Bottom line: Real interest rates don’t reset on bonds you’ve bought; inflation adjustments reset, even on already purchased bonds, every 6 months.

At pickleball a week ago, a number of us got talking about U.S. Treasury I-Bonds. My wife and I have each bought our quota of $10,000 annually for 2021 and 2022. A pickleball friend was wondering whether or how the I-Bond interest rate gets reset once you’ve bought the bonds.

Although the federal government often explains things badly, in this case the Treasury does a good job. It’s here.

But I’ll go through it anyway.

The I-Bond interest rate is made of 2 components: a real rate that stays constant once you’ve bought the bond and a rate to adjust for inflation. The bonds that my wife and I bought had a real rate of 0.00%. The latest ones, which are selling between November 1, 2022 and April 30, 2023, have a real rate of 0.40%. (Actually, there’s a third small component, as you’ll see below.)

The semi-annual inflation rate for the bonds we bought earlier this year was 4.81%. The semi-annual inflation rate for bonds bought currently is 3.24%.

So on the bonds we bought earlier this year, we earned 0.00% (real) + 2*4.81% (inflation adjustment), which gives 9.62%.

The formula is: Fixed rate + (2 x semiannual inflation rate) + (fixed rate x semiannual inflation rate).

Notice that I’ve left out the third term in the calculation just preceding this formula. It’s for the inflation adjustment on the real interest rate, as any good Fisherian economist (named after Irving Fisher) can tell you. But in the case of the bonds we bought with a 0.0% real interest rate, that term goes to 0. Zero times anything is still zero.

Notice something interesting. As far as I can tell, the inflation rate the Treasury uses is backward looking rather than forward looking. So because inflation was particularly high in the 6 months preceding May 1, 2022, my wife and I got an unusually high interest rate. What we investors care about in choosing investments is the future inflation rate. So, looking at buying an I-Bond today, if you expect the future inflation rate to be lower than the annualized rate for the 6 months preceding November 1 (3.24% * 2), you should be more likely than otherwise to purchase an I-Bond.

Incidentally, I didn’t even know about the existence of I-Bonds until sometime in 2021. But it turns out that they’ve been around since 1998, as the Treasury link shows.

The picture above is of Irving Fisher.