U.S. Inflation Rose 0.1% In March - And I Bond Holders Get Good News For May 1 Rate Reset

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Includes: TIP
by: Tipswatch

Summary

Non-seasonally adjusted inflation was up a strong 0.43% in March.

That 0.43% number sets the I Bond variable rate at 0.16% for the May 1 reset.

I Bond investors can still buy through April 30 to lock in a 1.64% rate for six months.

The Consumer Price Index for All Urban Consumers (CPI-U) increased 0.1% in March on a seasonally adjusted basis, the U.S. Bureau of Labor Statistics reported today. Over the last 12 months, 'headline' inflation rose 0.9%.

This was lower than the 0.2% consensus estimate and resulted from a crazy bag of mixed price trends. For example: Gasoline prices were up 2.2% in March, but still down 20.9% over the last 12 months. Food prices dropped 0.2%. Apparel prices fell a strong 1.1%, after rising 1.6% in February.

Core inflation - which strips out food and energy - also increased 0.1% in March after rising 0.3% in February. It is up 2.2% over the last year - a sign of moderate inflation.

Holders of TIPS and I Bonds are also interested in non-seasonally adjusted inflation, which is used to adjust principal balances on TIPS and set future interest rates on I Bonds. In March, non-seasonally adjusted inflation reached an index level of 238.132, up a strong 0.43% from February and 0.9% over the last 12 months.

This 0.43% increase was significant. On May 1, US Savings I Bonds will get an interest rate reset, with the variable rate determined by inflation from September 2015 to March 2016. That 0.43% number was high enough to wipe out five months of deflation, resulting in a 0.08% increase.

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That means on May 1, the I Bond variable rate will be set at 0.16%, annualized. This is important, because a negative variable rate would have wiped out the I Bond's fixed rate up to that amount.

So, if you purchase an I Bond today through April 30, you will get a fixed rate of 0.1% and the current variable rate of 1.54%, meaning an annualized return of 1.64% for six months. Then, you will get six months of 0.26% annualized (fixed rate of 0.1% and variable rate of 0.16%).

That works out to less than 1% for a year - you could probably do better with a 1-year CD.

One unknown factor is if the Treasury will continue the fixed rate at 0.1% on May 1. It could lower it to 0.0% - I'd say the current 10-year TIPS yield of 0.21% would justify that. At the least, I'd predict the Treasury won't be raising the fixed rate on May 1.

Another option is to simply wait until the November 1 reset, when both the fixed rate and variable rate could be higher.

I Bonds cause this dilemma because the Treasury places a cap on purchases of $10,000 per person per year. Many investors try to build a cache of I Bonds to take into retirement, pushing tax deferred money into the future.

Nevertheless, the fact that the variable rate won't go negative on May 1 is a pleasant surprise.

Here is the U.S. inflation trend over the last 12 months:

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.