For some, this week’s 30-year TIPS reopening will be a ‘unique’ opportunity

Posted on August 20, 2023 by Tipswatch

By David Enna, Tipswatch.com

One of the year’s most interesting TIPS auctions is coming Thursday, the reopening of CUSIP 912810TP3, creating a 29-year, 6-month Treasury Inflation-Protected Security. Like many of you, I won’t be a buyer at this $8 billion offering. But for some, this TIPS offers a unique investment opportunity.

I say unique, but that could mean uniquely positive (a good possibility) or uniquely awful (there’s always that chance). But either way, this auction will be unique because it is likely to generate a real yield to maturity of close to 2.0%, or higher. No TIPS auction of the 29- to 30-year term has nabbed a real yield that high since February 2011, when a new issue got a real yield of 2.190%. Just two years ago, a similar August auction got a real yield of -0.292%.

CUSIP 912810TP3 trades on the secondary market, and Bloomberg’s U.S. Yields page shows it closed Friday with a real yield of 2.08%. If that holds on Monday, an investor could bypass Thursday’s auction and lock in a 2% yield over inflation. Or … just wait for the auction and get its result.

Definition: A TIPS is an investment that pays a coupon rate well below that of other Treasury investments of the same term. But with a TIPS, the principal balance adjusts each month (usually up, but sometimes down) to match the current U.S. inflation rate. So, the “real yield to maturity” of a TIPS indicates how much an investor will earn above inflation each year until maturity.

Here is the trend in the 30-year real yield going all the way back to February 2010, when the Treasury restarted the 30-year maturity after an 8 1/2-year pause:

Click on image for a larger version.

The chart show the 30-year real yield only briefly topped 2% during this entire period, in 2010 and early 2011, and again in August 2023.

Some cautions

As I noted, I won’t be a buyer of this TIPS because it will mature when I am 99 1/2 years old. It doesn’t fit into my hold-to-maturity strategy. For others — age 60 or younger — it could fit as the top piece of a multi-year TIPS ladder.

It’s important to recognize the volatility of any 30-year Treasury investment. Even small swings in market real yields can cause substantial changes in the market value of a TIPS. For example, CUSIP 912810TP3 originally auctioned on Feb. 16, 2023, with a real yield of 1.55%, which at the time was the highest auction result in nearly 12 years. That set the coupon rate at 1.5% and the adjusted price was about 98.66 for $100 of value.

Fast forward six months and today that same TIPS has a real yield of 2.08% on the secondary market and its market price has dropped to about 87.34. So this TIPS has lost about 11.5% of its value in only six months. The lesson here is that long-maturity Treasurys are highly volatile; an investor has to recognize that going in. However, if the plan is to hold to maturity and collect 2.0% above inflation, market values aren’t much of a concern. Focus on the plan.

Also, I highly recommend purchasing any long-term TIPS in a tax-deferred account. In a taxable account, yearly inflation accruals of a TIPS (which are added to the principal balance) will be taxed each year as interest income. You won’t recoup that money until the TIPS is sold or matures after 29 1/2 years.

Pricing

On the auction’s settlement date of Aug. 31, CUSIP 912810TP3 will have an inflation index of 1.02632, which means auction investors will be buying about 2.6% additional principal. So an investor purchasing $10,000 par of this TIPS would actually be purchasing $10,263.20 of principal. At Friday’s closing price of 87.34, that principal would cost $8,963.88. Add in about $6.66 of accrued interest and you get to $8,970.54 total cost.

In essence, the investor is paying about $8,964 for $10,263 in principal, plus getting accruals to principal matching inflation for 29 1/2 years, plus collecting a 1.5% coupon along the way. This is a rough estimate based on Friday’s closing market value.

An inflation index of only 1.026 is another reason this long-term TIPS is unique. Because of very high recent inflation, the TIPS maturing in Feb 2052 has an inflation index of 1.094 (9.4% above par) and the one in Feb 2051 is at 1.170 (17% above par). Both of those TIPS also have coupon rates of just 0.125%, the lowest the Treasury will go, compared to 1.5% for CUSIP 912810TP3.

Inflation breakeven rate

With the nominal 30-year bond closing Friday at 4.38%, a 30-year TIPS yielding 2.08% would get an inflation breakeven rate of 2.3%, which is historically high but in line with February’s originating auction. Would I rather invest in a 30-year nominal paying 4.38%? Probably not, but for some this could be a toss up.

Here’s the trend in the 30-year inflation breakeven rate over the last 13 years, showing the range-bound pattern over recent months:

Click on image for a larger version.

