Should I bond investors ‘Twist’ again like they did last summer?

Last year’s frenzied stampede into Series I bonds was reminiscent of the early 1960s dance craze to Chubby Checker’s “The Twist.”

Put simply, everyone was doing it.

The pressing questions now facing those very same investors and their advisors are nearly identical to those Chubby asked a year after Twist fever captured the nation: Should they buy Series I bonds again like they did last summer? Should they purchase the maximum amount like they did last year?

For those who already may have forgotten or moved onto the latest investing fad, Series I bonds are an accrual-type savings bond tied to inflation that the Treasury first introduced in 1998. The bonds are issued at face value with a 30-year final maturity made up of a 20-year original maturity period immediately followed by a 10-year extended maturity period. The earnings rate includes a fixed rate and an inflation rate, and while the fixed rate stays the same over the life of the bond, the inflation rate can change every six months.

Making the deal even sweeter, I bond earnings are exempt from both state and local income taxes. Federal income taxes can be deferred until redemption, final maturity or other taxable disposition, whichever occurs first.

Those are the basics of the Series I bond, a financial instrument that was virtually ignored until last year when all heck — and inflation — broke loose. For example, the Treasury’s announcement last May that inflation-protected I bonds would pay 9.62% interest through October caused TreasuryDirect.gov, the website that’s the lone place where people are able to purchase the bonds, to crash.

Fast forward to late October, when a similar deluge of investors once again collapsed the site as they attempted to buy the bonds before they reset to a lesser, though still robust rate of 6.89%, which will remain in place until April.

How big was the demand?

The Treasury said it issued $1.95 billion in I bonds during the final week of October, more than the total for fiscal year 2021. Yes, that big.

Now that I bond mania has eased along with the rate of inflation, last year’s investors need to decide if they want to continue with their I bond commitment, increase it, or cash in and look elsewhere for yield. The January consumer price index fell to a 6.4% yearly rate, down from 6.5% in December.

“I bonds have certainly been in the spotlight since the Federal Reserve began raising interest rates in March 2022,” said David Scranton, CEO and founder of Sound Income Group. “For investors with a long investment horizon and low risk tolerance, it may make sense to reinvest the proceeds, but keep in mind that the rate of return will decline when interest rates drop.”

That said, even if the I bond rate moves lower in April, most advisors admit it will be hard to find a replacement offering the same level of safety that carries such a hefty yield.

“If you buy them before the end of March, they will not be as high as they were from April to October, but it will be difficult to find investments with a guaranteed rate near 7%. And those considering buying I bonds with tax refunds should keep in mind that redemptions cannot be made until the bonds have been held for a full year,” said Robert Patti, private wealth manager at Patti Wealth Management, part of Stratos Wealth Partners.

Regarding the idea of using tax refunds to buy more I bonds, Scranton said it should be decided on a “case-by-case basis with insight from a professional financial advisor.”

I BONDS LAST DANCE?

Some advisors see potential pitfalls for I bond investors in coming months as a result of last year’s hysteria. Many of those problems having to do with the highly antiquated and easily crashable Treasury website.

“In April 2022, I accidentally made an over-contribution of $20,000 to my Treasury Direct account. I received an email at the time informing me that the funds would be returned to me in 8 to 10 weeks. It is approaching one year and my funds have not been returned,” said John Robinson, founder of Financial Planning Hawaii.

Robinson recounts that after many attempts and spending many hours on hold, he was finally able to speak with a Treasury staff member on the phone last August, only to be informed that Treasury was overwhelmed with refunds. In December, he suffered again through hours of hold time only to receive the same response from a different rep, who also told him that Treasury had more than 800,000 refunds to process.

“I was advised that my over-contribution money is earning interest, but it is now February and the money has not been refunded yet,” Robinson said. “I can only imagine what is going to happen when millions of consumers decide to cash in their savings bonds when inflation is lower or if they happen to need the cash for something else like making a mortgage payment or paying down credit card or student loan debt.”

Robinson’s ordeal may have left him fed up with I bonds, but Chris Bravender, fixed-income manager at Prospera Financial Services, advises against giving up on them just yet.

“The key things to remember with I bonds are that you can only invest $10,000 per year and you must hold the bond for at least five years to avoid paying a three-month penalty. With this in mind, we would expect the big redemption to be largely five years out from the high set in 2022,” Bravender said, adding that the yields remain attractive.

Furthermore, even if a majority of investors agree to pay the penalty to get their money back, Bravender believes the yearly investment cap will prevent this from having a material impact on the Treasury’s operations.