Bonds Offer Investors Security With Little Yield

Written by Dr. Don Taylor, Ph.D., CFA, CFP
Published November 10, 2011
Article from Fox Business

Dear Dr. Don,

As someone trying to diversify the way I save my money, I've been spreading my savings into money market accounts, certificates of deposit and Treasuries. Are there different advantages for someone trying to save and eventually build a bond ladder to prefer EE savings bonds versus Treasury notes, or Series I savings bonds versus Treasury inflation-protected securities, or TIPS? I'm not really looking for marketability of these products, just a good place to park my hard-earned savings.

-- Jorn Jump-start

Dear Jorn,

When someone tells me they're looking to park their money somewhere, I think short-term investments, not bond ladders. They don't want to put their investment vehicle on blocks; they want the flexibility to invest elsewhere. That person doesn't want a bond ladder.

The problem with parking money short term is that you have to figure out when to take the money out of park and put it back to work in other longer-term investments. Market timing is more art than science, and the typical retail investor is going to struggle with this decision.

Money market accounts and high-yield savings accounts are likely to earn you a much better yield than a money market mutual fund in today's interest rate environment, but things are pretty ugly when it comes to yield in these short-term accounts.

A bond ladder has you investing at regular intervals over a fixed investment horizon. When the shortest rung matures, the proceeds are used to invest in the longest maturity of your planning horizon. You can build a 3-, 5-, 10-, 20-, or even a 30-year ladder. You can pick short, intermediate, or long-term funds, or even buy a fund that invests in TIPS and have your investments professionally managed.

What's good about Treasuries and savings bonds is that they give you the opportunity to invest in longer maturities than you can with the typical CD. Savings bonds have the added advantage of allowing the investor to defer income taxes due on the investment earnings until the bonds are redeemed or mature.

Series EE savings bonds and U.S. Treasury securities are really good at protecting principal but not all that good at protecting your purchasing power from the ravages of inflation. Series I savings bonds and TIPS offer inflation protection along with safety of principal but not much more in today's low interest rate environment. TIPS aren't tax-deferred unless held inside of a tax-advantaged retirement account, so you have to pay as the money is earned in a taxable account.

You're putting your hard-earned money aside to fund future life goals. Figure out what those life goals are, and you'll have a better idea of your investment horizon and can make better choices as to how to invest the funds.

One mistake that people make is keeping their money in short-term investments, waiting for the right time to move into longer-term investments. You're treading water, but after taxes and inflation, you're underwater in terms of your portfolio's purchasing power.

Don't wait to build an investment ladder. 

Build a stepladder if you don't want to be "long and wrong" and then make it an extension ladder as longer-term interest rates head higher.

My dilemma in advising you in designing a fixed-income portfolio is that the fixed income market has gotten so ugly (low yields) that it's hard to recommend retail investors to go into longer maturities, even in a laddered portfolio. TIPS have been bid up to the point where I don't find them attractive. And Series I savings bonds, while they offer inflation protection and tax deferral, offer no real return over and above inflation, and the Treasury limits their purchase to $5,000 per year.

There's a host of asset classes out there besides Treasuries, CDs and savings bonds. Depending on your investment horizon and your attitude toward risk, you also could consider corporate bonds, municipal bonds, real estate, stocks, commodities, or mutual funds and exchange-traded funds, or ETFs, that invest in these assets. Yes, there's risk, but a well-diversified portfolio of assets will mitigate that risk with the potential to build wealth over time.

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Article from Fox Business

Reader Story: Long-Term Thinking Pays Off

Sunday, 6th November 2011 (by J.D. Roth)

Article from Get Rich Slowly

This guest post from Heather Roth is part of the “reader stories” feature at Get Rich Slowly. Some stories contain general advice; others are examples of how a GRS reader achieved financial success — or failure. These stories feature folks from all levels of financial maturity and with all sorts of incomes. Heather lives and writes in Indiana, Pa., with her doctoral student husband and two ever-curious ferrets. She writes about life as a small-town journalist at her personal blog.

There were plenty of days when I resisted it, this making of budgets and accumulating of dollars in untouched bank accounts for “someday.” But standing outside the small, two-bedroom house we’d just bought on a hot August afternoon, everything I’d given up seemed small and unimportant.

I’m a reporter, complete with the legendary small salary and all. He’s a doctoral student. And somehow, between good fortune and careful stewardship, we’ve found ourselves debt-free homeowners at age 25.

Our story begins years before either of us was born, long before we met.

Fortune and frugality

I had the good fortune of being the daughter of the son of an entrepreneur, and grew up seeing business opportunities around every corner. I also learned money management, watching my mother feed an ever-growing family on red beans and rice and potatoes and ground turkey.

By the time the man and I were engaged, I had received a sizable ($18,000) inheritance from my late great-grandmother’s land investments — and an oft-repeated warning from my father to save every penny for a down payment on a house.

We started life together in the expensive Washington, D.C., area, and for several months struggled to live on his just-out-of-college income of about $35,000 while I looked for work. We had no health insurance, spent $25 a week on groceries, and loved visits from parents who always brought along canned goods and meat for the freezer.

We became pretty good at living on a little.

Homeward bound

I found my first reporting job four months later, one that came with health insurance, and we moved to a nicer apartment and raised our food budget by $10; it felt luxurious. But the rest of my salary was added to the savings account for a year and a half before being diverted to pay for my husband’s master’s degree.

We left the D.C. area in February of 2010, planning to live off my salary while he went after the doctorate. His assistantship would cover tuition, and the incredible drop in car insurance and rent in Western Pennsylvania made it easy to live on a smaller income.

We left D.C. about $50,000 worth of savings.