Final thoughts

I found an interesting article this week posted by Bloomberg on Yahoo Finance. The headline was: “Inflation-Protected Bond Bulls’ Pain Thresholds Get Tested.” It told how market strategists from TD Securities made a bet on 5-year real yields declining in the near future, hoping for a quick capital gain.

They targeted an improvement to 1.25%, expecting no further Federal Reserve interest-rate hikes and deceleration in US growth and inflation. Three weeks later, the stop-loss threshold of 2.20% was reached as those assumptions came under assault. …

Still, there’s scope for losses to deepen before support emerges, Dominic Konstam, head of macro strategy at Mizuho Securities, said in a Thursday interview on Bloomberg Television.

“There’s a limit to how far you can sell off,” he said. “Five-year real rates are pretty chunky at the moment, and if they go up another 20, 30 basis points that’s going to be quite attractive I imagine for a lot of investors.”

Why is that interesting? Because savvy market strategists got burned by betting on 5-year TIPS, the least volatile of the TIPS issues. Any bet on 30-year TIPS would have been hugely magnified, and hugely unwise.

I am not a TIPS trader and I don’t theorize on TIPS trades. It is possible that CUSIP 912810TP3 could end up being a big winner for traders, or a big loser. The only way I advise investing in CUSIP 912810TP3 is in a hold-to-maturity strategy, with full awareness of the potential losses (or possible gains) if you need to exit early.

An investor in CUSIP 912810TP3 this week can very likely lock in a 2.0% yield above official U.S. inflation for the next 29 1/2 years. And that is unique.

If you are pondering an investment at Thursday’s auction, keep an eye on Bloomberg’s U.S. Yields page, which updates in real time. It is accurate, but any auction result can bring surprises.

Thursday’s auction will close at 1 pm ET. Non-competitive bids at TreasuryDirect must be placed by noon Thursday. If you are putting an order in through a brokerage, make sure to place your order Wednesday or very early Thursday, because brokers cut off auction orders before the noon deadline.

• Now is an ideal time to build a TIPS ladder

• Confused by TIPS? Read my Q&A on TIPS

• TIPS in depth: Understand the language

• TIPS on the secondary market: Things to consider

• Upcoming schedule of TIPS auctions

Here is a history of recent TIPS auctions of the 29- to 30-year term:

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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. Please stay on topic and avoid political tirades.

David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. I Bonds and TIPS are not “get rich” investments; they are best used for capital preservation and inflation protection. They can be purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.

Posted in Inflation, Investing in TIPS, TreasuryDirect | 45 Comments

Now is an ideal time to build a ladder of inflation-protected TIPS

Posted on August 14, 2023 by Tipswatch

It’s rare to see an alignment of attractive yields across all maturities.

By David Enna, Tipswatch.com

For years, I was the “buy at auction” guy when it came to Treasury Inflation-Protected Securities. I’ve written a preview article about every auction since April 2011, so that made sense. I was tracking trends, and figured “I’m on top of this.”

But buying at auction limits you to 5-, 10- and 30-year TIPS maturities, and there are only 12 auctions a year. In the last few years, I began the process of building out a ladder of TIPS investments through the year 2043. I realized “this isn’t working.” At times, real yields weren’t attractive. Other times, they were very attractive. Limiting purchases to one maturity a month didn’t make sense.

Why buy at auction? A TIPS investor can make a purchase of just $100 at TreasuryDirect (or $1,000 at most brokerages) and be guaranteed to get the auction’s high yield, the same yield a million-dollar investor gets. On the secondary market, smaller purchases — usually meaning less than $100,000 — get a small penalty in real yield. A typical rule is that the bigger the investment, the higher the real yield. But the differences aren’t dramatic.

One negative of buying at auction, though, is that you can’t predict exactly the real yield you will receive. The auction sets the yield. A year ago, a string of TIPS auctions got higher real yields than expected. But that has reversed in recent months as demand for TIPS seems to be growing.

Why buy on the secondary market? 1) You can choose your preferred maturity date (which is ideal for building a TIPS ladder), 2) you can see the exact real yield you will receive and 3) you can see the exact cost of the investment before you hit “submit.” At the big brokerages — Vanguard, Fidelity and Schwab — secondary Treasury market purchases incur zero commissions.

One negative of the secondary market, as I noted earlier, is the bid-ask spread and sometimes lofty minimum purchase requirements. There will be times you can’t find any seller willing to accept a $10,000 purchase. The solution: Come back the next day and things can change.

