The Other Side of T2023-S$ Temasek Bond

By The Boy Who Procrastinates - October 26, 2018

The application for the T2023-S$ Temasek Bond has closed on 23 Oct. With aggressive marketing for the past two weeks, information on the 5-year bond can be easily accessible on the Temasek website

The public offer has seen a subscription rate of over 8 times whereas the tranche for institutional investors was 7.19 times subscribed. Despite the euphoria around the Temasek's first retail bond, it has received lukewarm reception from The Boy who Procrastinates. 

Aside from the fixed interest rate of 2.7% per year and its Aaa/AAA credit rating by Moody's and S&P, I will assume the role of a devil's advocate and elucidate my reasons for not applying for the Temasek bond in this article. 

Investing with CPF

Many have advocated using CPF to invest in Temasek Bond given that its interest rate is 0.2% higher than that of CPF OA at 2.5%. On the surface, this appears to be a sound advice for savvy investment. However, it's not all rosy if we were to dig deeper into the numbers. 

Unlike CDP, to invest using CPF OA, it is required to set up a CPF Investment Account with DBS, OCBC or UOB. Apart from the one-time application fee, an investor would be subjected to a recurring cost of $2 per counter per quarter. This sums up to a fee of $8 per year. 

Before computing the effective interest rate of the Temasek Bond, let's assume that a successful applicant was allotted $6,000 of bond, which is the allocated amount for approximately 82.5% of the issued bonds. Each year, the investor will receive $162 of interest. Net of the quarterly fee, the effective interest rate is 2.57% per year, a paltry gain of 0.07% instead of the expected 0.2%.  

With the inclusion of the quarterly charges, the cut-off amount in which the effective interest rate of the bond is equivalent to that of CPF OA is $4,000. Any amount below $4,000 would incur a loss as compared to leaving the money in CPF OA untouched. 

If one has to invest, it probably makes sense to invest using cash instead of CPF OA due to the quarterly fee that erodes returns.

Rising Interest Rate Environment

In general, the interest rate and bond prices have an inverse relationship. Running the risk of oversimplification, when interest rate rises, investors demand for higher yield, leading to the fall of the market value of the bond. 

But of course, if one intends to hold the bond till maturity, the price fluctuation in the market is just noise that one should be impervious to, especially with the low default risk associated. 

Aside from the price fluctuation of bond, it is equally essential to assess the attractiveness of other instruments in a rising interest rate environment, which brings me to the following area of concern. 

Low Liquidity

Even though an investor can sell the Temasek bond on the secondary market, he is likely to run into large bid-ask spread for the trading of bonds. The investor would be caught in a quandary on whether to price the bond lower and realize losses on the sale. 

Given the barrier to exit the position, shifting the investment funds from Temasek Bond to other high yielding instrument would prove to be an arduous task. 

Singapore Savings Bond vs Temasek Bond

Removing high-yields savings accounts and GREAT 270 Endowment Plan from the equation, I would consider Singapore Savings Bond ("SSB") to be the natural substitute to Temasek bond in the local market in terms of the level of default risk, as well as the nature of the investment products.

According to the SSB website, the average 5-year interest rate for the Nov issue is 2.22%, 48 basis points less than that of the Temasek Bond. 

The coupon rates for each issuance of SSB are determined with the Singapore Government Securities ("SGS") benchmark yields as reference. These reference yields are based on the simple average of the respective daily SGS benchmark yields of the previous month. 

To extrapolate the coupon rate for the following issue, we can take the simple average of the daily 5-year SGS yields. From this, we can deduce that the average 5-year interest rate for Dec issue will be 2.33% based on 19 out of 23 business days. 

If we were to assume that this would be the final 5-year interest rate for Dec issue, the interest rate gap between SSB and Temasek Bond will narrow by 11 basis points. Historically, this would be the highest 5-year interest rate for SSB.

On the topic of liquidity, an investor has the option to redeem SSB in any given month before it matures. A transaction fee of $2 will be incurred and the redemption amount, together with pro-rated interest will be paid out to the investor within a month. 

If we were to compare the SIBOR and the 5-year SSB interest rate, we would see that the rates generally appears to be moving in tandem to a certain degree.

In my previous article, I have also discussed about the correlation between SIBOR and US Fed Fund Rate. Since then, the US Federal Reserve has recently raised the interest rate to 2.25% in September and have targeted one more rate hike in 2018 and likely three more in 2019

Would the 5-year interest rate of SSB eventually surpass that of Temasek Bond? At this junction, it may be difficult to tell but it is not beyond the realms of possibility. 

Closing Thoughts

Of course, everyone might have their own rationale to invest in Temasek Bond such as achieving a balanced portfolio allocation. Different strokes for different folks. However, there are certain aspects that one should be mindful of especially when investing with CPF. 

Clearly, I might have been biased towards SSB but with justifiable basis. I am willing to trade 0.48% interest rate in exchange for the liquidity to exit the investment with ease. This factor is particularly crucial to me in a rising interest rate environment. 

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Disclaimer: Kindly note that this is not a sponsored post. The author is in no way affiliated with the stated financial institution and does not receive any form of remuneration for this post. All information in this post is published in good faith and for general information purpose only. The ideas and opinions expressed in this post are purely that of the author's and should not be used or construed as an offer to sell, a solicitation of an offer to buy, a recommendation for any security or as professional financial investment advice. The Boy who Procrastinates has compiled the information for his own reference, with the hope that it will benefit others as well.

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