The Indexes

The two S&P/Citigroup indexes that make up the S&P/Citigroup International Treasury Bond Index Series are designed to track treasury bonds in developed countries, excluding the U.S. The index defines a developed country as classified by the Bank for International Settlements (BIS). IGOV's tracking benchmark is the S&P/Citigroup international Treasury Bond ex-Us Index, which tracks foreign Treasury bonds with maturities greater than one year, while ISHG's index, the S&P/Citigroup International Treasury Bond 1-3 Year Index, is similar in most ways, but limits the bond holding to maturities greater than one year and less than three.

Both indexes in the series weight countries based on a market value, similar to a market-cap weighting in equities, but with some constraints. Countries within the index are limited to a 24.95% holding by the index, and the sum of country weights above 4.95% cannot be greater than 50% of the index.

The indexes rebalance monthly to reweight according to country guidelines set annually in March of each year. Bonds within the countries are weighted similarly to the way the country weights are set within the indexes, by market value.

Since there is some overlap in holdings of the two S&P/Citigroup bond indexes, the country weights tend to mirror each other. The annual reweighting took place this March and the S&P committee did not add or remove any country. Noteworthy is the Japanese portion of the 19 countries included in the indexes, which was the maximum allowance in both the 1-3 year and intermediate index.

The indexes which are tracked by the SPDR ETFs, (NYSEArca: BWX) and (NYSEArca: BWZ), have a methodology similar to S&P/Citigroup. The Barclays Capital (formerly Lehman Brother) indexes include these developed countries: Australia, Austria, Belgium, Canada, Denmark, France, Germany, Greece, Italy, Japan, Mexico, Netherlands, Poland, South Africa, Spain, Sweden, Taiwan, and United Kingdom. The country weights are designated based on a market value approach similar to market capitalization. The bonds within each country are done likewise, with higher weighting given to higher market value.

The index will rebalance monthly based on the rules of inclusion. If a country or holding fails to meet the inclusion rules, it will be excluded from the index.

The two indexes have the same methodology, with one exception: The Barclays Capital Global Treasury ex-US 1-3 Year Capped Index, tracked by BWZ, only includes bonds with maturities more than one year but less than three.

The countries included in the index have credit qualities that are considered investment grade, using a middle credit rating from the three credit rating agencies. Some of the countries included in the indexes that meet the investment-grade requirements are included in developing country indexes like Mexico and South Africa.

The ETFs

For all for of the ETFs, Japan seems to make up a large percentage of each ETF. BWX, as of April 30, held 22.65% Japanese government bonds, and IGOV, as of the same date, held 24.61% but will be rebalanced each month, reweighting the Japanese holding to its maximum allowance of 24.95%.

The methodologies of the funds are mostly to blame for the funds' holdings shifting largely to Japan. Unlike stock indexes where the market participants fundamentally decide the total market value or market capitalization of a company's stock or basket of stocks, the total market value of bonds can be influenced heavily by the by the issuer, issuing more bonds.

Cost is a factor with higher quality fixed-income vehicles, since expected return and yield are lower. The chart below shows the expense ratios for the four developed international bond ETFs.

IGOV appears to track country weights, and sample from the bond holdings within each country. This sampling allows for an easier basket of bonds to create and redeem shares of the ETF, while keeping credit quality closely mirroring the index. As of the end of the first quarter in 2009, IGOV held 47 bond issues, while the underlying index held 552.

Kyle Waller is a research analyst at Wiser Wealth Management in Marietta, Ga. He welcomes comments and suggestions for future columns at: This e-mail address is being protected from spambots. You need JavaScript enabled to view it .

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