Buying on the secondary market can be confusing. Every existing TIPS has a set coupon rate, sells at a discount or premium to par, and has some level of inflation accruals that you will be purchasing in addition to par. All those factors will affect the price you pay, and an investor needs to understand the ins-and-outs.

If you have questions, consult my TIPS In-Depth page for more detailed answers. Also, read this: TIPS on the secondary market: Things to consider.

Why now?

This chart, showing TIPS real yields from 2011 to 2023, pretty much tells the story:

I started this chart in 2011 because that was the first year of truly aggressive quantitative easing by the Federal Reserve, which by the end of the year pushed 5- and 10-year real yields deeply negative to inflation. Oddly enough, that session of QE was triggered by a downgrade of U.S. Treasurys by Standard & Poors on Aug. 6, 2011, which set off a severe decline in the U.S. stock market.

Less than a month ago, Fitch Ratings matched the S&P move of 12 years ago, downgrading U.S. debt to AA+ from AAA. While the 2011 move by S&P set off a rally in the bond market (presumably triggered by the Fed) this year’s downgrade has sent both nominal and real yields rising. The Fed can’t and won’t come to the rescue — and in fact is probably fine with higher bond yields.

What’s remarkable about this chart is the fact that real yields across the spectrum of maturities are aligning close to 2%, traditionally an attractive yield above inflation for any Treasury investment. It’s highly unusual to see that sort of alignment for maturities ranging from 5 to 30 years.

Here is the 2023 trend in real yields across popular TIPS maturities:

A ladder-building opportunity

The investment world — which rarely pays attention to TIPS and real yields — is starting to take notice. A Bloomberg article posted on Yahoo Finance this week had the headline: “Lesser-Known Treasury Yield Is on Brink of Historic Breakthrough.” The article noted:

The yield on 30-year inflation-protected Treasuries is on the cusp of exceeding 2% for the first time in more than a decade. … For some, a 2% “real yield” is a screaming buy … For others, uncertainty about whether inflation has peaked — combined with the US government’s growing borrowing need — means that all types of long-term yields may need to be higher still. …

“Our message is get into bonds, both nominal and real,” said Rob Waldner, chief strategist fixed income at Invesco.

Real yields certainly could continue to rise, but in mid-August 2023 an investor can jump into the secondary market and purchase TIPS of most maturities and guarantee a return of 1.8% above inflation, or higher. So a ladder could be assembled in a few days, as financial adviser and author Allan Roth demonstrated in his October 2022 article: “The 4% Rule Just Became a Whole Lot Easier.”

Roth wrote that article as real yields were hitting a high for 2022, but those yields quickly declined later in the year in the wake of several mild inflation reports. Note that today’s real yields have now surpassed the 2022 highs across all maturities:

My TIPS ladder is complete through 2043, but I’ve gotten into the habit of checking the secondary market every day for issues with real yields close to or surpassing 2.0%. I still want to make additions. (FYI, I do my trading on Vanguard’s site — where I have a traditional IRA — but I believe the Fidelity bond platform provides more complete information.)

On Sunday, I found these TIPS with real yields above 2.0%, but the results vary day to day. Some days you will find none. I limited the search to TIPS maturing from 2028 to 2043:

Click on image for a larger version.

The bond market is closed on Sunday and all of these TIPS had minimum purchase requirements of $50,000 or higher. Normally, but not always, the minimum purchases get lower when bond trading is active. On Vanguard’s site you can click on the “Show more” link to see the potential offerings. In recent months I have had few problems finding potential purchases in the $10,000 range.

Note that these TIPS yielding higher than 2.0% have maturity ranges dating from 2028 to 2043. But for 10-year TIPS, the yields are likely to be around 1.8% at this point, which is still attractive. (The auction of a new 10-year TIPS last month got a real yield of 1.495%, about 30 basis points lower.)

Final thoughts

I am not suggesting pouring all your investable money into a TIPS ladder, all at once. But if you are currently building a TIPS ladder, or want to start one, real yields in August 2023 offer a unique opportunity, with yields high across all maturities.

Remember, though, that real yields could go higher. My suggestion is to determine an asset allocation for TIPS and invest in them with the intention to hold to maturity. If you are happy with the real yield you are getting, don’t worry about future market fluctuations. Or … reserve cash to buy more at a future date.

• Confused by TIPS? Read my Q&A on TIPS

• TIPS in depth: Understand the language

• TIPS on the secondary market: Things to consider

• Upcoming schedule of TIPS auctions

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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. Please stay on topic and avoid political tirades.

David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. I Bonds and TIPS are not “get rich” investments; they are best used for capital preservation and inflation protection. They can be purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.

