S'pore Govt Bonds in a Nutshell

Have you ever wanted investments that are as safe as fixed deposits and that would give you returns of 4% each year? Such an investment does exist but not many investors know about them. They are Singapore Government bonds (SGS bonds).

What are SGS Bonds (SGS stands for Singapore Government Securities)? These are bonds, which are issued by the Singapore government. They pay interest every half a year in the form of a coupon payment. For example, if an SGS bond is paying out 4% every year for every $1,000 face value, then the investor will get $40 each year in the form of 2 coupon payments of $20 every 6 months until the SGS bond matures.

SGS Bonds have a few advantages that bond funds and other investment instruments like structured deposits and guaranteed funds do not have. The biggest advantage that SGS Bonds have over these instruments is that the returns you can expect to get if you hold the SGS bond to its maturity are crystal clear. In the example above, if you hold the SGS bond to maturity, you will get $40 or 4% of face value each year. When the SGS bond matures, you are also guaranteed to get the face value of the bond (in this case $1,000).

All this is not dependent on markets rising, or on the US dollar falling, or even on the health of the Singapore economy. The only way you are not going to get your 4% each year will be if the Singapore government defaults on interest payments. This is a very unlikely event given the huge reserves that the Singapore government has built up and its 'AAA' credit rating. So, the return you can get from SGS bonds is essentially guaranteed and the safety of the money you will receive upon maturity is even greater than fixed deposits. (Which is more likely to fail, a bank or an entire country?)

What about liquidity? If you buy a SGS bond that matures in 5 years, are you forced to hold it regardless for the next 5 years? The answer is no. You can sell your SGS bond at any time. At Fundsupermart, because we consolidate all individual transactions into essentially one big institutional transaction, you do not need to worry that no one will buy the SGS bond from you if you wish to sell it. There will definitely be a buyer. Thus, SGS bonds are very liquid and you will have no problems selling them if you need to before they mature.

SGS BOND RETURNS - INTRODUCING YIELD

Fundsupermart.com distributes 11 SGS bonds right now, so what kind of returns can an investor expect from them? This is where we introduce the term "yield". The actual term is called "yield to maturity", but we will use "yield" for short. Yield is the most accurate way to measure the returns an investor can expect to get from his SGS bonds. It is even more accurate than just looking at the coupon rate of the bond. Why is this so? This is because if you wish to buy one of the SGS bonds, you may not necessarily be paying $1,000 for a bond with a face value of $1,000. You might be paying a higher or lower price. The "yield" of the bond is the annualised return of the bond that takes into account the price which you are going to pay for the SGS bond, the coupon payments you will get each year and the amount you will receive upon maturity.

MORE ABOUT YIELD

In our previous example, we bought a SGS bond with $1,000 face value for $1,000. But what if we buy that same bond with $1,000 face value for $1,050? We are now still getting 4% of $1,000 (face value) each year, or $40. But since we paid $1,050 for the bond, we are no longer actually getting 4% of our investment amount. Furthermore, we will lose $50 when the SGS bond matures because we are only getting back $1,000, not $1,050. Bear in mind that we are actually not going to lose money on this investment as we will be getting $40 each year, so that will more than offset our $50 loss. However, the result is that the return, or yield that we will get for buying this bond if we hold it to maturity will not be what is shown on the coupon. It will be lower than the 4% as seen from the coupon in this example. Thus, one important thing that all SGS bond investors should bear in mind is that they should not be misled into looking at the coupon rate to see what they can get from the bond. That 5.625% coupon rate may look high, but it is actually not that great if you have to pay $113 for each $100 worth of bonds that you buy. So, the most important and accurate number that SGS bond investors should look at should be the yield, and not the coupon rate. (For more about yield, please refer to this link).

THE 2 MOST IMPORTANT NUMBERS FOR SGS BONDS

Here are the 2 most important numbers about SGS bonds that you should be looking at (see table 1). (This table with updated figures can be found on www.fundsupermart.com under SGS Bond Info).

Table 1: The year to maturity and yield of SGS Bonds

Based on our SGS Bond info table on 8th January 2004.

The first set of figures is the years to maturity. This tells you how long you need to hold the SGS bond before the Singapore government returns you its face value. (Thus for the SGS bond called NY03100A in the last row, you need to hold it for 14.64 years for it to mature). You can pick and choose which time horizon you are comfortable with. There is a good range of SGS bonds whose maturity range from as short as 1.76 years to as long as 14.64 years. (Of course, you are free to sell the SGS bond any time before it matures, but if you do, the price will be whatever the bond is trading at the time of the sale, and that can be higher or lower than the price you paid for it).

The other set of numbers, the indicative yield, tells you in a nutshell how much on a per annum basis you will be getting from each SGS bond taking into account the purchase price and years to maturity. (Please note that yield also assumes that the interest returns are reinvested at the same coupon rate). At Fundsupermart.com, we also have a yearly custodian fee of 0.1%, which is deducted from the coupon. This should be taken into account when considering your yield. It can be done simply by deducting 0.1% from the yield you see on our table.

