BABY BONDS



Baby bonds are savings-type securities that are available in small dollar denominations, typically $5000 or less. In the past, small dollar bonds were common in the United States, especially during wartime. During the Civil War, for example, the Union government financed most of the costs of fighting the war by selling baby bonds, often in amounts of $50 or less. During World War I, bonds again helped pay for U.S. war efforts; the popular Liberty Bonds were available in denominations as low as 25 cents.

In 1935, the U.S. government issued a series of bonds that are also commonly referred to as baby bonds. Launched in March of that year, the bonds were the first savings-type bond to be offered to the average, everyday investor. Bonds issued that year were known as A bonds, with B bonds following in 1936, C bonds in 1937 and 1938, and D bonds from 1938 to 1941. The bonds were a huge success, as the government raised a total of $3.9 billion selling the low-denomination bonds to citizens.

The bonds were sold at 75 percent of face value in denominations that ranged from $75 to $1000. They had a 10-year maturity period, and if they were held for the entire 10-year period, they accrued interest at 2.9 percent, compounded semi-annually. Available across the country at every branch of the U.S. Post Office (or from the U.S. Treasurer's office), the bonds featured tax-free interest. While most of the baby bonds have already been cashed in, they still pop up from time to time today when elderly customers of the early savings bonds pass away. The government still honors the bonds and will pay up the full face value of $1,000 if they are cashed in.

In the current bond market, the term baby bonds does not usually refer to those early U.S. government bonds, but instead to small denomination municipal bonds issued by cities and states to fund construction and other high-cost projects. The bonds typically have maturity periods of 8 to 15 years and are zero coupon bonds, usually rated A or better on the bond market. There is no purchase commission on the bonds, and they are typically bought in person by the small investor from the city or state treasurer's office that is issuing the bonds. An example of a baby bond is one issued by the city of New York. As described in Forbes, it offered a bond that could be purchased for $975 that held a $5000 face value if redeemed at full-term in the year 2019, which is a 6.4 percent interest yield.

Buyers are responsible for managing the bonds themselves, from finding a safe place to keep the actual bond, to knowing when the bond has reached maturity and can be cashed in. The bonds can be deposited in a regular brokerage account, if the buyer has one, and some financial institutions are recognizing that baby bonds are a growing market and are beginning to offer management services. The first such service was offered in 1993 by the Midwest Securities Trust Company, a subsidiary of the Chicago Stock Exchange. Under the company's Baby Bond Safekeeping Program, small investors who owned bonds of less than $1000 in face value received book-entry settlement, automated payment of interest and redemption money, and safekeeping of the bonds themselves. According to The Bond Buyer, more than 2,000 bonds were entered into the program in its first five days.

In the late 1990s, another type of bond was gaining popularity under the name baby bond. First launched in England, this type of baby bond is a savings instrument that parents can use to build a nest egg for their child. Under a baby bond plan, parents contribute money to a tax-free bond fund that guarantees a minimum lump sum payment to their child when the child reaches the age of 18. The plan has to last a minimum of 10 years, during which time the parents can make monthly contributions ranging from 10 to 25 British pounds. Participants did not have to pay income tax or capital gains taxes on the baby bond investments.

FURTHER READING:

" 'Baby Bonds' Are Offered Safekeeping in New Service from Chicago Exchange." The Bond Buyer. December 13, 1993.

"It's Tough to Kiss Babies Good-Bye." Forbes. June 21, 1993.

SEE ALSO: Bonds



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