Building a 1-Year Gambian Treasury Bill Ladder: Pearls and Pitfalls for the Individual Investor

Central Bank of The Gambia

By Mougnyan Cox,

Treasury bills are debt issued by the Central Bank of The Gambia for government financing that is backed by the full faith and credit of the government. In addition to taxes, treasury bills are an important source of government funding for public works. These debt instruments are usually bought at a discount to par or face value and redeemed at maturity/term for the full value of the bill. The difference between the discount purchase price and the face value represents the interest earned.

Treasury bills are considered the safest interest-earning investment in the economy, since the ability to issue currency and collect taxes means that the government can usually be relied upon to repay domestic debt in full (at least in nominal terms). For everyday retail investors, all other domestic investments should be compared to the interest rates on treasury bills. If a 1-year treasury bill pays 10% a year, all other competing local investments have to offer the prospect of earning more than 10% to entice investors away from the 'safe harbor' return of 10%.

Building a treasury bill ladder is relatively straightforward. For example, the first month an investor may purchase a 10,000 dalasi treasury bill, to be redeemed in 12 months at 10% interest. The second month, another 10,000 tranche would be purchased to be redeemed 12 months after that, etc. After one year, the investor would have 120,000 worth of treasury bills, with staggering maturity dates in 10,000 dalasi increments reminiscent of the rungs of a ladder. Each 10,000 dalasi tranche or ladder rung can then be reinvested in a new batch of treasury bills as they mature, providing a steady monthly stream of constantly maturing interest-earning income.

The advantage of a treasury bill ladder is the ability to take advantage of favorable changes in the interest rate, as maturing treasury bills can be reinvested in treasury bills with higher interest rates (or deeper discounted treasury bills relative to face value). The other advantage is the ability to earn a higher return on savings compared to cash sitting in a check account. The advantage of treasury bills over cash grows over time, as reinvested interest from treasury bills earns its own interest through compounding, while the purchasing power of cash is steadily eroded by inflation.

The two main disadvantages of treasury bill ladders are somewhat related and are mainly rising or high inflation and reinvestment risk. Inflation (general rise of prices in the local economy) reduces the purchasing power of treasury bills and the interest earned. At 7% inflation, a treasury bill earning 10% has a real return of 3% when inflation is taken into account, and that return may also be further reduced by taxes. Inflation remains the insidious enemy of savers and investors everywhere from time immemorial, and an investment portfolio comprised of treasury bills alone may be insufficient to mitigate the steady erosion of purchasing power.

Using the 'rule of 72'*, even a moderate rate of inflation at 7% will reduce the purchasing power of money by half in just over 10 years. Other investments/asset classes with a higher expected return (and higher risk) like stocks/equities or real estate would likely be required to outpace inflation. Reinvestment risk is related to the uncertainty of the interest rates on future treasury bills when the oldest rung of the treasury bill ladder matures. A treasury bill that was invested at 10% a year ago may mature and only be reinvested at 5% if treasury bills paying 5% are the highest earning bills available at that time.

One other limitation of treasury bill ladders are that they require large purchases up front for each rung, which may limit the number of potential investors and decrease liquidity/demand for these securities. In some countries, this limitation has been overcome by the establishment of treasury bill mutual funds or exchange-traded funds (ETFs) in the US and UK, as well as unit investments trusts in others (e.g. Ghana and Nigeria). This allows a wider pool of local investors to purchase treasury bills in smaller amounts throughout the course of the year. In addition to boosting liquidity, widening the pool of investors would mobilize more domestic savings and potentially lower borrowing costs for the government over time, perhaps even enabling it to borrow larger amounts over a longer period of time (5-year or even 10-year treasury bills).

More recently, an African Sovereign Bond ETF has been introduced to pool African government debt and package it for sale to global investors for related reasons [1]. A similar fund on a local scale in The Gambia would help both the government and smaller individual retail investors.

*Rule of 72 states that the approximate time in years it takes to double one's money = 72 divided by the interest rate. In the case of inflation, it's the time taken to reduce one's principal by half.

1. https://www.semafor.com/article/08/12/2026/africa-gets-a-new-sovereign-bond-etf