SHORTER TERM VS LONGER TERM RETURNS

You will note from Table 1 that if you want a higher return (yield) on your investment, you will have to buy the SGS bonds with a longer maturity. This makes sense as the longer you are required to set aside your money, the higher the return you would expect. This typical type of relationship between yield and years to maturity can be best expressed as a yield curve (see below) and is summed up as follows:

Shorter term years to maturity = lower return (yield)
Longer term years to maturity = higher return (yield)

(For more on yield curves, please refer to this link).

Thus, based on Table 1, you can choose to hold a bond (N798100A) for 1.76 years until it matures, and you will get a yield of 1%, or you can hold a bond (NY03100A) for 14.64 years till it matures and get a yield of 4.04%, or any other SGS bond in between. It is up to you as an investor to decide which holding period and return suits you the most.

You can always choose to buy the bond with the longest maturity giving a yield of 4% per year, get the coupon payments for 2 years and then sell it off. But in such a situation, you will be subject to the trading price of that bond when you sell it in 2 years' time and there will be no guarantee for that price. It can be higher or lower. The yield is calculated based on the amount you will get upon maturity as that is fixed and guaranteed by the Singapore government.

PRICE - THE NUMBER YOU SHOULD NOT FOCUS ON

What about price? The important thing to understand is that the yield already takes into account the market price you will be paying for the bond. Hence, your return has already been calculated for you (refer again to Table 1). Take the bond NX98100H. This bond is currently trading at $113.50. That may seem a high price to pay for an SGS bond that will only pay $100 on maturity. But you are also getting a high coupon rate for that bond. Hence, when both are taken into account, your yield is 2.44%. So, is this yield acceptable to you? If it is, you will be willing to pay that market price at which the bond is currently traded.

Given the various yields (returns) in Table 1, investors may not be satisfied and may wish for more. Well, as the saying goes, low risk = low returns, high risk = potentially high returns. There are investments that can possibly yield higher returns. Investments like equity unit trusts, emerging market bond funds, stocks and etc. But all those will have a higher risk than SGS bonds and their returns are not assured. The one thing an investor can take to bed when they sleep at night is that as long as they hold the SGS bonds to maturity, they know exactly the returns they are going to get unless Singapore defaults on these bonds, which is unlikely.

USING SGS BONDS AS AN ALTERNATIVE TO FIXED DEPOSITS

Think about this for a moment. What are those absolutely safe investments that allow you to sleep easy at night? The closest equivalent would be fixed deposits. There are many conservative investors who typically hold the majority of their money in fixed deposits or even worse, savings accounts. These investors currently get on average 0.7% or less per year (for fixed deposits) but they hold the same amount, or even add to that amount year after year. They could end up keeping thousands and thousands of dollars in fixed deposits for many years and receiving very low returns for it.

SGS bonds should be seen as a viable alternative for such investors. They are useful when you have money lying around that you absolutely cannot risk in higher risk investments. In such a case, a typical investor will leave the money in fixed deposits or savings accounts. However, if you can get a higher return from putting that same amount in an SGS bond that matures in the same time, then why should you short-change yourself? (For other situations where SGS bonds can be useful, go to this link).

NO LOCKED IN PERIOD FOR SGS BONDS - AN EXIT IS ALWAYS POSSIBLE

Besides, if there was really some drastic emergency that requires you to sell your SGS bond before it matures, you can easily do so as well. You may be exposed to price fluctuations but that uncertainty is the price you pay if you decide to sell before the bond matures. In any case, there is always the chance that the price will have moved higher. The other risks of SGS bonds can be found at this link. However, the main risk - that you may end up losing money on the SGS bond in the short term applies only if you sell it before it matures.

Investing directly into bonds like SGS bonds can be complicated or simple depending on how you invest. If you wish to sell it in the short term, then you will have interest rate considerations to contend with. However, if you are ready to hold it to maturity, you will know exactly what returns (yield) you will be getting.

CONCLUSION

In conclusion, bond investing can be very straight forward for investors who just want a very safe investment they can hold for a few years and yet, deliver a return that is better than fixed deposit rates. From our bond info table, you will be able to get the most updated yields and maturities and can then decide which one of these suits you as a low risk investment.

For those who still prefer to leave all their money in fixed deposits, here are a few figures for them to think about. As of now, if all interest is reinvested at the same rate, and if the money is rolled over each year; $100,000 invested into fixed deposits for 15 years at a return of 0.7% per annum will result in a total of about $111,000 at the end of 15 years. The same amount put into a 15-year SGS bond yielding 3.94% (with interest reinvested at the same rate) will result in about $178,500 upon maturity. The difference between the two instruments after 15 years is $67,500.