Monday Morning: It often pays to have a generous uncle

In these uncertain times, with the market giving up one day the gains it made the previous day, and with some analysts predicting real returns of only 3% per year on stocks for the foreseeable future, many investors are looking for a safe haven for their assets.

In fact, I’m one of them. While I’m not ready to give up on the market, and I maintain positions in my favorite stocks – though half of them are underwater – I’m not yet ready to increase my equity exposure either.

I see no stocks out there that are irresistibly attractive, and no equity mutual funds appeal to me either.

But I have some money to invest – some of it from gains from stocks I sold in September, before the market rout began, and some from savings.

Unfortunately, I find long-term-bond returns unattractive. Thirty-year Treasuries are giving a return of only about 2.5% a year after inflation. Long-term corporates offer better returns, but they carry more risk. In both, I would have reinvestment risk – the risk that I would have to reinvest the semiannual coupons at lower rates.

Likewise, money market yields are both too low and at least as likely to go lower as they are to go higher.

What I’m looking for is a relatively risk-free investment that will give me a decent real rate of return over the next five to 10 years. If it were tax advantaged, that would be perfect.

Of course, some would say I’m asking for the moon. But there is such an investment, and it’s offered by good old Uncle Sam. Maybe all of our investment adviser readers out there already know about it, but my investment adviser didn’t.

It’s I series bonds. I bonds at present offer a yield of 6.49%. Series I bonds are Treasury issues, so they have the backing of the U.S. government – and no default risk. They are indexed to inflation, so there is no inflation risk. They are accrual-type bonds – the interest is paid in the price of the bond when it is redeemed – so there is no reinvestment risk. They are exempt from state and local taxes, and an investor pays federal taxes only when the bonds are redeemed, meaning you get tax-deferred inside buildup.

The bonds can be redeemed without penalty after five years, and they will continue to accrue interest for 30 years.

That’s a pretty neat investment for anyone, but it’s especially good for retirement savings outside of an individual retirement account or a 401(k) plan, and that’s just what I bonds were designed for.

At a time when some analysts expect the stock market to generate below-average returns for several years – and some even predict that stocks will produce risk-adjusted returns below those of government bonds – I bonds’ current 6.43%, inflation-protected, looks pretty good.

What’s the catch? None that I can see, except that they can’t be redeemed for at least six months. And if they are redeemed in less than five years, the investor forfeits three months of interest. So for best results, I bonds should be held for at least five years.

I suppose if the stock market takes off at a 10% compound annual rate over the next five to 10 years, those bonds won’t look so good to me, but I’ll still be able to sleep nights. And for now, with the market still stumbling, they look pretty good. I know a couple of investment professionals who have put a good part of their personal assets into I bonds, thinking that they are a good deal at this time. I suspect a lot of other investors with money to invest, or reinvest, will feel the same way.

Perhaps they are worth a look from financial planners who haven’t considered them before. But hurry. The rate will be reset in May, and it may not be as high.

In addition, some in the Treasury and Congress have talked about doing away with I bonds, possibly because they are too good a deal for the investor, and thus expensive for the Treasury.

Mike Clowes is the editorial director of InvestmentNews.

Related Topics: Just Thinking