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Should you still buy U.S. Savings Bonds? If so, which type? And are bonds still a good gift?

Daniel J. Pederson is the author of "Savings Bonds: When to Hold, When to Fold, and Everything In-Between" (Sage Creek Press; 276 pages; $19.95). He is also president of The Savings Bond Informer, a company in Detroit that calculates bond values and sells other services to bondholders.

Pederson recently shared his views.

Q. Is it a good idea to buy savings bonds?

A. I think savings bonds represent an attractive option for the conservative end of our investment portfolio.

Q. For money you don't want to suffer a loss on?

A. Yes . . . knowing that we can go to sleep at night and not have to worry about whether it's going up or down the next day. And certainly, in that arena, I include certificates of deposit, money market funds, savings accounts, Treasury securities, etc.

Q. Any other advantages of savings bonds?

A. When we look at that conservative pool of options, the other advantage is, I get total control of when I want to report the interest (for tax purposes). So I'm not locked into a product that I have to report the interest annually.

Secondly, when I do report the interest (on savings bonds), it is subject to federal tax, but exempt from state and local (income) taxes. With a CD or money market fund or savings account, the interest is going to be subject to that state tax.

Q. People now have a choice, the Series EE bond or the new I bond (the inflation-indexed bond), to buy as a gift or as an investment. Which is better?

A. I give the edge to the I bond. And I like it for a couple of different reasons. No. 1., you get 3.3 percent above inflation, guaranteed for the life of the bond.

Q. OK, so you get this 3.3 percent, plus you get something else?

A. Yes, 3.3 percent plus an inflation-adjusted amount that is based on changes in the Consumer Price Index.

Q. So how much are I bonds earning right now?

A. Right now, an I bond is getting 5.05 percent.

Q. How does that compare to the EE bond?

A. A Series EE bond is getting 4.31 percent.

Q. And what's the outlook for the rate that I bonds earn?

A. I project that the I bond rate will increase by half a percentage point to a full percentage point as of November 1, to a range of somewhere between 5.5 percent to 6 percent.

And that is because the six-month period that they will measure for changes in inflation has inflation running at an annual rate of about 2.8 percent.

Q. The I bond will be earning 5.5 percent to 6 percent. For a conservative investment that is guaranteed by the U.S. government, that sounds great. Any drawbacks?

A. You do incur a three-month penalty if you don't hold it for at least five years. So, even though the bond is liquid any time after six months, Uncle Sam's going to nick you for three months of interest if you don't hold it for the five years.

Q. Why not just go out and buy a 5-year or 10-year Treasury note?

A. The Treasury is going to produce income every year, that you're going to have to report. So you're not going to be able to defer tax.

Second, if you have to sell (a Treasury security) prior to maturity, the Treasury could produce either a bonanza or a hardship depending on what interest rates have done since the time you bought it.

In other words, if interest rates have gone up since the time you bought it, you're going to have to sell your Treasury at a discount if you sell prior to maturity.

Q. You don't get that with savings bonds.

A. No. With savings bonds there's no secondary market, so you're going to plod along at this interest rate. And, to me, the savings bond gives you a little more flexibility, as far as choosing the timing of when you want to cash. Because I'm not locked in to holding it until maturity, I can liquidate it early if I want to.

Q. What about fees and commissions?

A. If I sell a Treasury prior to maturity, I have fees and/or commissions. I can now sell Treasurys directly through the government prior to maturity, but that's $34.

So, if I want to get out prior to maturity, there's a fee with the Treasury; there's not a fee with the savings bond, except the savings bond could have that three-month (interest) penalty if I get out before five years.

Q. Also, you don't have to put up as much money up front?

A. You have to have a minimum of $1,000 (to invest in a Treasury security). With a savings bond, you have to have a minimum of $25.

Q. What about savings bonds as a gift? Still a good idea?

A. I like savings bonds as a gift, because it's one of the few things you can give that will actually have value the day after the event. Most things we give depreciate to near zero the day after the event.

Secondly, one of the intangibles is that it's a nice remembrance of the gift giver. I've had a lot of stories where people tell me, "My Aunt Betty gave me this bond, Uncle Joe gave me this bond. It means a lot to me because it's a remembrance of them."

Because there's still a certificate (issued for savings bonds), instead of book-entry, there's a remembrance of that person.

Q. Any other reasons why savings bonds are good as a gift?

A. Because there's a certificate, it actually makes you think twice before you cash it in.

When we give savings bonds as a gift, what we're helping people to do is understand that saving means being a little bit more disciplined over time, and that saving also has its rewards of money growing over time.

Q. Why have savings bond sales been down in recent years?

A. The most significant factor is we've had a booming stock market for the last 10 years. And what is getting clouded is the whole idea of risk: because we've had such a great run in the stock market, people are assuming that all investments have the same risk level.

Q. You mean the value of stocks may actually decline?

A. Yes, exactly, which would throw many people into horrors, to believe that could possibly happen.

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