Foreign bond allocation, SGS yield spread

I have finished reading Larry’s bond book that I bought more than a month ago. Larry wrote that currency-hedged foreign bonds provide the benefit of diversification of interest rate risk. However, no suggested allocation was given. Indexfundfan’s Foreign bond allocation for Singapore investors suggests a 50:50 allocation to foreign bonds and Singapore bonds. This sounds good to me. I think I will start with this allocation.

Next, where is the “sweet spot” (the point where the yield curve is no longer upward sloping) of Singapore Government Securities (SGS) yield curve? Below is the SGS weekly yield curve for 1-year T-bill and 2, 5, 7-year bond since 1998.
SGS Weekly Yield Curve, Jan 1998 to Jun 2006

In the recent year, the yield curves of different maturity have converged, so the “sweet spot” has shifted to the shorter maturity end. Was it worth to extend the maturity of SGS bonds and take the interest rate risk in the past? Lacking any rule of thumb, I use Larry’s suggestion of 0.2% minimum incremental yield for each additional year of maturity. So the question becomes: when extending the maturity of SGS, how many occurrences since 1998 satisfied the minimum incremental yield requirement?

Below is the yield spread for extending SGS maturity from 1 to 2 years, 2 to 5 years and 5 to 7 years. The horizontal lines are the minimum incremental yield requirements for the respective extensions (as indicated by the colour). For example, the yellow line represents 0.4% (0.2%X2) minimum incremental yield requirement for extending SGS maturity from 5 to 7 years. More dots above the line means more occurrences that meet the requirement. As you can see, extending SGS maturity from 1 to 2 years and 2 to 5 years have a higher chance of meeting the requirement than extending SGS maturity from 5 to 7 years. I did not include extension from 7 to 10 and 10 to 15 years because the were negligible number of occurrences that satisfied the minimum incremental yield requirement.

SGS Weekly Yield Spread, Jan 1998 to Jun 2006

So from the historical SGS yield curve, I think it is worth to extend the maturity of individual bond to 7 years for my bond ladder, provided the minimum incremental yield requirement is met.


7 responses to “Foreign bond allocation, SGS yield spread

  1. The second figure is very interesting. It is quite clear that there are more blue dots above the blue line than below. The same is probably also true for the magenta dots. But, I can’t really see the case for the yellow dots.

    Maybe you can do a histogram plot that shows on the vertical axis the number of times and on the horizontal axis the excess premium fora particular bond.

    For example, for the 5 year bond, you could group the excess premium into the following bands [-60,-40), [-40,-20), [-20,0), [0,20), [20,40), [40,60), [60,80), etc. (units = basis points). That is, basically subtract the premium by 60 basis points and then count the number of times for each band.

  2. Ok, I got the histogram now. Here’s what I have done: substract the excess premium (e.g. 0.6% for 2 to 5 yr extension ) from each yield spread to get a series of positive and negative numbers. More positive numbers mean more number of times that the yield spread meets the excess premium (minimum incremental yield requirement).

    Here’s the % positive number, i.e. the % number of times the yield spread meet the requirement:

    1 > 2 yr: 80%
    2 > 5 yr: 75%
    5 > 7 yr: 35%
    7 > 10 yr: 1%
    10 > 15 yr: 0%

    The case to extend SGS bond maturity to 7-year is very low. We can forget about 10 and 15-year SGS bonds.

    I can send you the spreadsheet if you want to take a look.

  3. Nice! Looks like the 5-yr is the best based on historical results. Interestingly, the 5-yr is also recommended by many for U.S. treasuries.

  4. hi choozm, drizzt here. dun know you got a blog.

    great stuff this histogram. no wonder most funds stick with a maturity of 5 years.

    i just think you guys are talented with numbers.

    btw, i have moved my blog to

    will be linking you now.


  5. very interesting, but I don’t agree with you

  6. hello,
    if you are able to diversify away fr Sg bonds, you will find that on a relative basis, Sg bonds are expensive to say US treasuries. Unless you have a target YTM% to hit, it would be challenging to find yields in current environment (compressing yields, inflation not that well behaved) that would be attractive in the Sg space.

    Sg corporate yields are now very attractive -due to increased risk aversion but I think that retail investors would find it hard to buy due to OTC market dynamics.

  7. Hi Hanafi,

    SG government bond yield is low now. On the other hand, SG retail investors may not have easy access to US treasuries. And it is also expensive for retail investors to buy SG corporate bonds. Dilemma…

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