Posted in Federal Reserve, Investing in TIPS, Retirement, TreasuryDirect | 67 Comments

U.S. inflation rose 0.2% in July; what does it mean for I Bonds, TIPS and Social Security COLA?

Posted on August 10, 2023 by Tipswatch

By David Enna, Tipswatch.com

Markets got fairly positive news today with the release of the July inflation report: The Consumer Price Index for All Urban Consumers rose 0.2% on a seasonally adjusted basis, the Bureau of Labor Statistics reported. Over the last 12 months, the all items index increased 3.2%.

Core inflation, which removes food and energy, was also up 0.2% for the month and now has increased 4.7% over the last year. Both annual numbers came in slightly below expectations.

While annual all-items inflation ticked higher from last month’s 3.0%, that was expected because of deflationary numbers a year ago. So markets are likely to greet this inflation report as a positive sign that inflationary pressures are continuing to decline.

The recent rise in gasoline prices wasn’t fully reflected in this July report, with gas prices rising just 0.2% in the month and down 19.9% over the last year. Gas prices are likely to be a much larger factor in August’s inflation report.

The BLS noted that shelter costs were by far the largest contributor to the monthly all-items increase, accounting for more than 90% of the increase. Shelter costs were up 0.4% for the month and 7.7% over the last year. Here are some other highlights:

  • The costs of food at home rose 0.3% in July and are up 3.6% year over year.
  • The natural gas index increased 2.0% over the month, following five consecutive monthly decreases.
  • Costs of motor vehicle insurance also increased 2.0% in July.
  • Costs of used cars and trucks fell 1.3% for the month and are down 5.6% over the last year.
  • Costs of new vehicles also fell slightly, down 0.1%.
  • Costs of medical care services fell 0.4% and are down 1.5% over the last year.

Overall this looks like a fairly mundane inflation report, with few examples of exaggerated increases or falls. Here is the trend in all-items and core inflation over the last year, showing a steady trend lower, despite the uptick in all-items inflation:

What this means for TIPS and I Bonds

Investors in Treasury Inflation-Protected Securities and U.S. Series I Savings Bonds are also interested in non-seasonally adjusted inflation, which is used to adjust principal balances on TIPS and set future interest rates for I Bonds. For July, the BLS set the CPI-U index at 305.691, an increase of 0.19% over the June number.

For TIPS. The July inflation report means that principal balances for all TIPS will increase 0.19% in September, after rising 0.32% in July. Here are the new September Inflation Indexes for all TIPS.

For I Bonds. July’s inflation report is the fourth of a six-month string that will set the I Bond’s new variable rate, which will be reset on November 1 based on inflation from April to September. So far, with two months remaining, inflation has increased 1.28%. Based on current trends, it looks like the new variable rate could be in the range of 3.2% to 3.4%, but two potentially volatile months of data remain.

View historical rates on my Inflation and I Bonds page.

What this means for the Social Security COLA

The Social Security Administration uses a different inflation index — CPI-W — to determine the next year’s cost-of-living-adjustment. And it looks only at the average of three months of data, from July to September. For July, the BLS set the CPI-W index at 299.899, an increase of 2.6% over the last year.

For the COLA, the only 2022 number that matters is the three-month average from July to September 2022, which was 291.901. July’s CPI-W index was 2.7% higher. Two months of data remain and I have been projecting an increase in the range of 3.0% to 3.2%, which still seems on target.

More information and a projection on my Social Security COLA page.

What this means for future interest rates

This was a positive inflation report, although it didn’t fully reflect the recent surge in gasoline prices. Both annual all-items and core inflation came in slightly lower than expectations. I’d say all of this gives the Federal Reserve some room to pause near-term increases in short-term interest rates. Could the July increase end up being the last?

Bloomberg’s report this morning called this inflation report “subdued,” a good word. The Wall Street Journal noted the uptick in all-items inflation, but predicted the Fed would now consider holding rates steady:

The core CPI, in particular, could encourage the Fed to hold its benchmark interest rate steady at its September policy meeting. The new numbers lower the three-month annualized rate of core inflation to 3.1%, the lowest such reading in two years.

It’s good to look back on an amazing year in the U.S. economy. In June 2022, annual inflation peaked at 9.1%. At that time, the 4-week Treasury was yielding 1.21%. Today, the 4-week yield is 5.51% and inflation has fallen to 3.2%. I’m going to give the Fed credit for sticking with this difficult inflation fight.

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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. Please stay on topic and avoid political tirades.

