’t make much of a difference. But for investors looking to hold I Bonds for many years, a fixed rate above 0.0% is hugely attractive. Why? Because the fixed rate is permanent, staying with an I Bond for a full 30 years, or until it is redeemed.

That is why I say raising the fixed rate is an issue of fairness. While in the short-term a return of 9.62% is extremely attractive, the return on that I Bond is going to — eventually — track down with falling inflation. An I Bond with a 0.0% fixed rate has a “real yield” of 0.0% — meaning it will only track future inflation but not exceed it. That was fine over the last 2 1/2 years, when real yields on a similar investment — Treasury Inflation-Protected Securities — went deeply negative. But right now, 0.0% is a lousy real yield for a longer-term investor seeking inflation protection.

Here is the current real yield curve for TIPS, as estimated Friday by the U.S. Treasury:

Under “normal” circumstances — which admittedly have been rare over the last 12 years — the I Bond’s fixed rate tends to track 50 to 75 basis points below the real yield of a 10-year TIPS. I think that is fair, because I Bonds have several advantages: Tax-deferred interest, better deflation protection, ease of ownership and more efficient compounding.

Right now, however, the I Bond’s fixed rate of 0.0% is a stunning 168 basis points below the real yield of a 10-year TIPS. That makes TIPS — a more complicated investment — more attractive. The Treasury should recognize this and raise the I Bond’s fixed rate. I am going to suggest 0.3% to 0.5%. A 0.5% rate would put the fixed rate where it was in Fed’s last tightening cycle from November 2018 through November 2019. At that time, in November 2018, the 10-year TIPS had a real yield of 1.1%, much lower than it is today.

Here are the data I track on the spread in yield between the I Bond’s fixed rate and the 10-year TIPS real yield. (I used to also track the 5-year spread, but I found it wasn’t a reliable predictor.) In this chart I have highlighted in green the times when the Treasury raised the I Bond’s fixed rate above 0.0%.

There are some fairly large variations on this chart, but you have to go back to May 2009 to find a yield spread that approaches 168 basis points. Look at November 2019, when the Treasury set a fixed rate of 0.2% when the 10-year TIPS was yielding only 0.21%, a spread of just 1 basis point.

OK, I admit the variations could indicate the Treasury doesn’t even look at the 10-year real yield, and sets the I Bond’s fixed rate on demand alone. If that is true, then the fixed rate will continue at 0.0% from November 2022 to April 2023. But if the Treasury does look at the I Bond/TIPS yield spread — and it should — it will recognize the need to raise the I Bond’s fixed rate on November 1.

Why? Raising the fixed rate reinforces the idea that an I Bond is best used as a longer-term investment. The new crop of short-term investors will still be heading to the exits, most likely later in 2023. But I Bonds are a smart, sensible investment for capital preservation, ideal for the small-scale investor. The Treasury should reinforce that idea with a higher fixed rate that matches market trends.

Of course, this all depends on real yields holding at these high levels through October. Nothing is certain in today’s wild bond market.

Confused by I Bonds? Read my Q&A on I Bonds

Hold off on buying I Bonds?

The obvious question will be … and here it comes … “Should I hold off on buying I Bonds until November to see if the fixed rate increases?” I believe that most of my readers have already bought I Bonds up to the $10,000 per person cap for 2022, so the question is moot. For others, it’s probably a toss up. If the fixed rate rises, you will be happy. If it stays at 0.0%, you miss out on 9.62% for six months.

And remember, if the fixed rate rises in November, it will be available for new purchases in January 2023, up to the $10,000 per person cap. So everyone wins.

I’d put the odds of a higher fixed rate at 50/50 at this point. Most people in the I Bond community believe the odds are much lower, but definitely above zero. We can’t ignore that TreasuryDirect has been overwhelmed this year by demand for I Bonds. Wouldn’t it be adding fuel to the fire by raising the fixed rate? Yeah, I see the dilemma.

But realistically, the fixed rate should be higher. So Treasury … do it.

An addendum, for the nerds …

In the comments I mentioned the Federal Register’s current regulations for I Bonds. Here is the link, which is often useful for understanding how I Bonds work.

Some quotes:

§ 359.10 What is the fixed rate of return?

The (Treasury) Secretary, or the Secretary’s designee, determines the fixed rate of return. The fixed rate is established for the life of the bond. The fixed rate will always be greater than or equal to 0.00% [1] . The most recently announced fixed rate is only for bonds purchased during the six months following the announcement, or for any other period of time announced by the Secretary.

