Chris Lee & Partners Ltd

Market News 31 August 2020

Bubble management is concerned about this year’s election and very concerned about 16-year olds asking for the vote.

‘If our adult children don’t understand household policy (how to stack a dishwasher) what hope is there that they’ll understand national policy and politicians?’

I am not concerned. No election during my career has fundamentally altered our country’s progress.

INVESTMENT OPINION

Another hit to digest – The reminders just keep coming that interest rates are near to zero percent and are staying there for a very long time.

ANZ Bank has announced the closure of the Bonus Bonds fund due to historically low interest rates.

Bonus Bond investors, and regular readers of our newsletters, know that the prize pool for the Bonus Bond fund is generated by interest collected on deposits and bonds held by the fund (your money).

Those same readers may recall us predicting the probability of the fund’s closure in Market News of 19 August 2019 and 28 October 2019.

We essentially predicted the closure of the Bonus Bonds fund when interest rates fell below 0.87% which equals the annual fee collected by ANZ for managing the fund (otherwise they would be operating a ponzi scheme if a prize pool continued!)

We pondered if the fund would increase the risk tolerance to access more reward but this clearly wasn’t an option that the fund’s directors were comfortable with.

We pondered less frequent prize draws but interest rates have fallen too fast and the fund cannot even afford one prize pool per annum.

There is no magic in the way the prize pool is generated. ANZ collects the interest, retains their fee, and pays out the balance in prizes.

No interest rate income means no prize pool and no fee for the ANZ, and frankly you can tell that as a wholesale scale investor the Bonus Bonds fund has become very concerned about being exposed to negative interest rates.

Who was going to pay the piper (known as ANZ)?

Imagine the marketing line under a negative interest rate environment; ‘welcome to Bonus Bonds where you pay us a prize to hold your money – Bonus Bonds (aka ANZ), the winner every time’.

The ANZ PR department used typical wording - Low interest rates have reduced the investment returns of the scheme, which affects the size of the prize pool. It has now become apparent those trends are likely to continue in the medium term. The Official Cash Rate, currently at a historically low 0.25 per cent, may fall further in early 2021 as the global economy grapples with the impacts of Covid-19. (bold accents are mine)

Have you noticed that everyone is now blaming Covid19 now for all woes?

Interest rates have been declining for decades now, not six months, and it is government and central bank policy that has us experiencing negative real interest rates, not a virus. Negative nominal interest rates appear imminent.

What does ANZ mean by ‘medium term’?

It is certainly not months. One does not kill off a $ 3 billion cash cow if the disruption is only expected to last a few months (ANZ collected more than $20 million in fees last year from BB).

The ANZ bank clearly expects interest rates to remain well below 0.87% (the fee ratio) for many years. This opinion is supported by current interest rates across long terms – 13-year NZ government bonds yield 0.66% as I write.

The BB fund has an excellent portfolio of bonds and deposits. I don’t know its average duration (average life across all bonds yet to be repaid) but it won’t be months, which is the timing they are adopting to begin repayment of the funds.

This implies that the fund is not cash accounted (pay out the cash received) but that all bonds are valued at market each day (month?) and gains are paid out as part of the prize pool.

If I am correct on this point it implies that the BB Reserves referred to in the public statement are still exposed to market volatility, until the bond portfolio is sold.

I sense a $1.5 billion bond trade coming up (and unwind $1.5 billion of deposits). Selling the fund’s bonds will be easy to achieve because the Reserve Bank will happily buy the government and local government bonds and NZ fund managers will happily buy the rest. ANZ financial markets dealers will be lining up to assist with this mighty transaction.

Once all the bonds are sold ANZ will have a clear line of sight to holding the funds to meet prize pool commitments (two more), repayment obligations and residual fee obligations.

The elephant in the room is – what are ‘you’ all going to do with your $3 billion?

The answer, of course, is to call Chris Lee & Partners, sign up for the financial advice service and we will help you to reinvest these funds productively (not in another gaming fund).

For the sake of perspective on the scale of the BB fund, ‘you’ could buy almost all of Chorus, or 35% of Spark, or all of two property entities (Argosy and Kiwi Property Group) with ‘your’ $3 billion.

It would take us a while to piece together those transactions for you, but we are ready to make a start.

Perspective – New Zealand Gross Domestic Product (GDP) is recorded as being between US$200-210 billion per annum over the past four years.

Apple alone has earnings over the past nine months of US$209 billion.

NZ is the proverbial cork on the ocean.

However, extrapolating the proverb, our scale enables us to focus and deliver effective change quickly, just as Team NZ did floating in the North Atlantic (Bermuda).

Ports of Auckland – The latest iteration of the Ports of Auckland (POA) story is further evidence that our country’s political leadership have economic blinkers on.

The Auckland Council is now asking central government to consider buying 50% of the port from the council. Auckland Council is short of money, and quite probably short of commercial management expertise too.

50% is a nothing transaction, perpetuating the political quagmire if it is 50% each held by two different political entities. Either AKC retains 51% or the sell 51% (control) otherwise they are wasting time and value.

My main frustration though is that if capital is required elsewhere, either by POA or the council, then surely the best proposal is to approach capital markets, not the government.

Christchurch Council frustrates me for the same reason. Their region also needs more public investment in other assets, yet they are determined to keep public money locked up in commercial businesses, some of which may not be paying their way at present.

Councils are mired in the perception that they are the best owners of such businesses, but they expose their ratepayers unnecessarily to additional financial risk. As the government proved with its Mixed Ownership Model, you only need to own 51% to retain control.

The earthquake damage to Lyttleton Port and now Covid19 damage to airport activity are examples of how risks can play out and deliver more financial damage than was necessary for the council and thus ratepayers to carry.

In the early 1990’s POA was listed on the NZX when the Waikato Regional Council elected to sell its 20% share. The value at the time was about $350 million.

In 2005 the Auckland Council (including predecessors) ‘wisdom committee’ decided that they should own 100% of POA and successfully made a takeover offer for the other 20% valuing the business at approximately $850 million.

POA valuations since that time have been at lower levels ($620 million in 2012 and $588 million in 2015, excluding the land it seems).

As I understand it the council prefers to separate ownership of the land and the port business. Retaining long term ownership of the land makes complete sense, but owning the commercial business leasing the land does not.

Auckland ratepayers have no need to own the port business and Covid19 should remind them why they also don’t need the risks of owning Auckland Airport (AIA). We don’t need our councils to be fund managers of commercial assets.

Auckland Council should not need to do much more thinking on the matter; a couple of meetings with the more progressive Hawke’s Bay Regional Council (partial sale of Napier Port) should uncover better options for POA and AKC.

They can also reflect on the huge outperformance delivered by Port of Tauranga relative to POA.

If for some political reason Auckland Council doesn’t want POA listed on our capital markets (the NZX), but they acknowledge POA would benefit from the removal of politicians from the structure, ask New Zealand’s other ports to buy in.

It’s not hard to imagine Port of Tauranga wanting to influence POA operation armed with its decades of value adding skills.

We really need to stop asking the government to pay for everything and own everything (there’s a label for that – Ed).

Given the threat to people’s employment related incomes, and the slump in passive incomes for the retired, our councils need a radical re-think too on what they think they should own and pay for.

Share Splits – Why does the share market validate the illusion that stock splits add value?

I wish I had easy access to 30+ years of data to display to you how often a share price rises immediately after a share split.

Tesla is a current, highly visible example.

A share split simply increases the number of shares a company has on issue; it does not add value to the business.

