U.S. News

I-Bond Rate to Hit Rock Bottom

Laura Bruce, Bankrate.com
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The government's inflation-fighting I bond will hit rock bottom May 1 when the new earnings rate is expected to be zero. That will be a first for the bond since its inception in September 1998.

A new I bond is issued every May 1 and Nov. 1. Each is issued with a fixed rate that sticks with the bond for its 30-year life, and a variable rate that is adjusted every six months to compensate for inflation. The two rates combined make up the earnings rate. The current I bond, issued Nov. 1, 2008, has a fixed rate of 0.7 percent and a variable annualized rate of 4.92 percent for a composite rate of 5.64 percent.*

To price the I bond, the Treasury looks at the previous six months of inflation data as calculated by the Consumer Price Index. Thanks to four months of deflation during the past six months, the economy is running at a rate of -5.4 percent annual inflation, says Dan Pederson, author of "Savings Bonds: When to Hold, When to Fold and Everything In-Between."

"The I bond is guaranteed to never have a negative accrual, but it does not guarantee that you'll get a positive accrual. It means that if there is a negative variable component that exceeds your fixed rate, the government will simply net you out at zero for that six months, and that is what will happen to every single I bond out there for this next six months."

Greater volatility
The highest fixed-rate issued on an I bond was 3.6 percent in May 2000. Because the -5.4 percent inflation rate exceeds that, the combination of the two numbers leaves those bond holders with -1.8 percent for the upcoming six-month period. They'll simply be netted out at zero percent.

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Pederson doesn't expect that the government will do much with the fixed rate in May. He says the it might raise it just a tiny bit to take some of the sting out of the goose egg, but that there's really no reason for them to do anything.

This whiplash scenario from the November 2008 bond earning an annualized 5.64 percent to the May 2009 bond earning nothing is due primarily to the fantastic rise and fall in energy prices over the past year, says Pederson.

"I bonds have greater volatility because they're only measuring a six-month period. If we look at the past 12 months, we'd see slight deflation of maybe 0.1 percent or 0.2 percent," he says.

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