Footnote: [1] However, the fixed rate is not a guaranteed minimum rate. The composite rate is composed of both the fixed rate and a semiannual inflation rate, which could possibly be less than the fixed rate or negative in deflationary situations. In all cases, however, the composite rate will always be greater than or equal to 0.00%.

§ 359.12 What happens in deflationary conditions?

In certain deflationary situations, the semiannual inflation rate may be negative. Negative semiannual inflation rates will be used in the same way as positive semiannual inflation rates. However, if the semiannual inflation rate is negative to the extent that it completely offsets the fixed rate of return, the redemption value of a Series I bond for any particular month will not be less than the value for the preceding month.

* * *

Feel free to post comments or questions below. If it is your first-ever comment, it will have to wait for moderation. After that, your comments will automatically appear.

David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. The investments he discusses can be purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.

About Tipswatch

Author of Tipswatch.com blog, David Enna is a long-time journalist based in Charlotte, N.C. A past winner of two Society of American Business Editors and Writers awards, he has written on real estate and home finance, and was a founding editor of The Charlotte Observer's website.
This entry was posted in I Bond, Investing in TIPS, Savings Bond, TreasuryDirect. Bookmark the permalink.

40 Responses to Opinion: Treasury should raise the I Bond’s fixed rate

  1. Dave says:

    “I believe that most of my readers have already bought I Bonds up to the $10,000 per person cap for 2022, so the question is moot.”

    One can always buy more for gifting into future years, so question isn’t moot.

  2. Pingback: Ignore the fixed-rate drama; buy I Bonds in October | Treasury Inflation-Protected Securities

  3. Pingback: September inflation report sets I Bond variable rate at 6.48%; Social Security COLA rises to 8.7% | Treasury Inflation-Protected Securities

  4. UrsaTaurus says:

    I’m with you David, I think there’s a good chance for a fixed rate bump in Nov.

    I surprised by the degree of cynicism regarding the Treasury and the savings bond program. The Treasury isn’t a for-profit entity and I don’t think they’re out to scam the public for whatever they can get. The entire Savings bond program is a rounding error in the scheme of Treasury debt issuance. They maintain the program as a service to small individual investors, and they don’t mind taking a small “loss” on it.

    As an example, there’s nothing the in program about a minimum 0.0% fixed rate. Yet they’ve kept the 0.0% floor for years while real rates where running negative. The Treasury didn’t care that they were effectively supplementing I Bond investors with above-market rates, so why would they now decide that they must offer way-below market rates?

    I think the greatest risk to a positive fixed rate is that real rates have been very volatile and have only been at this 1.5%+ level for a matter of weeks. Since the fixed rate is locked for 6 months, I do think they would want to avoid a scenario where they offered, say, 1% fixed on I bonds only to have the market drop real rates on TIPS back to 0% or even negative. But if they’re confident positive real rates are here to stay for a while, I don’t see why they wouldn’t offer them on I Bonds as well.

    • Tipswatch says:

      Thanks for your support! One correction: The fixed rate is permanent and stays with the I Bond for 30 years or until redemption. So a higer fixed rate is a big deal for the long-term investor; but not much of a big deal for the Treasury.

      • Pat says:

        I think Ursa was referring to the feds 6 month period of offering that fixed rate, not how long we get the fixed rate.

    • Patrick says:

      It used to be clearer, but Treasury has stated in the past categorically that the composite rate can never go below 0%. Yes, it is a good deal during deflationary periods. Mr. Enna has mentioned this a few times.

      Under I-Bond FAQS at the TD website:

      “Can the value of my I bonds ever be less than I paid?
      No. The interest rate can’t go below zero and the redemption value of your I bonds can’t decline.”

      • UrsaTaurus says:

        Patrick – fair enough, good find.

        I’d argue that the FAQ clarifies that they’ve never issued a negative fixed rate and the 0% floor on inflation adjustment means the net interest can never be negative on all EXISTING I-bonds even in the face of deflation.

        I’m not sure it’s an absolute guarantee that they will never issue a negative fixed rate in the future, though I do agree it’s unlikely. But if real rates were to ever go to, say -2% or lower as they have in Europe in recent years, I doubt the Treasury could justify continuing to offer 0.0% fixed.

        • Tipswatch says:

          The Federal Register states that the fixed rate cannot be below 0.0%. Also the composite rate can’t be below 0.0%. It’s an absolute guarantee, unless the Federal Register is altered.