If company XYZ with 100 million shares on issue today, where you own 20,000 of them, announces a three for one (3:1) share split, tomorrow that company will have 300 million shares on issue and you will hold 60,000 shares.

Yesterday company XYZ was valued at $300 million, so a share price of $3.00 would be appropriate and your approximate wealth from this investment would be $60,000 (20,000 shares at $3.00).

Tomorrow company XYZ will still have a value of $300 million but now it has 300 million shares on issue (3:1), so the share price should be $1.00. You will then have 60,000 shares and thus should still have an investment worth $60,000.

However, as you can tell by the tone of this paragraph it is very common for the share market to decide that the share price needs to be higher than $1.00 tomorrow, even though XYZ has not added any new value overnight.

In fact, so common is this market behaviour that in many cases once a share split is announced the market no longer waits for the split before rising again, now a share price increases in preparation of the split; witness Tesla over the past two weeks.

Tesla’s share price prior to the split announcement was US$1,375 (up from a Covid19 low of US$360). Following the news of a 5:1 split the Tesla share price jumped to US$1,600 and ran quickly up to its current level of US$2,050.

I doubt that Tesla share price will now rest at US$410 post-split (5:1). The market tells us it will rise further, even before Tesla sells another car or makes another announcement.

Tesla shares and Elon Musk are market darlings and seem to have become the modern-day Thomas Edison and General Electric (if you’ll excuse the obvious clash of names because Edison wasn’t that keen on Tesla – Ed).

A conspiracy theorist might say that Elon Musk has pounced on this highly probable market behaviour as another method of tightening the tourniquet on the skeptics who had been shorting (selling) Tesla shares hoping to profit from a price fall.

Side Bar – ‘shorting a share’ is done by selling shares you do not own to profit from a fall in price. To deliver the shares to the buyer you borrow them from another owner and pay a rental fee.

If a person shorted Tesla at say US$400 during the past year and yelled loudly that the company is hollow and will fall in value, they will have felt very uncomfortable when the share price subsequently rose to US$1,000.

Imagine how they feel now at US$2,000 with a share split pending?

The share markets are carrying elevated values already in response to plummeting interest rates and darlings such as technology and Tesla also have a passionate support quotient. Agreeing to pay even more based on a share split is the domain of emotion, not value.

I’m not questioning that it’s possible to profit by trading on that emotional input, but don’t mistake it for productivity and profitability of the business.

If someone out there is willing to pay us 5x value for Chris Lee & Partners Ltd, we are willing to arrange the necessary share split!

Some fun statistics from the Tesla share price situation:

At US$390 billion of current market capitalization (shares on issue x share price), making payment with shares instead of cash, Tesla could buy all of Ford ($6B), General Motors ($40B), Toyota ($215B), Volkswagen ($85B) and BMW ($38B) and have a little change left for the office Christmas party.

You might simply read this item as reinforcing the value of using a financial advice service from us for our investment decisions.

EVER THE OPTIMIST

If we are finding it harder to spend our money, with recurring lock downs, will this result in a long-desired decline in the gross debt levels (private debts) being carried by most economies?

Investment Opportunities

Mercury Energy (MCY) – is offering a new 7-year bond to the market.

Our estimate of the yield is 1.65-75%.

It will be a fast-moving deal, booked by contract note, with clients paying the brokerage costs.

We have a list that clients are welcome to join if they have a firm interest in investing in these new bonds.

Summerset (SUM) – has announced its intention to offer a new 7-year bond.

The interest rate should be a little above 2.00% and we expect the offer to be fast moving, booked by contract note. SUM paid the brokerage costs last time and we expect (hope) that they will follow the same process again.

We have started a list for investors who wish to participate in this offer.

TRAVEL

Kevin will be in Christchurch on 10 September.

Please let us know now if you would like an appointment in your town.

 

Thank you.

Mike Warrington

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Market News 24 August 2020

All that glitters…

We have one or two gold bugs among us.

Throughout my career the price of gold has always featured in the major market summary reports and regardless of whether its price was rising or falling it always carried with it a veritable trainload of analysts with very robust opinions.

Analysts are never indifferent about the value of gold.

We urge investors to consider asset allocation mixes across the major asset classes of Fixed Interest, Property and Shares but seldom address gold.

Scarcity assets include gold, then art, rare Ferraris and crypto currencies, but as a general rule one should have an excess of income before investing in scarcity assets.

However, many people find the 'glitter' hard to resist.

I do not own any gold. All the gold that I have ever purchased is now controlled by 'bubble management' at home, and rightly so.

Kevin, however, is our Gollum of Gold and he has no intention of throwing the precious metal into the fires of Mount Doom.

Given the current interest in the metal, and my narrow perspective for gold, Kevin Gloag kindly offered to write to you about this subject.

INVESTMENT OPINION

GOLD – Kevin writes:

Gold and silver have entered a much-needed consolidation stage according to fund managers and market analysts.

Gold recently dropped 6% and Silver 15%, in a single day, and experts seem to agree that both precious metals had become fundamentally overvalued after a big run-up in recent months.

Gold recently surged past its previous high of US$1920 an ounce to reach all-time highs above US$2,050 an ounce while Silver's price had tripled in less than a month.

Gold and silver optimists believe that as we enter a consolidation phase it is important to distinguish between short term momentum and long-term fundamentals and that sentiment is still very bullish for precious metals, just not at any price.

Gold has a history of making and then giving back gains as it gradually makes its way higher.

Gold started this century at around US$250 an ounce, rising to $1920 an ounce by 2011 and then retreating 45% by 2015, before climbing to its recent record highs.

Even long-time precious metal objector Warren Buffet has joined the action, recently purchasing nearly US$600 million in Barrick Gold shares (mining company). His entry into the sector has understandably caught people's attention.

Through the years Buffet has been very vocal about his disdain for gold as an investment stating that ''it does nothing, it just sits there looking at you.''

In a Harvard speech in the late nineties he shared his thoughts on gold:

''Gold gets dug out of the ground in Africa, or someplace. Then we melt it down, dig another hole, bury it again and pay people to stand around guarding it. It has no utility. Anyone watching from Mars would be scratching their head.''

Despite Buffet's life-long scepticism toward gold the current global environment is pushing more and more investors toward precious metals.

Gold likes unmanageable government debt levels, deficit spending, inflation, deflation, geopolitical and trade tensions, recessions, depressions, currency debasement and currency wars and just about everything bad, many of which are currently in play.

Gold especially likes negative real interest rates and history shows that the biggest booms in the gold market have occurred in negative real rate environments.

Globally, including NZ, real yields are in negative territory meaning that the rate of inflation is higher than the nominal interest rates and returns seem destined to be headed even more negative in the foreseeable future.

The gold market seems to be signalling that the deflationary environment we have been experiencing for 40 years is coming to an end and a new era, which will include inflation, is approaching.

The massive expansions of both monetary and fiscal policies globally, in response to Covid19, has some comparing the current setting to the inflationary problems that developed in the late 60s, early 70s.

And the more money printing and deficit spending governments engage in the bigger the problem will be if inflation starts to accelerate.

Jared Dillan, from the Mauldin Economics team, recently wrote an article ''Inflation is coming, are you ready?''

Dillan believes that markets react to the fear of inflation rather than actual inflation and that if you wait for the actual inflation, the trade is two thirds over.

He believes that the current instability, the weaker US dollar, the passing around of printed money and the rumour of inflation is going to mint a new generation of gold bugs.

Dillan notes the things that are rallying – gold, silver, base metals, energy, real estate and stocks – and it smells like inflation to him. Going forward he sees gold not as a safe haven but as a risk asset and if stock markets crash so will gold.

