Market News – 24 June 2019

I occasionally chat about how folk with far too much money invest some in scarcity assets such as art and rare Ferraris, but the latest mega billionaire (Patric Drahi) decided to buy the auction house (Sotheby’s) instead of the items on its product list.

He’s now a broker to the mega billionaires; not silly as a strategy.

INVESTMENT OPINION

AML – I am making some sweeping generalisations as I ask a rhetorical question of the Financial Markets Authority and Internal Affairs;

Will you be keeping a very close eye on the share register of newly listed cannabis company Cannasouth?

Lower % - This is just another anecdote (of frustration – Ed) for you; last week a NZ registered bank (ICBC with a ‘A’ credit rating) issued a new 5 year bond to the market.

The credit margin was set at 1.25%. The underlying benchmark (swap) rate at the time was 1.36%.

I’ll save you the math; the yield on the bond was 2.61% p.a. (paid semi annually).

Banks will be rather reluctant to pay 3.25% on 5 year term deposits in the face of being able to relatively easily issue bonds for the same term and save 0.64%.

Given that banks strive to exceed a 2.00% profit margin between borrowing and lending money, giving up almost a third of that potential profit margin will quickly prove to be unacceptable to bank management.

Think carefully before you reject current term deposit rates as uncompetitive.

Negative % for NZ?– Some of you will have read the ANZ Bank (Economics team) comments last week (Sharechat article) where they expressed a view that the Reserve Bank of NZ needs to prepare for negative interest rates in New Zealand.

Most of you have been coming around to the view that interest rates are more likely to continue their slide, like melting ice cream on a cone, but for the moment I’m sure you believe you can still extract some value by way of an interest payment.

ANZ, though, is preparing you for the thought that you may still hold the capital (ice cream cone) but the ice cream will be gone and if you’d like to store your cone in the pantry a fee will be charged.

I share the ANZ’s concerns both for your investment returns and for just what actions our central bank will take for its price stability mandate, without compromising financial stability.

I have the luxury of being able to hope the Reserve Bank is on top of their options whereas hope is not an option for them, they must be prepared every day to coordinate the financial foundation of New Zealand’s economy.

Daunting?

Unquestionably.

I have been explaining to any who will listen that our view is for declining nominal interest rates until the point of receiving no real return (above inflation).

ANZ is telling me to stop looking at my toes and to lift my focal point to a time frame that aligns with the period of focus used by our clients, typically 3-5 years, and to reform my view about the Official Cash Rate in NZ; it’s heading lower than you think.

They are already on the right side of their argument, the OCR is already set below the central point of the inflation target (2.00%) and it is not resulting in improved business sentiment, or inflationary pressures (from consumer demand).

I’d love to believe that waning consumer demand relates to acknowledgement that ‘our’ excessive debt levels need to be reduced, but this barely happened post Global Financial Crisis (GFC) so I doubt it’s happening now.

The principle of a lower interest rate is to reduce the ‘price’ of money (someone else’s money! – Ed) and try to drive greater business activity and consumption but that gig is up in my view because the cost of that money has been declining for years, our debts are up alongside our consumption, yet inflation isn’t presenting itself.

A new playbook is required and I think it needs to involve incentives for debt reduction, and by incentives I mean the stick not the carrot.

I agree with global commentaries that conclude the greater the debt ratios the weaker the probability of strong consumption and inflation; the deeper you are in debt the less confidence you’ll have in the oxygen reading on your scuba tank.

If the fresh air of the surface is a low debt nirvana, it’s going to be a long slow journey to equilibrium (or fast and painful – Ed).

The ANZ team say you should, alongside the RBNZ, prepare for an Official Cash Rate of -0.25%.

If we reach that point you can absolutely expect your bank to charge you for storing short term deposits (call accounts) with them, which is presumably what it was like before the Medici’s evolved finance in Europe.

Imagine how you’ll feel with the government, the council, insurers and now banks reaching ever deeper into your pockets?

Central bankers, and bankers often discuss the slow removal of cheques and then cash from an economy.

I understand the removal of cheques because they are cumbersome and thus expensive to process. Their need is fading fast.

A cashless economy would be nirvana for the Anti Money Laundering regulators because every payment would be traceable.

However, if you remove cheques, charge fees for storing cash in a bank and can’t stop computer hackers from stealing digital payment value then you can be assured that even honest law abiding citizens will consider holding more cash.

Deputy Governor of the RBNZ, Christian Hawkesby, acknowledged this recently observing that cash is an ideal contingency for payments when all else fails.

I also find that when I operate with cash I spend it more carefully, which is not going to help boost economic activity but it might help people to reduce debt and their profligate spending. Dreams are free I guess.

If you are curious about the central bank’s views on ‘The Future of Cash’, here is a link to the subject on their website: https://www.rbnz.govt.nz/notes-and-coins/future-of-cash/issues-paper-the-future-of-cash

With negative returns on your short-term bank investments you will feel constant pressure to engage in an active investment strategy with longer term assets, which would be one good outcome from the situation. We always encourage investment by strategy, within a well defined set of investment policies (which we can record on your account).