          • Patrick says:

            Thanks. I don’t read the Federal Register very often (like never). It used to say something like that on the TD I-Bond website, now it is relegated to the TD I-Bond FAQS in government convoluted text.

  5. Julian says:

    I’m not in favor of increasing the national debt by increasing the fixed rate; there is enough demand already for I Bonds. My informal assessment from online forums, friends, and neighbors is that many well-off folks, multi-millionaires included, have been buying I Bonds recently, not just small savers; they don’t need more generosity from the Treasury.

    Also, you’re not making an apples-to-apples comparison between I Bonds and TIPS. I Bonds are liquid after the 1 year lockup less a 90-day interest penalty and penalty free between years 5 and 30, without risk to principal + accrued interest. Because this risk protection endures over a wide range of possible redemption dates and despite bond market conditions — plus the valuable tax deferral option until maturity — I Bonds are worth paying a premium for (i.e., having a lower fixed rate, zero not being unreasonable).

    If the Treasury really wanted to aim squarely for fairness, they could issue a completely tax-free savings bond, perhaps with a limit of $5K-10K per year per person, with no shenanigans permitted that currently allow gifting spouses and others in future years via Treasury Direct’s gift box.

    • Tipswatch says:

      I agree with just about everything you say, except again to note that people buying I Bonds are LENDING money to the U.S. government at less that market rates. So the government benefits from people buying I Bonds instead of TIPS. …. Yes, there are bunch of short-term schemers buying into I Bonds because of the backwards-looking yield, but they will be in this year and out next year, moving on to the next thing. I am more concerned about the many long-term investors in I Bonds that appreciate all the qualities you mentioned, and want a safe, steady way to preserve capital.

    • UrsaTaurus says:

      While your comment on principle risk protection is accurate, the advantage isn’t as great as it may seem because it works both ways.

      If real rates drop, the value of an inflation protected bond goes up. In the case of TIPS you can sell on the open market and realize those gains. In the case of I-Bonds, you can only redeem at par and you lose out on the theoretical gain to value your I-bond “should” have had.

      e.g. With I-bonds you’re protected from downside but also forego upside due to interest rate moves.

  6. Joe says:

    Hi David,

    You did this once before, but I thought it was interesting and maybe worth doing again; mostly for new buyers. Find out the breakeven point with the current and projected variable rates (9.62 and 6.2 – 6.4). Buy a bond now or wait (for those who haven’t already bought).

    Point being, someone might want to have $20,000 worth of I-bonds with both having a fixed rate and therefore waiting (buy in Nov/Dec and THEN Jan 2023). Take the $481 with no fixed rate (which might not happen) or hold off and buy with the 6.2-6.4 and possible fixed rate? As you wrote, I’ve already bought mine, but thought it’d be interesting to see.

  7. Tipswatch says:

    I’ve noticed a couple of interesting themes in the comments: 1) the Treasury has no need to be fair, and 2) the United States can’t afford to pay a higher yield on I Bonds.

    On fairness: True. Maybe I’m naive. But the Savings Bond program — with a respected 87-year history — has a higher purpose to help “regular” Americans invest safely in “small denominations” and without market fluctuations. I can only hope people at the Treasury recognize this.

    On the U.S. deficit: Investors in Savings Bonds are LENDING money to the United States, and in the case of I Bonds are lending it at below-market yields — 0.0% real yield versus about 1.5% for TIPS.

    I welcome all comments, but if your comment gets overly political or off-topic, it will be deleted.

    • woody832 says:

      “I welcome all comments, but if your comment gets overly political or off-topic, it will be deleted.”

      Thanks for this.

  8. butopia1502 says:

    Fairness…….. Hmmmmmm…… Somehow I doubt that concept enter into anything the Treasury does. I mean the I-Bond is just another piece of their capital structure, and one that they can cheap out on to the hapless little fish investors. It’s just a way to raise cheap capital to finance our 30 Trillion in debt. I’m not holding my breath waiting for them to be “fair” or to “do us a favor”.

  9. Patrick says:

    The basic assumption by many is that Treasury is on our side. It is not. I am pretty sure Treasury was sorry it started the I-bond project. This was obvious when they reduced annual purchases to $10,000 a year from $30,000 a year per social security number. It was obvious when they pretty much eliminated paper I-bonds (and EE bonds), which were more convenient for non-computer savvy people. It is obvious when they will not reveal how they calculate the fixed rate.

    They will leave the fixed rate at 0% or increase it by such a paltry amount that it will make no difference in the decision-making process of investors. I would be happy to find out that I was wrong about all this.