This is exactly what happened in the big March/April correction this year – when stocks tipped up so did gold.

Dillan believes central banks will have no choice but to let inflation run above target rates and that it will escalate out of control from there.

Given current debt levels, rising unemployment, and weak outlooks for business and economic growth I agree that raising interest rates in the face of inflation would have dire consequences.

Although Dillan predicts a wave of new gold investors there has always been a certain amount ridicule associated with idea of investing in gold and other precious metals.

People have either been unassailably pro-gold or they hate it and many people seem to regard gold investors as doomsayers or weirdos and I have met investors who are almost embarrassed to admit that they own gold as an investment.

Perhaps the recent media hype and growing interest in gold might reduce some of this stigma.

I have been a small-time gold investor for several decades and while never feeling embarrassed I have found gold to be an extremely frustrating investment because its price never seems to reflect the normal supply/demand dynamics of a fully free market.

Gold price suppression by the world's central banks is well documented and many large investment banks have been prosecuted and fined for gold price manipulation.

In the 1960s central bank manipulation of the gold price was conducted in the public domain when a group of eight central banks (US and seven European countries) pooled their gold reserves (known as the London Gold Pool) and set about defending a gold price of US$35 per ounce through coordinated gold sales and purchases.

This price manipulation broke down in 1968 when the London Gold Pool collapsed following runs on the British pound and US dollar and after the US Treasury ran out of good delivery gold.

In 1971 the gold window closed completely when Nixon cancelled the international convertibility of US dollars to gold and the gold price appreciated rapidly to US$850 per ounce, helped along by a period of very high inflation, and negative real interest rates.

Central banks continued to suppress gold prices through the 1970s through efforts to demonetise gold and dump gold into the market to dampen its price. These sales were unilateral and coordinated by US Treasury and included gold sales by the International Monetary Fund.

Past this period collusion to manipulate gold prices largely went underground.

The gold price is set by a process known as the London Gold Fix which involves an electronic auction system which establishes a common transaction price for a large number of purchase and sale orders.

Twice daily, at 10.30am and 3.00pm UK time, the LBMA gold price is published in US dollars, which serves as the benchmark price for gold producers, investors, consumers, and central banks worldwide.

Gold futures prices serves as the basis for the LBMA Gold Price. These are contracts for the physical delivery of a specified amount of gold on a set date in the future.

The COMEX is the world's largest gold futures trading exchange and it is in this market that the conspiracy theorists believe the gold price is manipulated using trading strategies like ''naked short selling'' and ''banging the close'', and other dubious means to suppress its price.

The big banks can access gold from gold-backed ETFs for market rigging, gold from US gold reserves and the gold reserves of other countries can be leased, leveraged or sold, and leasing of unallocated gold by bullion banks allows them to sell the same gold as much as 10 times to 10 different buyers.

Gold leasing is often conducted through an unaccountable intermediary like the Bank for International Settlements, the ideal venue for central banks to manipulate the gold price with complete non-transparency.

You may recall that Germany decided to repatriate 300 tonnes of gold from New York in 2013 only to be told by the US Federal Reserve that it would take 7 years. Perhaps the Fed had a lot on at the time, or maybe the gold wasn't there (it has finally been returned).

Gold is an inflation barometer, thus influencing interest rates and bond prices, and an indicator of the relative strength of fiat currencies so central banks are always on guard against allowing a fully free gold market.

They also understand gold's value and power in the international monetary system and the importance of gold as a reserve asset, so the world's major central banks all hold large quantities of physical gold as a store of value and as financial insurance.

Popular theory concludes that central banks, assisted by the large investment banks (Goldman Sachs, JP Morgan, HSBC and Co.) manipulate the gold price down to benefit their own purchases.

Gauging by their stores of physical gold and recent buying activity this theory seems to have considerable merit.

In 2018 central bank net gold purchases reached 651 metric tons, 74% higher than the previous year and the biggest volume since 1967.

Amidst heightened geopolitical and economic uncertainties many developing economies are looking to diversify and de-dollarize their foreign exchange reserves and re-focus on investing in safe and liquid assets, like gold.

The Russian central bank sold almost all its US Treasury stock during 2018 to buy 274 tons of gold.

While a higher path for gold prices is far from certain and interference from central banks and investment banks is almost guaranteed, one of the most bullish catalysts for gold is a looming undersupply.

Industry experts forecast a perpetual decline in gold production from its current peak and say that there are simply no new major gold deposits left to be discovered. With most assets rising demand and falling supply means higher price.

Gold tends to be negatively correlated with a host of things including share markets, interest rates and the US dollar, and experiences boom and bust cycles making it highly volatile.

Investors can gain exposure to gold in various ways including owning physical gold, investing in a gold-backed ETF like Perth Mint Gold (ASX code: PMGOLD), or investing in a gold miner ETF like VanEck Vectors Gold Miners ETF (ASX Code: GDX) which has holdings in 53 global gold miners, mostly based in the US, Canada and Australia.

Selecting your own gold mining stocks is another option although the diversified portfolio of mining companies provided by GDX probably makes more sense for most retail investors.

Investing in gold mining companies provides leverage to the gold price and can produce the best results in a gold bull market, provided, of course, you pick the right ones.

I'm certainly no goldbug (Mike thinks otherwise) but I believe that as long as gold is held in such high regard, and so keenly sought after, by global central banks it has real value, especially if global supply is diminishing.

There are also growing calls for a return to a gold standard which would send the gold price much higher again, although I don't think a currency link to gold would work in today's monetary system, one that encourages printing more money when too much pressure is put on.

Sentiment is the key driver for most investments and sentiment towards gold has changed in the past 6 months as more noise about gold has drawn in more new investors as interest rates head lower.

The first leg of the gold bull market between 2000 to 2008 was driven mainly by Eastern Investors, particularly China and India, but Western central banks and institutional investors are now active buyers in the market, and this is propelling the gold price higher.

Unlike bull markets in other asset classes (shares, property, crypto currencies, art etc) I'm not sure gold will enter a hyper-speculative stage or the 'fear of missing out', despite the lofty price predictions of some gold followers.

In fact, my own experience suggests that when everyone is bullish on gold it is almost time to get out and with all the recent hype from fund managers, investment bankers and other high profile investors we might be gradually approaching that point.

Or perhaps this time will be different.

Disclosure: Investing in gold is highly speculative and this article is not written to encourage people to invest in gold, rather to express a view on an asset that is sometimes mis-understood and largely avoided by investors.

EVER THE OPTIMIST

The US Federal Drug Administration has approved the use of a saliva-based test for SARS-Cov-2 (aka Covid19).

This will accelerate and broaden testing and thus improve international management of the pandemic.

Next, we need improved treatment options so the global population can return to its normal migration preferences.

Vaccinations then become the suffocating 'icing on the virus', but we can manage the situation without it.

Investment Opportunities

Investore Property (IPL) – completed their offer of $125 million 7-year bonds at an interest rate of 2.40%.

Thank you to all clients who participated in this bond offer through Chris Lee & Partners.

Mercury Energy – is the next company to offer new bonds to the market, with a 7-year bond opening this week.

Unlike the previous two bond offers we expect the interest rate on MCY bonds to be below 2.00% (perhaps around 1.75%).

This will again be a fast-moving offer booked by contract note (we expect clients will pay brokerage although not yet confirmed).

We have a list that you are welcome to join if you have a firm wish to invest in this next bond issue.

TRAVEL

Kevin will be in Christchurch on 10 September.