David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. I Bonds and TIPS are not “get rich” investments; they are best used for capital preservation and inflation protection. They can be purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.

Posted in Federal Reserve, I Bond, Inflation, Investing in TIPS, Retirement, Social Security | 22 Comments

The I Bond exit ramp is now open; proceed with caution

Posted on August 6, 2023 by Tipswatch

Time redemptions to take full advantage of the recent 6.48% variable rate.

By David Enna, Tipswatch.com

First off, before I start talking about redeeming investments in U.S. Series I Savings Bonds, let’s take a moment to ponder just how worthwhile I Bonds have been as an investment over the last several years.

Back in late 2020, before U.S. inflation started surging, I Bonds had a six-month composite rate of 1.68%. That might not sound exciting, but at the time a 13-week T-bill was paying 0.11% and a 10-year Treasury note, 0.68%. The I Bond’s fixed rate of 0.0% was a whopping 83 basis points higher than the negative real yield of a 10-year TIPS.

And then, when inflation began surging into early 2022, the I Bond got a sensational six-month variable rate of 9.62%, towering over the yields of a 13-week Treasury bill (0.85%) and 10-year Treasury note (2.89%).

Through the dire period of pandemic-induced ultra-low interest rates, I Bonds delivered solid returns, tracking U.S. inflation as it soared higher. Investor demand also soared, causing the TreasuryDirect site to crash in October 2022 as the 9.62% rate was about to expire.

In my opinion, I Bonds remain a worthwhile, simple-to-track long-term investment, ensuring your savings will grow tax-deferred with future inflation. But if your investment timeline is shorter-term, you may want to shift money into Treasury bills, where the nominal returns are now 100+ basis points higher. Even if you are investing longer-term, you may want to look at Treasury Inflation-Protected Securities, where real yields are now 70+ basis points higher than the I Bond’s current fixed rate of 0.9%.

I know there are a lot of investors who jumped into I Bonds in October 2022 to get the 9.62% variable rate for six months, followed up by 6.48% for six months. That was a smart move. But now, those I Bonds (which have a fixed rate of 0.0%) are transitioning to a variable rate of 3.38%, well below the market for nominal Treasurys.

Create a strategy

Redeeming I Bonds is a tricky transaction, because an I Bond must be held for 12 full months and then there is a 3-month interest penalty on I Bonds held less than 5 years. Get this wrong and you could lose 3 months of 6.48% interest, or more. For those I Bonds, the best strategy is wait a full 3 months after the 6.48% rate has completed, then redeem early in the next month. That way the penalty will apply to the 3.38% rate.

Here is a guide to the optimal redemption dates for I Bonds purchased since October 2021:

If you bought in October 2021

Your I Bond has a fixed rate of 0.0% and is a candidate for redemption.

  • It earned 3.54% (annualized) from October 2021 to March 2022
  • 7.12% from April to September 2022
  • 9.62% from October 2022 to March 2023
  • 6.48% from April to September 2023
  • 3.38% from October 2023 to March 2024.
  • Optimal redemption date: Jan. 1, 2024.

If held until April 1, 2024, this I Bond will have earned an average annual return of 6.01%.

If you bought in November 2021

Your I Bond has a fixed rate of 0.0% and is a candidate for redemption.

  • It earned 7.12% (annualized) from November 2021 to April 2022.
  • 9.62% from May to October 2022.
  • 6.48% from November 2022 to April 2023
  • 3.38% from May to October 2023
  • Optimal redemption date: Aug. 1, 2023

If held until Nov. 1, 2023, this I Bond will have earned an average annual return of 6.64%.

Purchase in December 2021: Optimal redemption date is Sept. 1, 2023.

Purchase in January 2022: Optimal redemption date is Oct. 1, 2023.

Purchase in February 2022: Optimal redemption date is Nov. 1, 2023.

Purchase in March 2022: Optimal redemption date is Dec. 1, 2023.

Purchase in April 2022: Optimal redemption date is Jan. 1, 2024.

If you bought in May 2022

Your I Bond has a fixed rate of 0.0% and is a candidate for redemption.

  • It earned 9.62% (annualized) from May to October 2022.
  • 6.48% from November 2022 to April 2023
  • 3.38% from May to October 2023
  • Optimal redemption date: Aug. 1, 2023

If held through Nov. 1, 2023, this I Bond will have earned an annual average return of 6.48%.

Purchase in June 2022: Optimal redemption date is Sept. 1, 2023.

Purchase in July 2022: Optimal redemption date is Oct. 1, 2023.

