Savings bond strategy
 

For all you financial gurus out there... Thanks in advance!

I purchased savings bonds with my Delta American Express credit card in order to get miles for the purchase. I am asking for advice on how to proceed with these bonds with regards to my other investments. I have the following bonds:

Spent $2500 on five EE bonds, each with denom=$1000, price=$500, issued Aug-2002, interest earned per bond is $16.80, rate 2.66%, yield 2.85%

Spent $10,000 on two I bonds, each with denom=$5000, price=$5000, issued Jan-2003, interest earned per bond is $102, rate 5.17%, yield 2.71%

My money market account is paying 1.30% if balance greater than $50,000 and 0.65% if between $15,000 and $50,000.

Using the yields as indicators, it seems that keeping money invested with savings bonds provides a better return. However, the 3-month penalty might negate this benefit.

My questions: Should I cash in the bonds so that I get into the 1.30% area of my money market account? Should I invest more on savings bonds and less in my money market account to increase return and earn more miles? If yes, should I invest in bonds before end of October or in November? I know intesrest rate changes, but is the change to a higher or lower rate??? Which bond series makes mnore sense?

Note to moderator: If this does not belong on this board, please move it to a more appropriate board. Thanks!


[This message has been edited by silkworm (edited 10-29-2003).]

Buzz?

Sorry, no buzz. Where should this go, then???

You are now getting ready to make an incremental decision. The three months' penalty will exist regardless of the decision you make tomorrow, unless you have a five year time horizon for the investment (or longer). So, it's irrelevant to your decision. It's a sunk cost that you have already incurred and can now only avoid by holding for five years.

But you can't make this decision based solely on yields. The bonds are completely illiquid for 11-12 months but guaranteed by the full faith and credit of the federal government. The money market fund is presumably fully liquid but not guaranteed. And, the savings bonds are federally tax deferred; the money market interest is not. Plus they're exempt from state and local taxation (note that this makes an even bigger difference if you don't itemize deductions on your federal return) while that would only be true of the money market fund if it were a government securities fund (which some are).

Furthermore there are some special tax incentives for savings bonds and higher education, although they don't help that many people due to income limitations.

The rates on savings bonds are essentially unbeatable these days. Don't cash them unless you need the money to buy new savings bonds (and collect more FF miles).

I think the miles you get are worth more than the interest you sacrifice by selling them before five years. If you can afford to do so, and keep the money illiquid for a year, I recommend buying more bonds before the end of the year (up to $60,000 worth). If you can't buy more, then you can sell these bonds on November 1 (probably at your bank, then use the money to buy more bonds. But let that money float in your m.m. accounts until you absolutely have to pay for the bonds. If you do it right, that should be almost 2 months of float. If you really do it right, buy more bonds at just the right time, then later sell the ones you currently have, to pay for the new purchase.

I describe the details of the whole technique on the Finance page of my web site below.

By the way, you should be getting at least 2% on your money market money. Try ING bank, described on the same page of my web site, or Bank of Internet.

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Free Frequent Flyer Miles

It is also a mistake to choose a money market fund based solely on yield, IMHO. Although these funds are highly restricted as to what type of assets they can hold, some are definitely riskier than others. Also, since some are state and local tax-free, one should consider the after-tax return and not the pre-tax return. And, the state and local tax-free MMFs tend to be the least risky. Finally, some of these funds are juicing their returns by waiving their management fees and that is probably not sustainable over the long run.

Many of us still hold savings bonds. Anyone want to guess what the new rates will be?

New rate for the older bonds will be 3.1%
fixed rate of 1.1, plus inflation for last 6 months.

Since you can no longer purchase bonds with credit cards, all bond-related threads should probably be moved out of Buzz.

Folks, the option to purchase Savings Bonds with a credit card to get cash back (in my opinion, a much better choice than miles) or miles or any other benefit, was closed on Dec. 31, 2003. You can probably visit treasurydirect.gov if you have any questions.

Where did you get this information? The web site still shows the rate effective until Apr 2004.

Actually it will be closer to 3.5% for the next 6 months. You can go to www.bls.gov and get the CPI info for the past 6 months, then add the margin of 1.1%. The number will be released on usbonds.gov on Monday.

Money market is a place to park your money temporary or for emergencies
 

Bonds, especially I bonds, don't even see any reason to buy EEs, are a great deal. The yield is not just the rate you get, you will also have to add in the inflation for it's true yield...Currently inflation is low, but just you wait. With the way our government is spending money we don't have. Can't see how to avoid high inflation.

consider this....
 

Two things I didn't see mentioned, but I read perfunc., is the downside risk you run on the bond market decline (rate increase), and the difference between Money Market Mutual Fund and Money Market Account.

On the first, the shorter, and higher quality, your bond issue the less you'll be subject to principal +/- movement, but you'll be subject to movement, and considering the econ. environ. I'd say to - movement. So, consider that.

MMMF vs. MMA = you typically see different firms, ING/eTrade/whoever pay higher rates on their MMA. The difference is that while they both have to hold debt obligations with less thatn (I believe) 90-180 days maturities (VRO/D etc.), one hold solely the obligations of one back and the other a broad diversified portfolio of securities. MMAs, as they pay higher rate, carry a higher risk also as they are pooled from the sole obligation of the issuing bank, or just one back. MMMF, the ones that have been around for years, represent a more diversified port. And, that's why you get, most times, limited transaction activities on your MMA vs. the MMMF and that's also a way to find out what kind of a money market instrument you're buying.

Good luck!