Please let us know now if you would like an appointment in your town.

 

Thank you.

Mike Warrington

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Market News 17 August 2020

Here's a brave proposal for the Prime Minister to consider, and that should add respect rather than glamour:

Acknowledge that deferring the 2020 election could last longer;

Re-build your Cabinet with a mix of talented MP's from all parties in proportion to the 2017 electoral vote;

Labour party (Jacinda) retains the role as Chair in Cabinet and thus PM;

Labour party (Grant Robertson) retains role as Minister of Finance.

INVESTMENT OPINION

Financial Advice - I was determined to ignore all polls between now and the election, but one appeared on my screen that I enjoyed reflecting on.

It proudly stated that people receiving financial advice report that they have accumulated more in savings and are achieving better returns.

The margin of error wasn't published but I'm reasonably sure it would be ever so close to 0%.

It's official then, everyone should engage with a financial advice service.

RBNZ pushes even harder – If you thought a 0.25% Official Cash Rate and $60 billion of money printing was an unquestionably massive level of support for the NZ economy you were wrong.

I thought it was, until I was updated last week on our new financial requirements by Adrian Orr.

Now the estimate is for a negative OCR, possibly from mid 2021, and an increased total of $100 billion of 'new' money to share around.

A $100 Billion injection, via the government (through the bonds it issues to borrow money) and on into the local economy implies that we need our government to be the buyer of last resort for approximately 17% of our national GDP (previously NZ$300 billion) each year between now and 2022.

I can accept that our national production may fall by 15-20% for a while but why must the taxpayer step in to buy items or services that aren't required?

Yes, our social welfare costs will rise during such periods of economic distress, such is our policy to support people in need, but to support business with false demand signals surely results in them focusing on a false horizon.

I understand that I am but one of five million opinions and that regulatory power actually rests with the few who fight for it but I think I am witnessing a large disconnect between government policy and good principles.

I also cannot reconcile the scale of the financial cost of 'buying everything' relative to the expense of handling health matters directly (a necessarily huge increase in health spending).

Huge via scalpel (intentional pun) relative to massive via shotgun.

(Investment link? - Ed)

Interest rates = 'almost nothing' for at least three years and my view for much longer because central banks have proved incapable of re-applying financial tension over the past 20 years.

Those of you who read a lot of financial market information may also have seen the Reserve Bank of Australia declaring that they do not expect to increase interest rates for at least three years. This is on the fringe of honesty about future interest rates.

Client's often react to us encouraging investment in long term bonds with uncertainty; it seems so far away.

Five years is not long. For those of you who have known me since I joined Chris, it has been 12 years; that's how fast the time passes.

It took 10 years for the Global Financial Crisis to stop being the story. Covid19 will be much the same.

Politics – Speaking of politicians, the term conjures up such a bad brand now, more than ever.

In a well-functioning democracy, we seem to be so anxiety laden that our politicians and many public service institutions focus too much on what voters will think, unable to explain to voters the need to do the right thing.

So, the politics of genuine democracies is a mix of lobbying and misleading rather than leading.

In a dictatorship the politics of debate is suppressed, so it is ineffective for different reasons.

This paragraph comes to you (partly) after I read about Russia's (read Putin's) announcement that they have registered a coronavirus vaccine after tests on, wait for it, 100 people to validate efficacy.

I assume that the Russian coronavirus vaccine team are the ''also known as – Russian Olympic drug testing team''.

Process:

Collect healthy blood from 100 citizens and store;

Run private covid19 test on same 100 citizens;

Add vaccine to same 100 citizens;

Run public covid19 test on same 100 citizens;

Receive used Covid19 test unit through front door;

Pass replacement blood results through the side window;

Present perfect results to waiting public;

Register vaccine;

Report Russian superiority to the world.

The only real surprise is that Donald Trump didn't claim success first, from his personal laboratory, or that he had been one of the hundred to receive the Russian vaccine in human trials of 100 people (expendables? - Ed).

Sadly, in China, the process is to report to the world 'Nothing to see here. See, no critics'.

And then there is Donald.

In the US the presence of Donald Trump as President appears to validate the view that the majority of the population prefer to receive their information in one kilobyte sized files via social media and not from robust debate.

Donald Trump recognises this public condition and that Chinese domiciled TikTok has taken a lead in social media followed by Americans, so his political warfare response is to try and ban such businesses from operating in the US!

Along with trying to block Chinese businesses from operating in the US The President would also like to have these businesses delisted from the American stock exchanges. (Actually, I have some sympathy for this item given the double standards being applied by China – dislike freedom of choice but like access to capital from free markets).

The President only tolerates publishing his simple, yet questionable, messages on American based social media channels (that pay tax in Ireland – Ed).

The US may have been one of the greatest nations on earth, and may still hold the potential to be that again, but at present they are failing in so many ways because too many people are living the false claim instead of taking action to make it a reality.

Globally we have political leaders that pull the rug over citizens eyes, others who dictate what rug you can have and when, and then some who try to pull the rug out from everyone who is standing.

Frankly the team of world 'leaders' have become all very 'Lord of the Flies' and it's a wonder that the human species has been so successful.

Is there an investment message from this lack of trust in political leadership?

To be honest I didn't begin this rant with an investment message in mind, however, you should certainly conclude that you cannot trust a wide range of messages that reach your attention via the loudest and most common channels.

The political games could do your head in, so don't let them. Make decisions from what you know to be true, and thereafter from a position of highly probable. Filter out the nonsense and noise (triple ply face mask required – Ed).

Make good well-reasoned decisions, not bold assumptions on a hopeful horizon. 

The behaviour of our political leaders, and central bankers, implies that there is a need to keep risk taking simpler now than you may have done in the past.

With a healthy dose of bias, but valuable intentions, investors really should be moving even closer to financial advice services in response to the reduced clarity of the messages in the public arena and the poor form displayed by political leadership.

Tax as a Weapon – You can often accuse political leaders of beating around the bush and using double-speak, but not here:

The Green party in the Netherlands has proposed an ''exit tax'' to block companies from deregistering as businesses domiciled in that country and moving to other jurisdictions.

There's nothing subtle about that proposal.

Unilever had been contemplating a move to the UK until the new tax was proposed with an implied cost to them of 11 Billion Euros.

Green parties the world over must be concerned about their desired branding of 'for the environment' being diluted by their 'tax maximisation' messaging.

Evolved Central Banking – The US Federal Reserve appears to be leading the way with two new developments: bank specific capital settings and live payment processing.

Both will add value to the economy.

As disclosure levels, and frequency of reporting data increases it makes good sense that a central bank could set variable capital requirements for each bank.

After the latest round of bank stress tests the Fed has introduced new custom capital requirements under the heading of 'stress test capital buffer'. This new capital item will mean banks have different total capital obligations.

Previously a non-stressed scenario required a bank to hold the following capital:

4.50% - minimum capital defined by the Bank for International Settlements; plus

2.50% - Conservation Buffer; plus

Any surcharge for the largest Global Systemically Important Bank.

Stress tests measure for breach of minimum capital under the following mix:

4.50% - minimum capital defined by the Bank for International Settlements; plus

Stress test loss calculations; plus

Nine quarterly dividends; plus

Any balance sheet growth occurring.

The Fed wanted to link the Conservation Buffer to the stress test loan loss results.

The new capital requirements are:

4.50% - minimum capital defined by the Bank for International Settlements; plus

[bank specific] Stress test loss calculations; plus

Four quarterly dividends; plus

Any surcharge for the largest Global Systemically Important Bank.