    • Tipswatch says:

      One point: The Treasury has ramped up issuance of TIPS by 25% in the last few years, so that indicates it is not phasing out inflation-protected investments. But the fact that TreasuryDirect has been overwhelmed by I Bond interest does support they idea they can “stand pat.”

  10. Eric says:

    Based on the data in your chart, 2018 and 2019, when the fixed rate for both the I Bond and TIPS increased, it seems likely there will be a fixed I Bond component.

    Because TIPS are to protect from inflation, I will buy them due to the greater yield compared with I Bonds, and offset the risk of deflation, with other fixed-rate fixed income.

    Though, in reality, with the low purchase limits for I Bonds, they are not in direct competition with TIPS.

    Good data.

  11. Mo says:

    Another GREAT article. Thank you. 🙏

    My personal assessment is that I Bond fixed rate will remain at 0.0% as long as the real yield continues to trend higher than 5%.

    To your point, there’s no formula that we know of. Hopefully, folks at Treasury will read your article and concur. 😉

    • Tipswatch says:

      Yours is the consensus viewpoint. I’m the outlier. But my thinking: Is it fair to set a permanent, 30-year investment factor based on a six-month variable rate?

      • John Endicott says:

        Well there’s your problem. You think fairness enters into the equation. When you are dealing with a government bureaucracy, fairness is pretty much never a factor.

        • Patrick says:

          In my many years of interacting with government bureaucrats, I have found discussing fairness to have never been a useful strategy.

  12. Is anyone proposing raising the yearly limit for I Bond purchases? It would make sense to encourage saving. I agree with you on the case for raising the fixed rate. I’m looking forward to the new 5 Year TIPS auction later this month.

    • Tipswatch says:

      Legislation has been proposed to raise the limit to $30,000 a year. I plan to write about that next week.

      • jvalente says:

        I’ve been purchasing I Bonds for almost 20 years. I can recall when the Treasury placed a $10,000 limit on annual purchases in 2012. That limit has not increased in 10 years, so I agree, the annual limit should be increased. In fact, using the Bureau of Labor Statistics CPI inflation calculator, $10,000 in January 2012 is equivalent to $13,066.46 in August 2022. Although, I’d love to see a higher limit, I think it would be fair to at least increase the limit to $13,000.

      • Jimbo says:

        But the gotcha was that inflation had to be more than 3.5%.
        Only a politician could come-up with something like that.

  13. Don says:

    Wouldnt a simple fixed increase make the national debt bigger in the long run? Not much support for that. Do not think that is needed to sell these now?

    • Tipswatch says:

      When the government is auctioning TIPS with a real yield higher than 1.5%, it should be willing to give I Bond investors 0.5% in real yield.

    • Eric says:

      There actually seems to be huge support for raising the national debt. The only question is, who gets the money.

      Of course, I Bonds are bought by small investors, so naturally, should get a worse deal than TIPS buyers. (that’s satire).

  14. gary says:

    Your case for a fixed rate on I Bonds should include consideration of how taxes on I Bond income reduces the real return below inflation. Without a fixed rate sufficient to overcome the future tax burden, you do not keep up with inflation.

    • Tipswatch says:

      Definitely true. In past years, I calculated that a 0.5% real yield could cover future taxes, but that was with inflation expectations in the 2.0% range. At the least, it would help.

    • Ben says:

      Great point!

      • Lee says:

        The fixed rate will rise to one percent in November, because of the huge exodus of transient buyers with the extremely high variable rate about to be lowered from now on. The fixed rate has been there for some good reasons, mostly to balance rates and keep as many long term buyers in the game. So what if you do wait, only a few hundred dollars separate what you’ll get 9.62% v. 6.48% anyway on 10K max. Wait for the the new rate with crossed fingers that you will have up to 30 years to have the security of a fixed rate, and I mean that in all seriousness.

        • Tipswatch says:

          If the I Bond’s fixed rate rises to 1.0%, we can all celebrate because the $10,000 purchase cap per person resets on Jan. 1. I don’t think that it will be set that high. Honestly, I have no idea on how the Treasury will approach this decision.

          • Todd says:

            Your guess ended up being right on — a 0.4% fixed rate was added as of November 1, 2022. Well written and thought out story!

            • Tipswatch says:

              One important aspect of the Treasury’s decision is that it seems to confirm that officials look at current real yields when setting the I Bond’f fixed rate, and not just “current demand,” which was already high and would have been high even without the higher fixed rate. The Treasury made the right decision.

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