Latest / Inflation and Your Money with Fexingo: Protecting Purchasing Power and Beating Inflation / How Inflation Is Quietly Eating Your I-Bond Gains
Transcript
- Lucas: So Luna, I want to start with a number: three point one one percent. That's the composite rate on Series I savings bonds that just reset in November 2025. If you bought I-bonds during the frenzy in 2022, you probably locked in a rate over nine percent. Now? Your real return after inflation and taxes might be close to zero. Luna: Ouch. And a lot of people piled into those bonds thinking they were a bulletproof inflation hedge. My uncle literally put his entire emergency fund into I-bonds in 2022. He's been bragging about it for three years. Lucas: Right, and that's exactly why we need to talk about this. Because the narrative has shifted, and most people haven't updated their spreadsheet. Today's CPI reading is three hundred thirty-four point oh. Core inflation is still running hotter than the Fed wants. But I-bonds aren't automatically keeping up the way they used to. Luna: And before we dive deeper, I want to mention something — we keep this show completely ad-free. If you've gotten value from our inflation breakdowns and you'd like to support that choice, there's a buy me a coffee page. It's buy me a coffee dot com slash fexingo. No pressure, just a way to keep this going. Lucas: Exactly. It's listener-supported, and that's a model we believe in. So back to those I-bonds — the real issue isn't just the rate reset. It's the three-month interest penalty if you redeem before five years. And the fact that interest is tax-deferred at the federal level, but you pay income tax when you cash out. So your after-tax, after-penalty return can be surprisingly low. Luna: Let's run the numbers on that hypothetical ten thousand dollar bond purchased in May 2022. Lucas: Okay. May 2022 you bought at the old fixed rate of zero percent, plus a variable rate that was at the time nine point six two percent annualized for the first six months. Then it dropped to six point four eight, then three point seven nine, and now three point one one. Over three years, your gross interest might be around two thousand dollars. But if you redeem now, you lose the last three months of interest at the current low rate. And then you owe federal income tax on the net. Depending on your bracket, you're keeping maybe sixty-five cents of each dollar earned. Luna: So your real after-tax, after-inflation return could be negative. That's not a hedge, that's a leak. Lucas: Precisely. And the inflation rate we're trying to beat is still running about two and a half percent on a core basis, maybe more if you live in a city where rents are still climbing. The ten-year breakeven inflation rate is at two point two four percent. That's the market's expectation. So if your I-bond composite rate is three point one one, but you lose the penalty and taxes, you're not beating breakeven by much, if at all. Luna: So who should still own I-bonds? And who should consider selling? Lucas: Great question. I'd say hold them if you're in a low tax bracket, or if you plan to use them for education expenses and can take advantage of the tax exclusion. But if you're in a higher bracket and you bought in 2022, you might be better off redeeming after the five-year mark to avoid the penalty, then moving the money into short-term Treasuries yielding around four and a half percent, or a TIPS ladder. Luna: TIPS — Treasury Inflation-Protected Securities — are they a better option right now? Lucas: They offer a real yield, meaning the yield is quoted above inflation. Right now, five-year TIPS have a real yield around one point eight percent. That's a guaranteed return above CPI, before taxes. I-bonds have a fixed rate that just dropped to zero point nine percent. So TIPS actually offer a higher real yield, plus no early redemption penalty. The downside is you buy them on the secondary market or at auction, and their price can fluctuate before maturity. Luna: So for an emergency fund, I-bonds still have the advantage of no price risk. But for longer-term savings, TIPS might be the smarter play. Lucas: Exactly. And here's the thing — a lot of financial influencers in 2022 called I-bonds 'the ultimate inflation hedge'. But that was true only at the peak rates. Now we're seeing the hangover. It's a reminder that no single instrument is a permanent solution. You have to reassess as conditions change. Luna: Let's talk about the fixed rate specifically. It peaked at one point three percent for bonds issued from May to October 2023. Now it's down to zero point nine. That's a thirty percent drop. Lucas: Right. And the variable rate changes every six months based on the CPI. So if inflation comes down further, that rate will drop too. Some analysts think the next reset in May could be below three percent. That would put the composite rate near three point eight, but if inflation keeps cooling, it could go lower. Luna: And the Treasury caps purchases at ten thousand per person per year, plus another five thousand via tax refund. So you can't exactly scale this as a primary inflation strategy. Lucas: No, you can't. And that's another reason to look at TIPS or even Series EE bonds if you're okay with a longer horizon. But the key takeaway today is: if you bought I-bonds during the hype, don't just set and forget. Check your composite rate, factor in the penalty and taxes, and decide whether holding makes sense for your situation. Luna: And if you're considering buying now, the current three point one one percent might not be compelling compared to a high-yield savings account at four percent, especially with no lock-up. Lucas: That's the comparison that matters. A high-yield savings account is liquid, fdic insured, and pays four percent or more right now. I-bonds give you inflation protection but with a penalty and tax deferral. For most people, the savings account is the better emergency fund choice today. Luna: So I-bonds are not dead, but they're no longer the star player. They're more like a role player in certain lineups. Lucas: Exactly. And that's fine. The mistake is assuming they still do what they did in 2022. Inflation ate real returns on cash in 2021 and 2022, then I-bonds saved you. Now inflation is eating the I-bonds themselves. The cycle continues. Luna: One last thing — if you do redeem early, remember you lose the last three months of interest. So time it right. Maybe wait until the six-month period with a lower rate ends, so the penalty is smaller. Lucas: Smart strategy. And as always, check the TreasuryDirect website for your exact rates. Don't rely on memory. The numbers change, and so should your plan.