This new structure reduces the capital impost on the banks managed to the lowest risk behaviours which is a fair approach. The best managed should not have dividends and share buyback programmes disrupted.

Conservative banks have a Stress Capital requirement equal to the old Conservation Buffer (2.50%) whereas the more aggressive risk takers, notably those operating as Investment Banks, have buffers as high as 7.8% (Deutsche Bank).

Total capital now ranges from 7.00% to 13.70%, a huge variation.

It’s hard to guess whether this will result in cheaper loans for good credit, more expensive loans for bad credit, of just more profit for banks (that's easy – Ed).

For the curious, here is a link to the results table by bank: https://www.federalreserve.gov/newsevents/pressreleases/bcreg20200810a.htm

The Reserve Bank of NZ under Adrian Orr has become very forthright in its demands for higher equity levels. This evolution in the US reminds us how conservative NZ risk settings are (a good thing) but I hope the US model provides Adrian Orr with another, refined, method to consider locally.

The other progressive item from the US Fed was reporting that after seven years of development the FEDNow proposal for a countrywide, ubiquitous, 'efficient, innovative and instant payment system' is now close to becoming a reality (if you consider 2023 to be close).

FEDNow is a Real Time Gross Settlement system (RTGS) and is proposed to operate 24 hours a day, 7 days a week, every day of the year.

The US has other limited, privately controlled, real time payment services but the Fed rightly believes that this level of payment efficiency needs to be available to all citizens at the lowest possible cost.

The current FEDWire system operates for about 20 hours per day, 5 days a week and not on public holidays.

You can spot the obvious inconvenience for international settlements when banking systems are closed for different periods in different countries across different time zones. This feeds business into the more expensive private systems.

If all major economies could progress to reliable, trusted, widely used RTGS systems cross border trade would improve (less risk, faster payment etc).

I suspect that the rapid advances in crypto currency players, notably Facebook's Libra proposal on the back of Bitcoin's early uptake, is also driving faster progress of RTGS for today's FIAT currencies.

Cash is a form of RTGS (immediate settlement) but its limitation of location impedes all other transactions at a distance.

Centralised control of payment systems is a must have for governments, central banks and tax authorities. Cash doesn't deliver that, private real time payments are expensive and privately held crypto currencies have poor crime protection, so RTGS via a central bank is an escalating priority.

The FED will be hoping that this is a true to form tortoise (FEDNow) versus hare (crypto) story.

EVER THE OPTIMIST

Ryman board scrapped its proposal for increased directors' fees once they recognised the motion would be rejected by shareholders.

In practice I think boards should be forced to hold such votes and publish the results, not quietly remove such items from the agenda.

This is an ETO item because it displays in part the effectiveness of the NZ Shareholders Association (NZSA) and the leverage they are gaining from you appointing them as your proxy to vote at their discretion at company meetings.

The NZSA maintains contact with professional investors and with business leaders. They are high quality representatives for us as proxies.

Have you joined the NZSA? (https://www.nzshareholders.co.nz/)

Have you appointed the NZSA to act as your 'Standing Proxy' at meetings of companies you are a shareholder of?

If not, I think you should. We can forward you the documents (and examples) to do so if you wish to add our influence.

ETO II

Would you guys miss me for a month if I assisted the economy by relocating at harvest time?

Just thinking of ways to help the NZ economy.

See you there?

This sits under ETO on the basis that the office and my family would be happy to have a one month break.

Investment Opportunities

Investore Property (IPL) – We received details today for the new 7 year senior secured bond.

The yield will be a minimum 2.40% and that the company will pay the brokerage costs.

It will be a fast moving deal, booked by contract note.

Please let us know if you seek a firm allocation before 5pm Thursday 20 August.

TRAVEL

Kevin will be in Ashburton on 19 August and in Christchurch on 10 September.

Please let us know now if you would like an appointment in your town.

 

Thank you.

Mike Warrington

---

Market News 10 August 2020

The ACT proposal for an ACC like insurance facility for employment loss situations has merit and I hope it is explored further, as seems to be happening based on comments from Grant Robertson and Jacinda Ardern.

The idea was previously raised by the Productivity Commission as being a gap in New Zealand's social structure relative to many other nations.

We have experienced again how our government likes to step in financially regardless of the situation (political measure) so 'gathering acorns' (via a small levy on the employed) to temporarily support people immediately after loss of employment would help both with financial preparation (the insurance aspect) and with fair use (available to all).

By stepping in to help financially (wage subsidy) the government (unintentionally?) reduced the risk for insurance companies that provide income protection insurance. I'll guess that the 'constant lobby group' (insurance companies) are not refunding any premiums to customers.

Before such an idea proceeds, I'd like the banks to confirm they'll accept it as the income protection insurance they seek so young mortgage holders aren't forced to pay twice for this type of insurance.

If the scheme being discussed proceeds on its own merit it would imply that private sector income protection insurance is overpriced.

Whilst I'm on financial forward planning, maybe the government could introduce other reforms to incentivise good outcomes, such as:

Adopt ACT's proposal to cut personal tax rates for those on the average wage (up to $70,000); but

Introduce the employment insurance levy referred to above;

Make it compulsory to pay higher percentages of income into Kiwisaver;

Introduce an adjustable debt repayment levy – that rises when our government debt ratio exceeds say 50% of GDP and declines once debt falls below say 30% of GDP.

We are all ready for some policy change and it will be supported if it defines how we will ensure NZ is successful in the decade or two ahead.

Maybe ACT has more in common with a Labour led government than NZ First offered?

INVESTMENT OPINION

Unemployment – We New Zealanders are a very conservative bunch, aren't we.

When things are bad, we predict they will become worse.

When things are better than expected we declare that they are wrong.

When our June quarter unemployment rate fell 'we' declared it to be incorrect. It is a statistic, it's not incorrect. (shall we debate Statistics NZ frailties? – Ed)

The June quarter data is confirmation that 'we' succeeded in holding employment up whilst we navigated what Covid19 changes meant for our economy. You should have been highly unimpressed if we'd spent $13 billion on wage subsidies and we did not see employment maintained!

Wage subsidies were reduced, and will be removed, during the September quarter. It is logical to predict a rise in unemployment. There are no wage subsidies after 1 September and no autumn harvest, so it is also logical to predict another rise in unemployment during the December quarter.

However, starting in May (3 months ago) I expect that our best business minds started planning for how business can re-allocate human resources across our economy.

Yes, business people make employment decisions, not government ministers.

Productive businesses with financial risk as a focal length employ people, government ministers just talk about it.

I think six months (by November 2020) is sufficient time for business to define their employment needs for 2021, so I hope to see the pending rise in our unemployment rate begin to slow during 2021.

I expect to see a large increase in part time, or contracted, employment as we resolve the absence of our previously used international work force.

Average annual income levels will decline during 2021 and 2022 but this is a truth faced by our collective economy.

In return for only offering temporary work I'd expect the hourly rate to exceed the legal minimum. Ensuring harvest is completed is critical to a grower; they should share some of that reward as an offset for the flexibility of 'work only when required'. That's how contracting works.

Business must, and will, resolve use of our human resources and it will temper the unemployment fears that each new commentator broadcasts, yelling ever louder in an attempt to be heard over their peers.

What I'd like policy makers to do is improve the opportunity for business to succeed, and to remind you of a personal favourite, they should pursue a huge increase in our water storage and irrigation facilities.

Here's another idea for policy makers: I'd like to believe Work & Income NZ can improve its highly inefficient processes to ensure people can move seamlessly between employment income, and unemployment income settings to assist with the new flexibility our economy will require.