We didn’t plan to buy a house in Pennsylvania. But when I saw the listing in the classifieds section of our local paper that summer — listed at around $49,000 — we had to check it out.

The kitchen was coated in old grease and hedges threatened to swallow the front porch. The house was old (1950s) and in need of serious cleaning and a lot of cosmetic repair:

Ancient, falling-apart and hideous carpets had to be pulled out immediately

The bathroom floor was cracked and cheap tiles were falling from the wall

The kitchen counters were probably original and haven’t aged well

But structurally, it was sound. And grease and paint and hedges can all be taken care of with time and sweat and effort.

We bought the house for around $46,000 — just enough to cover what the seller still owed on his mortgage. And we immediately replaced the carpets with wood laminate flooring and attacked jungle hedges and mounds of drying vines.

Most of the work can be done in bits and pieces, and we can learn to do almost all of it ourselves. And there’s a pride and a joy in looking around our home, with all its quirks and old paint, and knowing that it is all-the-way ours; and that every little update we’ve done is making it better.

We’re still living carefully, though we’re not adding much to our depleted savings account. But I’m more onboard with this budgeting idea now. Before it was my husband’s motivation that designed (and kept) the budget; I tried to get away with splurging as often as I could, because I didn’t see the long-term value over the short-term, stronger, desire.

Standing outside our home for the first time that August afternoon, I’m glad his long-term vision won out.

Reminder: This is a story from one of your fellow readers. Please be nice. After more than a decade of blogging, I have a thick skin, but it can be scary to put your story out in public for the first time. Remember that this guest author isn’t a professional writer, and is just learning about money like you are. Henceforth, unduly nasty comments on readers stories will be removed or edited.

Article from Get Rich Slowly

Why savings bonds are now sexy

6/6/2011 2:19 PM ET|By SmartMoney
Article from MSN.Money.Com

Staid old savings bonds have a brand-new appeal for investors weary of distressingly low interest rates. Here's why you might want to give them a second look.

You might think savings bonds are boring, but lately they're looking pretty good compared with other fixed-income assets, especially once you factor in their tax advantages.

Inflation-protected and tax-favored

Series I bonds are inflation-adjusted siblings of the more familiar Series EE bonds. Series I bonds earn interest for up to 30 years or until redemption, whichever comes first, and they receive favorable tax treatment.

You don't owe the Internal Revenue Service anything for the accrued interest until the year the Series I bonds mature or you cash them in. So you can defer the federal income tax hit for up to 30 years.

Alternatively, you can choose to report the accrued interest income on your tax return each year, which makes sense for kids and others who pay a very low or zero tax rate.

As a bonus, Series I bond interest is exempt from state and local income taxes.

Series I bonds are intended for very small investors. You can buy paper bonds at face value in denominations of $50, $75, $100, $200, $500, $1,000 or $5,000. Or you can buy them in electronic form with a minimum $25 investment.

The maximum amount of paper Series I bonds you can buy for yourself is limited to $5,000 annually. But you can buy up to another $5,000 worth of electronic bonds each year. If you're married, the same annual limits apply to your spouse.

You can also buy up to $5,000 of paper Series I bonds and up to another $5,000 of electronic bonds annually for another individual, such as a grandchild.

You can redeem Series I bonds for cash any time 12 months or more after the purchase date. However, if you redeem them within five years, you'll be charged a penalty equal to three months' worth of interest.

Here's where the inflation protection comes in: A Series I bond's interest rate consists of both a fixed rate that's determined upon issuance and that applies for the 30-year life of the bond, and a variable rate based on the inflation rate, which is reset twice a year.

For Series I bonds issued between May 1 and Oct. 31, the fixed rate is 0% (darned near what most certificates of deposits are paying). The current six-month variable rate, which will be reset Nov. 1, is 2.3%.

The fixed rate is combined with the current variable rate to determine the overall Series I bond interest rate that will be paid for each six-month period. Interest accrues monthly and compounds every six months. Because the fixed rate for Series I bonds issued between May 1 and Oct. 31 is 0%, the current overall rate equates to 4.6% annually.

Series EE bonds are tax-favored

Unlike Series I bonds, the more-familiar Series EE bonds are not inflation-adjusted. As with Series I bonds, they earn interest for up to 30 years or until redemption, and the interest income receives the same favorable tax treatment.

You can buy paper Series EE bonds for half of face value in denominations of $50, $75, $100, $200, $500, $1,000, $5,000 and $10,000.

For example, you would pay $500 for a paper Series EE bond with a $1,000 face value. Alternatively, you can buy Series EE bonds in electronic form for face value with a minimum $25 investment. Series EE bonds are subject to the same annual purchase limits as Series I bonds.

Series EE bonds issued between May 1 and Oct. 31 earn a fixed annual interest rate of 1.1% for up to 30 years. However, if you hold them for 20 years, the government pays you enough extra interest to guarantee that you'll double your money, which equates to an annual interest rate of 3.53% over the 20-year period. But you have to hang in there for the full 20 years to collect on the double-your-money guarantee.

Like Series I bonds, you can redeem Series EE bonds for cash any time 12 months or more after the purchase date. However, if you redeem them within five years, you'll be charged a penalty equal to three months' worth of interest.

Savings bonds redeemed to pay college expenses can be tax-free

The accumulated interest on Series I bonds and Series EE bonds redeemed to pay college tuition and fees can be free of federal income tax.

This tax-saving deal is phased out for adjusted gross incomes between $71,100 and $86,100 if you're unmarried. For married joint filers, the phase-out range is $106,650 to $136,650. You must have been at least 24 years old when you bought the savings bonds to be eligible for this break.

This article was reported by Bill Bischoff for SmartMoney.

Article from MSN.Money.Com