Purchase in August 2022: Optimal redemption date is Nov. 1 2023.

Purchase in September 2022: Optimal redemption date is Dec. 1, 2023.

Purchase in October 2022: Optimal redemption date is Jan. 1, 2024.

If you bought in November 2022

Your I Bond has a fixed rate of 0.4% and is not a good candidate for redemption if you are holding any other I Bonds with a fixed rate of 0.0%. Redeem those first. For this next series I am using the term “potential” redemption dates instead of “optimal” because the 0.4% fixed rate makes these attractive long-term holdings.

In addition, all I Bonds must be held for 12 months before they can be redeemed. For this series, your future redemption decision may depend on the I Bond’s new variable rate, which will be reset on Nov. 1, 2023.

  • It earned 6.89% from November 2022 to April 2023.
  • 3.79% from May to November 2023.
  • Potential redemption date: Cannot be redeemed until Nov. 1, 2023.

If held through Nov. 1, 2023, this I Bond will have earned an average annual return of 5.33%.

Purchase in December 2022: Potential redemption date is Dec. 1, 2023.

Purchase in January 2023: Potential redemption date is Jan. 1, 2024.

Purchase in February 2023: Potential redemption date is Feb. 1, 2024.

Purchase in March 2023: Potential redemption date is March 1, 2024.

Purchase in April 2023: Potential redemption date is April 1, 2024.

If you bought in May 2023

Your I Bond has a fixed rate of 0.9% and it is not a candidate for redemption. This is an excellent long-term holding. If you need the money and have any other I Bonds with a fixed rate of 0.0%, redeem those first.

In addition, all I Bonds must be held for 12 months before they can be redeemed. For this series, your future redemption decision may depend on the I Bond’s new variable rate, which will be reset on Nov. 1, 2023.

  • It is earning 4.3% from May to October 2023.
  • The variable rate will reset on Nov. 1, but the fixed rate will remain at 0.9%.

Purchase in June 2023. Potential redemption date is June 1, 2024.

Purchase in July 2023. Potential redemption date is July 1, 2024.

Purchase in August 2023. Potential redemption date is Aug. 1, 2024.

Understanding the pattern

The optimal redemption pattern is consistent for all I Bonds, no matter the year they were purchased. If you bought an I Bond any time within the last 5 years, here are the current ideal times to consider redemptions to minimize the three-month interest penalty:

  • January: After Oct. 1, 2023
  • February: After Nov 1, 2023
  • March: After Dec. 1, 2023
  • April: After Jan. 1, 2024
  • May: After Aug. 1, 2023
  • June: After Sept. 1, 2023
  • July: After Oct. 1, 2023
  • August: After Nov. 1, 2023
  • September: After Dec. 1, 2023
  • October: After Jan. 1, 2024.
  • November: After Aug. 1, 2023
  • December: After Sept. 1, 2023

Here is a chart I created for an article in November 2022 that demonstrates why the optimal redemption dates fall back six months for I Bonds purchased in May and November, when the new six-month variable rate is reset:

Click on image for larger version.

What about older I Bonds?

You may want to redeem older I Bonds, held more than 5 years with fixed rates of 0.0%. Of course, there will be no redemption penalty, so you simply want to make sure to complete the full six months of the 6.48% annualized variable rate, and then redeem early the next month. (You earn no interest on an I Bond you didn’t hold through the last day of a month.)

For example, let’s look at purchases for each month of 2017 (the same pattern would hold for other years, but make sure the I Bond truly has a fixed rate of 0.0% before you redeem). Some months are ready to redeem right now, but for some others you will want to wait to complete the 6.48% rate.

  • Purchased January 2017. Redeem July 1, 2023.
  • February 2017. Aug. 1, 2023.
  • March 2017. Sept. 1, 2023.
  • April 2017. Oct. 1, 2023.
  • May 2017. May 1, 2023.
  • June 2017. June 1, 2023.
  • July 2017. July 1, 2023.
  • August 2017. Aug. 1, 2023.
  • September 2017. Sept. 1, 2023.
  • October 2017. Oct. 1, 2023.
  • November 2017. May 1, 2023.
  • December 2017. June 1, 2023.

One caution: When you go to redeem an I Bond in TreasuryDirect, finding the correct month-of-issue can be difficult. From your account’s opening page, click on the Series I Savings Bond radio button near the bottom of that page and click “submit.” Then you will see your “Current Holdings” and issue dates.

For an older I Bond — held more than 5 years — look for the I Bonds listed with an interest rate of 3.38% — the current variable rate combined with a 0.0% fixed rate. That older I Bond is safe to redeem.