These most vulnerable employees should not be forced to confront incompetent administration as they battle to maintain some income. (bordering on President for a day again – Ed).

The tenuous link between this ramble and investment is weak consumption and yet another reminder that interest rates are not increasing within the aforementioned focal length.

Robots and Artificial Intelligence – Last month, as I headed South on my research tour, I was determined to read more than just the information that appeared on my mobile phone with its 'loud' and 'colourful' headlines clamoring for attention.

I wanted to learn something different, so I stopped outside the first book shop I saw in Picton and chose to purchase the 'New Scientist Essential Guide No.2 – Artificial Intelligence.'

It was so good to read about something with reasonable substance to it rather than the glib headlines and short, shallow, stories of mainstream media.

Yes, I chose the subject intentionally. I hoped to add some value to your investment process and my curiosity about artificial intelligence has been increasing since Covid19 altered human freedoms and thus our involvement in business operation and methods of consumption.

My curiosity actually began when the NZX introduced a Smart Share ETF (BOT) with a risk profile of 'Automation and Robotics'; the introduction implied market demand existed, driven by asset allocation experts.

Businesses always seek ways to increase automation of tasks and reduce the human element for several logical reasons, including; cost (lower employment costs), leverage (faster performance), accuracy (human error), revenue (more sales from faster production) and safety (no humans to be injured).

It seems easy to predict that the use of automation will increase on a constant plane aligned with available investment capital (measured against risk adjusted returns and available savings).

Robotics has existed for many years, but increasingly artificial intelligence (AI) is the new overlay in a quest for machines that can make their own decisions and then learn from outcomes, which influence future decisions (are you personalising a robot via possessive pronoun? – Ed).

Is intelligence artificial if it is self-directed?

Machine intelligence is data driven (computers make decisions based on binary inputs, not via the variability of the brain) and the scale of data now being gathered (and stored by the likes of Infratil subsidiary CDC) is enormous and growing far faster than any virus numbers could!

In fact, I’d go so far as to say that the parabolic increase in data capture, and its analysis, will contribute to the medical suppression of Covid19 and other health threats in future; certainly faster than achieved in the past.

Side story: I think Infratil has wisely invested its capital in the storage of the data (CDC), not the growth of Artificial Intelligence businesses. CDC is a parallel for the person running the bar in the gold fields, rather than heading out with hope in your head and a pan in your hand.

Machines try to recognise patterns in data so that they can use this information to contribute to decision making, but it's for this reason that I don't think robots can replace humans; patterns often change based on human preference.

Where intelligence is 'artificial' it implies that 'real' intelligence will always be required. Robots will always need input from humans to be of greatest use, to humans.

It's beginning to sound a bit like Lincoln's description: government of the people, by the people, for the people.

Robots from the humans, by the humans, for the humans.

A robotic barman in the Central Otago gold fields might have opened a miner's preferred local Pinot Noir, to breath prior to his arrival in from the goldfields, only to discover he orders a new complex craft beer from Cromwell that he heard others talking about (new pattern).

Clearly robots will need to become adept at 'what if?'.

There was an interesting story in the magazine about teaching machines based on data and rules; in this case to play GO (you've probably already heard the story of machine beats Garry Kasparov at chess).

The first machine to play GO was 'AlphaGo'. It was taught all the rules of the game and then provided with data on methods for trying to win the game; it duly thrashed the world's best player of the day.

Developers then built AlphaZero and only taught it the legal moves of the game.

AlphaZero then played 5 million games against itself, discovering outcomes before taking on AlphaGo and winning that contest 100 games to nil.

We know there is a role for machines if we can teach them rules and preferred patterns, and I'd contend that the best robots, or automated processes, will be the ones that operate in conjunction with human contributions.

As you sit and ponder just how many machines are already embedded in our economy and society think also about their potential and then try to guess what may happen next; this is the frontier for new investment.

It was this thought that had me asking myself, 'how much of the trading that we see on financial markets is already machine driven'?

I convinced myself that machines applying as much artificial intelligence as humans can muster are already deeply involved in financial market behaviour.

These machines can analyse all available information (words and numbers) in the time it takes me to collect my morning coffee. Before I get back to my desk they have processed millions of calculations to compare current prices (implied returns) for a variety of risks and thus reached conclusions.

When the markets open they react to their conclusions and begin buying and selling different risk types automatically, without involving humans. No keyboard required; which is a good thing according to our technology support because apparently most errors occur between the chair and the keyboard.

Here's another thought for you regarding the unexpected strength of financial markets:

Maybe humans at central banks are making mistakes (approximating, estimating) and unemotional machines are extracting risk adjusted profits from the situation.

GO champion Lee Sedol (replace – central bank governor) thought he would beat AlphaGO (replace – AlphaINVEST), until he didn't. The contest wasn't even close.

Maybe there are some 'AlphaINVEST' machines out there extracting huge financial gains at the expense of taxpayers and less informed investors?

This thought made my brain hurt a little, but it did begin to help me understand the difficult to explain (using old theories) performance of financial markets and the speed of price change.

What can you and I do at a human level?

We should consider investment in businesses involved in data capture and analysis and possibly in businesses trying to provide AI and robots as a service.

As a minimum we should demand that businesses we own are trying to increase their use of intelligent machines. Those that are not earn a black mark and may have a limited future in a portfolio.

Speaking of which, can you tell if you have been served by a machine?

Alan Turing, computer and AI legend, defined a simple method to measure his own question of 'can machines think?': a human judge cannot distinguish whether they are being answered by a machine or a human.

I'd best draw this section to a close, but two more threads stayed with me:

The benefits to health:

1 in 10 medical diagnoses are wrong in the US and apparently 80,000 people die unnecessarily. If this could be corrected via machine-based data analysis, then two years of improved outcomes would equal the current US Covid19 related death toll.

Side story: Wellington based Volpara operates in this field of machine-based data analysis with breast screening data.

The importance of energy supply:

The more that artificial intelligence use expands, the more data that will be captured. The more data we capture, and use, the more energy we burn.

Nations with an energy surplus should win.

New Zealand is such a nation.

It's a fascinating subject and I'd encourage you all to read more about it when you can.

Track & Trace – This idea is not all that helpful to you as investors, other than a tenuous link to keeping our economy out of lock down.

It followed a discussion with a client about their bank statement. They asked why the wrong date was recorded against their transactions.

The answer lies in how slow our bank system processes payments.

The Reserve Bank, on behalf of government, could ask all banks to present the actual date and time of a transaction on a client bank statement, not the 'when processed' date currently displayed.

Then the government could make displaying its QR code compulsory for all businesses at physical addresses.

New Zealanders are proving to be disengaged with the track and trace concept. If our bank statement helped trace some of our locations and we can scan a QR code in most places NZ will have far better track and trace data to work from.

That should help us reduce lock down restrictions in future when incidents of Covid19 inevitably reappear.

If my bank statement activity was live and I switched on Google tracking (as I do) then I would have a very good idea of where I was and when with very little inconvenience.

Case Study – Often market participants will allow oversized assumptions to drive excessive volatility into the pricing of a share. Recently Metlifecare (MET) shareholders experienced such behaviour.

MET investors applied a very short-term focus and thus jumped to aggressive conclusions forgetting that it is a simple business owning real estate and providing residential and care services to its customers (tenants).

The share price movements were massively more volatile than the underlying business type and customer behaviour.

