I have drilled hardened knife tangs with the masonry drill bits before, but have also melted some of those same bits, too :) Not sure if they have a size small enough to end with a 1/8" hole or not? I have some of the bits in 5/32", not sure of the final hole size yet. Carbide may work, or a narrow diamond bit in a Dremel? A #30 wire bit will allow clearance for a true 1/8" diameter pin w/o binding. A 1/8" pin will usually not fit into a hole drilled by a 1/8" pin.