Man Page Writing: Life/Times of Man Page Writer

As I write, the real interest rate on a 5-yr. TIPS is minus .14%. This is almost unfathomable. This means that the market's expectation of inflation is such that a buyer is required to pay (embedded in the price of the bond), rather than receive, a real interest rate. The return on the nominal 5-yr T-Note is 2.51%, so the market's inflation expectation over the life of these instruments is 2.65%--lower than I'd predict. Another datum: the 10-yr. TIPS is currently paying 1.04% real.

So here's my little-guy arbitrage play: I-Bonds are paying 1.2% real, through the end of April. I like to think of I-Bonds as 5-yr. TIPS, with an option to go out longer. That's because if you sell an I-Bond before you've held it for five years, you pay a 6-mo. interest penalty. (You can sell the bond after you've held it for a year.)

The Treasury recently announced a $5000/yr. limit on the purchase of Saving Bonds (I-Bonds and the not-too-rewarding EE Bonds). I believe this announcement and the divergence between the market return on 5- and 10-yr TIPS and the I-Bond fixed return is no coincidence.

The limit is actually $5000 each, for bonds purchased in electronic and paper form.

You might compare I-Bonds with a traditional IRA, with fewer encumbrances. Interest accrues on a tax-deferred basis. (You pay tax only when you cash in.) And, of course, as an instrument of the US Government, interest is state-tax-free, of great interest (pun intended) to residents of relatively high tax states, such as Calif. and NY.