Share price prior to initial takeover offer - $4.50 (Net Tangible Assets $6.97);

Takeover offer negotiated to $7.00 to align with NTA. Share price lifts to $6.85;

Covid19, takeover withdrawn, share price slumps to $5.00;

Legal challenge introduced, and disputed, share price falls to $3.30 (47% of NTA);

Post Covid19 reporting displays relatively normal performance by MET, share price rises to $4.50;

Replacement takeover at $6.00, agreeable to major investors, share price rises to $5.85.

MET business experienced only modest change throughout this period, its NTA unchanged at $6.97, but its share price danced around in a 50% price range.

Looking back the only real change in share pricing is, or should have been, the difference between the two takeover offers, being $1.00 or about 15%.

The thoughtful investor (not trader), operating to a well-reasoned investment strategy, would have sat still and is still ahead financially.

An active investor willing to trade shares might have reduced their holding when the market price sat very close to the prior takeover offer ($6.85 versus $7.00) but this decision wasn’t an easy one to make.

I have stated previously that traders love volatility and they typically profit from it at investors expense, so isolating yourself from too much trading is usually a rewarding decision.

NZSIF Update – Investors love infrastructure and well defined future cash flows, as they should, and this led many of you to invest in the Social Infrastructure Fund a few years ago.

This fund was developed by HRL Morrison & Co (Infratil managers) and distributed with the assistance of Craigs Investment Partners. We liked the fund for its diversity and opportunity and participated.

NZSIF offered access to public private partnership investments, which involved projects from both the Australian and New Zealand governments.

The good news, which NZSIF investors may have read in the recent Directors report is that a new investor likes our investments even more now that 'we' have completed their development and removed this risk from the process.

It sounds as if these investors intend to make us an attractive offer to sell our investments to them.

The combination of our fully developed service contracts with reliable long term cash flows in a world of collapsing interest rates is driving up the value of our investment.

More will be revealed by our directors soon but you should read this as a 'do not sell' notice for the NZSIF investment.

EVER THE OPTIMIST

Another young New Zealand business reaches the stage of achieving public success; Aroa Biosurgery has listed on the ASX and quickly gained a market valuation of $400 million.

https://aroabio.com/

We'll leave the debate about 'why not list on the NZX' for another day, and celebrate the NZ business success first.

Investment Opportunities

Investore Property – Investore has announced that they are considering issuing a seven-year senior, secured bond with more details to be announced next week. We would anticipate a yield of around 2.50%.

If you would like to go on the list for this bond please email Penelope.

Wellington Airport – WIAL successfully issued $100 million of new bonds last week for a six-year term at 2.50%.

It was nice to see a new bond from a corporate after months of only government and local government bond issues (because that's all the Reserve Bank would buy – Ed).

WIAL took advantage of the more settle market to pre-arrange funding requirements well into 2021, which seems very wise to us and we hope other companies follow their lead and bring more bonds to market.

TRAVEL

Kevin will be in Ashburton on 19 August.

Please let us know now if you would like an appointment in your town.

 

SEMINARS

Our seminars for clients and investors are now underway.

The 30 pages of statistics are available on the client pages of our website, under ''Research''.

At the conclusion of the six-week programme, a video of the seminar will be available to clients.

The title for the Seminar – No Hiding from Risk- will be explained with some thoughts offered on how one can deal with the contrasting risks facing investors, requiring opposite solutions.

Registrations at our remaining meetings in Timaru, Takapuna, Mt Wellington, Tauranga, Palmerston North, Napier, and Nelson are still open.

Clients wanting to meet with advisors after each seminar would need to arrange this as soon as possible.

Venues and times are:

Timaru - Sopheze, Caroline Bay

12 August at 1.30pm

Takapuna - Fairways Conventions

18 August at 11.30am

Mt Wellington - Mt Richmond Hotel

19August at 11.30am

Tauranga - Armitage Hotel

24 August at 11.30am

Palmerston North - Coachman Hotel

31 August at 11.30

Napier - Port Ahuriri Yacht Club

1 September at 1.30pm

Nelson - Beachcomber Motel

7 September at 10.30am and 2.00pm (Please specify which session)

Thank you.

Mike Warrington

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Market News 3 August 2020

Another tidal shift to contemplate:

Briggs & Stratton has entered Chapter 11 bankruptcy protection;

Tiwai Smelter has decided to close (or has it? – Ed) releasing 13% of NZ electricity generation for other consumers to use;

I expect the suburbs to fall silent in the weekend with a rapid decline in petrol fuelled lawn mowers replaced by electric units.

INVESTMENT OPINION

Business Change – A large proportion of businesses are being forced to change their models of production and distribution in response to Covid19 and this is important for investors to keep an eye on.

As a general rule, you should be pleased to read about changes in business operation that appear to be reacting promptly to any obvious changes being thrust up on businesses.

To not see such change should be a concern.

Covid19 and the large-scale response from politicians embed new operational expectations for business to meet.

At the extreme end of possibilities, a business may set a strategy that will completely change their main product or service, and that may be OK.

The example that prompted this thought that we must pay attention to contemporary decisions from our boards and CEO's is the US story of KODAK.

KODAK, the photography business evolved into one operating in the chemicals industry and is now a preferred supplier of pharmaceuticals to the US government. The President has provided KODAK with US$765 million as a loan to launch KODAK Pharmaceuticals and ensure local production and supply.

Paul Simon will need to write a new song (but maintain them in his share portfolio – Ed)

How many business changes can you imagine?

How about;

Wellington Airport introduces a second 'hotel' on its property, entered from the international terminal only (pre border crossing), and provides accommodation to inbound travelers under quarantine?

The government and local council might underwrite minimum occupancy levels given the obvious benefits to the local and wider economy of offering such services to willing inbound travelers.

Maybe the airport will introduce a medical services facility to contribute to new health reporting obligations that I require in my passport in future (test, jab, stamp in passport).

I can sit here and make up all sorts of ideas, but my message to you is that we need to see such announcements from the businesses we own, in their immediate strategies, and not an ostrich approach which would define pending problems.

Negotiation Skills – Given how generous the government has been financially to the population I do hope they adopt a very firm line in negotiations with commerce, which they have typically been (too) helpful to.

Rio Tinto, continue to push the government and Meridian regarding the Tiwai smelter; and

CPB HEB is failing to deliver on their contract to complete the new Transmission Gully leg of State Highway 1 out of Wellington and is making excessive demands (my view).

Sometimes 'no' is an appropriate response, even for a 'yes' government.

Successful Kiwis – We have so many successful kiwis to report, but I enjoyed reading that the US is nominating New Zealander Chris Liddell for the role of Secretary General at the OECD (Organisation for Economic Co-operation and Development).

It's a tough time to jump into an 'economic co-operation' role!

Negative Interest Rates – Last week I received an updated formal agreement covering business with a certain bank. The agreement has been updated to include definitions for how settlement pricing will occur if interest rates move into negative percentages.

The Reserve Bank governor once said that NZ banks are not yet set up to manage banking in a negative interest rate environment.

Up until 2020 many bank CEO's would have laughed off the need as not warranting staff resource, but now there has clearly been a full team put in place to prepare the bank (all banks) for operating in a negative interest rate environment.

For the curious, here is some of the relevant wording now being used in bank agreements:

Interest rates are generally expressed as a positive number. However, it is possible that an interest rate will be expressed as a negative number.

The consequences of this in relation to a Financial Instrument or a Markets product will depend on the terms and conditions of the relevant Financial Instrument or Markets Product.