In this example, the lower three I Bonds have a fixed rate of 0.0% and have transitioned to the 3.38% interest rate. Those can be priorities for redemption. The others all have a better fixed rate and one is still paying 6.58%. Those are not the ones to sell first.

A reminder about taxes

When you redeem any savings bond, you are taking money out of a tax-deferred investment and you will immediately owe federal income taxes on your interest earnings. If you are doing a large number of redemptions, you could climb into a higher tax bracket or potentially trigger Medicare IRMAA surcharges.

An example: Let’s say you want to redeem $10,000 in an 0.0% fixed rate I Bond issued in May 2017. As of August 1, that I Bond had a value of $12,400, so if you redeemed today that decision would create taxable income of $2,400. If you are in the 22% tax bracket, the federal income tax would be $528.

You can easily check the current value of any I Bond using TreasuryDirect’s Savings Bond Calculator (which will automatically subtract 3 months interest for I Bonds held less than five years) or at EyeBonds.info, an accurate and extremely useful resource for information on I Bonds and TIPS.

Final thoughts

I am not advocating selling out of I Bonds. These savings bonds remain a very safe way to push inflation-protected cash into the future.

But I also don’t see the need to hold I Bonds for 30 years. As you enter retirement years, it makes sense to consider redeeming I Bonds to supply cash when you need the money. Or, for people with a shorter-term view, to switch to a more attractive near-term investment like a 1-year T-bill. Or, to use proceeds from a 0.0% I Bond to roll into a new I Bond investment with a 0.9% fixed rate, possibly using the gift box strategy.

As you ponder redemptions, remember to first target I Bonds with 0.0% fixed rates. And for I Bonds held less than 5 years, wait until you’ve transitioned into the 3.38% interest rate for a full three months.

If you got this far … This article contains a lot of numbers, months and years, subtracting six months here and not there. If you spot any errors, post them in the comments area and I will thank you and make a fix.

• I Bonds: A not-so-simple buying guide for 2023

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

• Let’s ‘try’ to clarify how an I Bond’s interest is calculated

• Inflation and I Bonds: Track the variable rate changes

• I Bonds: Here’s a simple way to track current value

• I Bond Manifesto: How this investment can work as an emergency fund

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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. Please stay on topic and avoid political tirades.

David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. I Bonds and TIPS are not “get rich” investments; they are best used for capital preservation and inflation protection. They can be purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.

Posted in Cash alternatives, I Bond, Investing in TIPS, Savings Bond, Treasury Bills, TreasuryDirect | 150 Comments

Fitch downgrades U.S. debt and we should have seen it coming

Posted on August 2, 2023 by Tipswatch

By David Enna, Tipswatch.com

Source: www.usdebtclock.org

We got a surprise announcement yesterday that should surprise no one: Fitch Ratings downgraded the Issuer Default Rating on U.S. debt to ‘AA+’ from ‘AAA,’ with a stable outlook.

This follows by almost exactly 12 years a similar action by Standard & Poors, which downgraded U.S. debt to an AA+ rating on Aug. 6, 2011. S&P has never lifted that downgrade and still has U.S. debt rated as AA+.

The reason Tuesday’s announcement was a surprise is that it precedes a potential — and very likely — U.S. government crisis by two months. From a USA Today report:

Once lawmakers get back to Capitol Hill in mid-September, the House and Senate will be in session for roughly three weeks until the Sep. 30 deadline to pass a federal budget. On Oct. 1, a new fiscal year begins. If lawmakers cannot push through 11 out of 12 separate spending bills, after passing just one before the August recess, the country will face a government shutdown. …

“We should not fear a government shutdown,” Rep. Bob Good, R-Va., declared at an event outside the Capitol this week. “Most of the American people won’t even miss it if the government is shut down temporarily.”

There is little doubt a shutdown is coming. A number of Republicans are pushing for deeper spending cuts than they got in May’s debt-ceiling compromise. A factor that few people realize: The compromise includes language that enforces a 1% cut in federal spending if all 12 appropriations bills are not passed, and each bill must now get a separate vote (they’ve been grouped together in the past in “omnibus” spending bills). From a New York Times report:

The debt-limit agreement imposes an automatic 1 percent cut on all spending — including on military and veterans programs, which were exempted from the caps in the compromise bill — unless all dozen bills are passed and signed into law by the end of the calendar year. Mandatory spending on programs such as Medicare and Social Security would be exempt.

In essence, a few Republican House members could force BOTH a government shutdown and a 1% automatic spending cut, simply by failing to pass one of the 12 appropriations bills.

