SPDR Barclays Capital International Treasury Bond (BWX) provides low-cost exposure to a basket of international developed-markets Treasury sovereign bonds.
Investors seeking to diversify their currency exposure might consider a small stake here, as local currency international bonds provide a decent hedge against US dollar exposure. That said, at this time, a key consideration for potential investors should be the risk that negative news could result in poor market performance and a spike in volatility—particularly with respect to BWX’s European holdings.
The bulk of the fund’s European exposure is in the stronger credits such as the United Kingdom and France, but debt from Spain and Italy combined make up 10% of the portfolio. Still, no European country is completely insulated if any of the weaker credits were to default. Standard and Poor’s recently announced that it had put all 17 members of the Eurozone on negative credit watch, which means there is at least a 50% chance of a downgrade within 90 days.
The situation across the pond and the fate of the euro remain fluid. As such, this fund is not for the risk-averse, despite its allocation to “risk-free” Treasuries.
However, it could be an interesting tactical investment for those who believe that an effective resolution will ultimately be reached. In the unlikely scenario that the euro currency dissolves, it is likely that even Germany’s and France’s debt would come under severe stress.
Investors should tread carefully and understand that investment in this fund is no longer a conservative way to diversify your fixed-income exposure. This fund should be considered a satellite holding and is most appropriate for investors who believe that the US dollar is going to weaken versus global currencies or investors with the desire to insulate their portfolios against a weak dollar.
The underlying index tracks a stable of relatively solvent government-backed bonds issued by countries with BBB ratings or higher. So, the credit risk is small compared with corporate bonds, but it is certainly not zero. As with any fixed-income product, investors need to be mindful of the yield offered and how that compares with their expectations for inflation over the long run.
Unlike investments in dollar-denominated fixed-income products, such as US Treasuries and corporate bonds, investors need to be aware of the currency risk they are taking on by investing in this fund. The underlying index tracks bonds in their local currency, so prices will move with changes in the dollar versus the specific currency for that bond. That means you can expect high volatility over the short-term but with the long-run return characteristics of Treasuries.
To us, that is not a very compelling combination. In effect, buying this fund is an implicit bet against the US dollar that pays a relatively small interest rate.
Normally, debt of developed-markets countries would be one of the more conservative investments. In the past year, the strength of this debt around the world has been called into question. Greece is the first domino in what could lead to more countries needing assistance to stay current on their interest payments.
With nearly 60% of BWX invested in European countries and 23% in Japan, there are increased risks for investors. The European debt crisis is a concern for the entire financial system.
How the crisis will eventually resolve itself is unknown. The worst-case scenario is a collapse of the European Union and multiple European bank bankruptcies causing a global-financial contagion similar to when Lehman Brothers went bankrupt in September 2008.
On the other hand, European countries could band together to turn their loose monetary union into a sturdier fiscal union. Countries would have to relinquish some sovereign control of their budgets and spending policies, but a unified Europe would have many economic advantages.
Centuries-old cultural and political history will make a stronger union difficult, so it is very hard to predict how it will all play out. Investors should expect high volatility for the foreseeable future.
This fund does not hold any Greek debt, but debt from Spain and Italy each make up 4.8% of the portfolio. With announcements from European regulators and general news out of the region being followed closely by market participants across the globe, headline risk remains a chief concern.
Portfolio Construction
The benchmark is Barclays Capital Global Treasury Ex-US Capped Index, which includes government bonds, issued by investment-grade countries outside the United States in local currencies that have a remaining maturity of one year or more and are rated investment-grade. The countries are weighted by market capitalization in the index.
So, the top three countries in the fund—Japan, United Kingdom, and France—comprise more than 44% of the total assets. The portfolio has an average duration of seven years and a yield-to-maturity of 2.5%. This fund levies a 0.5% expense ratio, which is typical of a fixed-income fund with this type of specific focus.
A similar fund worth considering is iShares S&P/Citigroup International Treasury Bond (IGOV), which charges 0.35%. IGOV is smaller and has lower trading volume, but has paid a consistent monthly dividend because it has always used an in-kind creation/redemption process, unlike BWX.
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