In general, under a Markets Product, a negative interest rate will result in the party which would otherwise receive a payment having to make a payment to the other party based on the Absolute Value of the relevant interest rate (subject to the effect of any margin applied (see section 5.12)).

It may be possible for a Markets Product and any underlying Financial Instrument to address negative interest rates differently so that the negative interest rate

may have negative consequences for you.

This is not an interest rate forecast by the banks, but it is unquestionably prudent for them to be prepared given our proximity to 0.00% interest rates…. and beyond.

At this stage I doubt negative interest rates will reach retail business activity (deposits and mortgages) but with banking for wholesale finance and transactions with the central bank it is a better than even chance at present.

If our wholesale interest rates do move into a negative setting, I think it is more likely that with retail customers banks will use a mix of 0.00% interest rates and fees to collect their margins for arranging business.

An interesting and related anecdote on this subject; Germany's entire yield curve now trades with negative yields (interest rates on all terms out to 30 years).

I don't think I would have guessed this situation as likely even during early Covid19 lock downs. To think it would be necessary for a 30-year term (a generation!) to be priced with a negative interest rate would define an enormous failure of the economic system.

Wait, maybe that's precisely what is happening?

Very long terms – Whilst I am on the subject of very long-term bonds; NZ once focused most of its time on bonds maturing between 1-5 years. The sole exception was bonds issued by the government which occasionally landed between 5-10 year terms.

Now, however, the government and the Local Government Funding Agency frequently issue bonds now into the 10-20 year maturity window, and why wouldn't they now that nominal interest rates sit below inflation?

If we could just get the interest rates on very strong bonds (government and council) below 0.00% we could have international investors finance our new and rebuilt infrastructure and 'pay' for the privilege!

The NZ government's longest bond issue matures on 20 April 2040 ($4 billion on issue). 

LGFA issues its bonds to match maturity dates of government bonds, which supports relative pricing. Prior to today 2033 was their longest bond ($1.1 billion on issue), but now they are offering a 2037 maturity and a high level of demand made it easy for them to issue $600 million of this bond in a single day.

The appetite for such long bonds is very strong, for two reasons, one of which is normal market demand:

Long term concern about economics (a view that interest rates fall further); and

The Reserve Bank is now buying bonds issued by both the government and LGFA.

There may even be a little increase in demand for NZ bonds out of respect for NZ governance during the Covid19 threat.

Investors and financial markets are very happy to buy such bonds if they feel comfortable that they can turn around and sell them to the central bank!

As it happens investors seem to be holding the short-term bonds and passing the longest bonds to the Reserve Bank.

The more that investors choose to hold the longest bonds, and the less our central bank must buy, the better, with respect to building confidence in our ability to fund our economy without artificial financial support.

In the mean time I'll be pleased if our government and LGFA (councils) extend the life of their borrowing, especially now that the price is lower than inflation and I look forward to the day when the Reserve Bank is not required to buy any of those bonds because investors want the lot.

Post Script: We are grateful to the large number of clients who participated in this bond offer through Chris Lee & Partners, recognising its extremely strong nature, and long term certainty about the interest rate reward.

FMA unhelpful – I'm sure my peers think I am nuts every time I choose to comment about the actions of the Financial Markets Authority but here I go again.

The FMA issues regular public notices, which I read (tick - Ed), but the latest one does not add value to the public (Not yet achieved? – Ed).

For the record, I think investors should read FMA releases, just like they should read information from our central bank.

Recently I explained that I think they are making mistakes when they offer commentary about risk and reward outcomes (the domain of financial advisers and fund managers) but they continue to do so.

I don't think investors should place much weight on this content.

Their latest news item choses to include these questionable views (my thoughts in brackets):

Global markets have bounced back after the dramatic (emotional, how about significant?) falls in March that gave issuers, investors and other participants in our financial markets added concerns… (Or added opportunity)

New Zealand has been very resilient, and markets have performed remarkably well… (I think they refer to the increase in prices, the domain of financial advisers, and not the resilience of the markets ability to arrange transactions, which is their domain)

However, the paragraph that led me to post my discontent with the 'news from the regulator' was:

There’s no doubt (A) the pandemic will continue to impact the global economy and financial markets well into 2021 and possibly beyond (B). Throw in the US election and tensions between the US and China, and that likely means further volatility (C), low interest rates (D) and potentially greater risks of investor losses (E) and poor outcomes for customers of financial services firms (F!).

(A)– there is always doubt in financial and investment risks;

(B)– conditional statements that add little value;

(C)– financial market pricing is constantly volatile;

(D)– making price predictions is unwise for the regulator;

(E)– making predictions about losses is plain unhelpful;

(F) – implying poor outcomes due to interaction with financial service businesses is offensive.

I'll be pleased if readers stick to asking financial advisers for recommendations about their involvement in financial markets and not manage their portfolios based on FMA newsletters.

Where the FMA should be very pleased, and focused, is the rising level of confidence that New Zealanders have relating to participation in financial markets, which reflects the improved regulations under which we all operate.

This higher level of public confidence should have meant the proof readers of the newsletter could spot the conflict in statement (F) above.

US President – is Rhode Island governor Gina Raimondo the person that the US needs as a future President?

She (female option) appears to be skilful, young and a high-quality problem solver.

She certainly reminds us that 'this too shall pass' if you do not like the current leadership in a democracy.

It's not that simple in the likes of China, Russia, North Korea, etc.

EVER THE OPTIMIST

Westpac Australia plans to bring 1,000 jobs back to Australia from previously used offshore service centres in response to Covid19 changes.

This is admirable thinking and I'd like to believe we will see a lot of this from NZ businesses too (as long as they're not contracted by Westpac Cayman Islands – Ed).

Local employees, for local businesses, where management can visit without needing complex travel arrangements.

Investment Opportunities

Wellington Airport – WIAL is issuing a new six-year bond (2026) this week.

They have set a minimum interest rate at 2.50% and WIAL will be paying the brokerage costs.

The deal will be fast moving, booked by contract note.

If you wish to invest, please contact us to express a firm commitment prior to 5pm this Thursday 6 August.

Seminars

Chris Lee writes:

My one-hour seminars will feature the modern, superior technology wonders known as flip charts, but these will comprise headlines only.

We will display thirty pages of various statistics which seminar attendants are welcome to photograph. These will also be displayed on our client website pages.

In addition, David will record a video of the presentation. The YouTube link for this will be on our website.

The seminar details are below. Please note that only the afternoon seminars in Wellington and Nelson are still open for registrations. All of the other venues are open, but please let us know if you would like to attend.

Kapiti – Southwards Car Museum

Tuesday, August 4at 11am

Wellington – Wilton Bowling Club

Wednesday, August 5 at 2pm

Christchurch – Burnside Bowling Club

Monday, August 10at 11.30am

Timaru – Sopheze on the Bay, Caroline Bay

Wednesday, August 12 at 1.30pm

Albany – Fairway Events Centre, 17a Silverfield, Wairau Valley (beside Takapuna Golf Course)

Tuesday, August 18at 11:30am

Auckland – Mt Richmond Hotel, Mt Wellington Highway

Wednesday, August 19 at 11.30am

Tauranga – Hotel Armitage

Monday, August 24 at 11.30am

Palmerston North – Distinction Coachman

Monday, August 31 at 11.30am

Napier – Napier Sailing Club, Ahuriri

Tuesday, September 1 at 1.30pm

Nelson - Beachcomber Motel, Tahunanui

Monday, September 7at 2pm

TRAVEL

Kevin will be in Ashburton on 19 August.

Please let us know now if you would like an appointment in your town.

 

Thank you.

Mike Warrington

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