All this has been known for months, but it took the calendar turning to August for the fire to burn hot. Fitch Ratings saw the fire and acted.

Fitch’s reasoning

Fitch Ratings on Tuesday released a Rating Action Commentary that explains its reasoning. Here are key elements:

Ratings Downgrade: Fitch noted expected fiscal deterioration over the next three years, a high and growing U.S. debt burden, and the erosion of governance reflected in repeated debt limit standoffs and last-minute resolutions.

Erosion of governance. Fitch noted:

  • A steady deterioration in U.S. governing standards over the last 20 years.
  • Repeated debt-limit political standoffs and last-minute resolutions that have eroded confidence in fiscal management.
  • Economic shocks, tax cuts and new spending initiatives that have contributed to successive debt increases over the last decade.
  • Limited progress in tackling medium-term challenges related to rising Social Security and Medicare costs.

Rising deficits. Fitch noted: “We expect the general government (GG) deficit to rise to 6.3% of GDP in 2023, from 3.7% in 2022, reflecting cyclically weaker federal revenues, new spending initiatives and a higher interest burden.”

In a nice bit of timing, the U.S. Treasury on Tuesday issued its “Latest Debt to the Penny” report on Tuesday, just before the Fitch announcement. This is an ugly trend:

  • Total U.S. public debt, Aug 1, 2023 = $32.6 trillion
  • Total U.S. public debt, Aug 1, 2018 = $21.3 trillion
  • Total U.S. public debt, Aug 1, 2013 = $16.7 trillion

So in just 10 years, the U.S. public debt has nearly doubled and this increase is not slowing down, especially with much higher interest payments adding to the burden.

Potential for recession. Fitch noted: “Tighter credit conditions, weakening business investment, and a slowdown in consumption will push the U.S. economy into a mild recession in 4Q23 and 1Q24, according to Fitch projections. The agency sees U.S. annual real GDP growth slowing to 1.2% this year from 2.1% in 2022 and overall growth of just 0.5% in 2024.”

Reaction to the downgrade

Let’s watch the CNBC coverage:

Fitch immediately took heat for this decision and naturally the reactions fell along party lines.

White House press secretary Karine Jean-Pierre said, “It defies reality to downgrade the United States at a moment when President Biden has delivered the strongest recovery of any major economy in the world.”

In a statement, Senate Majority Leader Chuck Schumer, D-N.Y., said the Fitch downgrade reflects “reckless brinksmanship and flirtation with default” by House Republicans and that they “must never push our country to the brink of default again.”

Another Biden administration official called this the “Trump downgrade,” attempting to pin the blame on the former administration.

Louisiana’s former Republican Gov. Bobby Jindal tweeted: “S&P downgraded US credit under Obama, and now Fitch has downgraded US rating under Biden. The excessive spending and borrowing must stop.”

Sigh. Could just ONE politician step forward and say, “Both parties caused this problem and both parties will have to work together to solve it”?

All of this parallels what happened in 2011 when S&P downgraded U.S. debt to the same AA+ rating. That downgrade was called “Black Monday” because it caused a 5.5% one-day drop in Dow Jones Industrial Index. It seems unlikely that we will see a similar fall today because financial markets have become inured to these crises. Bloomberg’s report this morning noted, “In financial markets, the move was met with what amounts to a shrug.”

What was really surprising in 2011 is that U.S. Treasurys strengthened after the downgrade and interest rates fell as the stock market roiled. This chart shows the massive moves in Treasurys and the stock market in August 2011:

Click on image for a larger version.

Again, I don’t expect to see a similar pattern in August 2023. I’ll close with this from Joachim Klement, head of strategy at Liberum Capital, quoted by Bloomberg:

“We think the downgrade of the US credit rating will not have a material impact on equity markets, US Treasuries or the US dollar. While the downgrade came at a surprising moment, it is not unjustified given the large deficit of the US government and the lack of projected deficit reduction in the coming three to five years. But there is no reason to sell US Treasuries or demand an increased risk premium, in our view, since there is no alternative to Treasuries in global bond markets, nor is there any material default risk in the coming decade, in our view. All in all this is a tempest in a teapot.”

Will the downgrade cause me to abandon investments in U.S. Treasurys? No.

Any thoughts? Solutions? Strategies? Post them in the comments area below.

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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. Please stay on topic and avoid political tirades.

David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. I Bonds and TIPS are not “get rich” investments; they are best used for capital preservation and inflation protection. They can be purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.

Posted in Investing in TIPS | 44 Comments