Reserve Bank data discloses that 90% of money held in the banks is placed there for terms of 12 months or less; this is a focal length that needs to change for the benefit of our economy and negative short-term interest rates should be enough to force such a change.

I view ultra-low interest rates as the perfect opportunity for the indebted to accelerate their repayment profile. Frustratingly most Kiwis view ultra-low interest rates as reason to increase their debt – ‘a $1 million mortgage only costs $37,500 to service’.

Servicing debt does not expand your wealth in the way paying it off does.

I have spent about 15 minutes staring at my keyboard (hoping for automation? – Ed). No, I wish. Actually I have discovered an application that allows me to talk to my keyboard (computer) as if it was ‘Alexa’ and ‘she’ will do the typing for me. I guess in today’s light I should be saying he/she/they.

During my pause I was extrapolating; where is this set of circumstances taking investors next?

The problem with extrapolating for investment is that you are usually standing in the middle of the compass with no magnetic pole nor modest variation. Then even if you locate a reliable direction you have a wide open cone in front of you, and it repositions every time you take a step forward.

It gives reason to pause every day, if you are in our position of providing financial advice to others.

However, if we are even close to the truth with our view of declining interest rates to the point of negative real returns and then, dread the thought, negative nominal interest rates, you have to ask – why would an investor sell any real or productive asset?

I have a reason for you, in my next paragraph.

Trump – I may need to tackle this thought another day with more content but his recent reactions to Iran seems to be confirming a new strategy for exerting global force.

President Trump has thus far not decided to send in missiles to destroy some Iranian assets in the way that the Bush administration would have done, and perhaps Obama administration by accepting advice from his warriors.

US self sufficiency in oil is important here, as we suspected.

What if Donald Trump chooses to engage in business with more of the North Sea oil suppliers (so as to store US reserves) and reduces US interest in the Middle East supplies?

Trump has stated that he prefers to withdraw from fighting in the region. Maybe he understands that the US has gained little from trying to govern areas of the planet where they have not been invited to do so?

Meanwhile, Trump is very clearly turning up the heat on the battle via economic weapons.

I can jab my son in the ribs (no you can’t - Ed), OK, I can yell at him, but he will yell right back. However, it’s a long walk to school if I don’t put money on his bus card,

If US missiles have been put away (for the most part) then the current trade war is very definitely only in the first innings.

Aus vs NZ– The RBA has developed a dissatisfaction with the Australia’s competitive outcomes against New Zealand and has launched a full assault on which central bank will be first to 0% for the Official Cash Rate.

The RBNZ said they hope to be sitting on the fence ‘reviewing conditions’ after the latest interest rate cut in this country.

The RBA cuts its interest rate and upped the ante by declaring that they expect to cut their overnight interest rate again in August and maybe even again in November. (Take that – Ed).

‘I dare you to cut NZ below 1.00% by Xmas!’

We are not in that much of a hurry, thank goodness, but it will mean the NZ dollar is likely to increase relative to the AUD, which isn’t great for our exporters.

For retired travellers earning very little interest a cheap AUD is OK.

Electricity Failures – The widespread failure of electricity supply in South America made me think of two things:

How comforting it is to have a network and generators as reliable as those in New Zealand; and

The failures in South America look suspiciously like interference by third parties.

RBNZ Board Appointment – The Minister of Finance has appointed Susan Paterson to the board of the Reserve Bank.

Hon. Grant Roberston cited the bank’s success with respect to gender diversity on the board. That gains one tick, but I’d also be keen to know we have the best possible people on the board.

Did the Minister contemplate trying to encourage an outsider, such as the retired governor of the Reserve Bank of Australia (Glen Stevens) to accept an appointment to the board of the RBNZ?

With all due respect to Susan Paterson she is also the Chairperson of Steel & Tube which is struggling under the weight of poor form following on from poor form. I’d like to believe she was too busy at present proving their bold STU statements to be able to fit the RBNZ role into her calendar.

EVER THE OPTIMIST – Gold price hits a high price for the past 5 years. The Dow Jones hits a new all-time high.

Wait, is this because of good news or bad news?

The owners of each will be happy – Ed.

INVESTMENT OPPORTUNITIES

Mercury Energy bond – the new MCY020 bond arranged firm allocations last week and set its minimum interest rate at 3.60% p.a.

Those of you who sought and received a firm allocation should now complete and return the application for to us please, delivered by Tuesday 2 July.

Thank you in advance and thank you for participating in this offer with Chris Lee & Partners.

TRAVEL

 

Chris will be in Auckland (Mt Wellington) June 24, and Albany June 26.

David Colman will be in Palmerston North on 2 July.

Edward will be in Auckland (Remuera) July 9, Albany July 10 and in Wellington  July 12.

 

Mike Warrington


Market News – 17 June 2019

On Monday last week Huawei was claiming no involvement from the Chinese government.

On Wednesday President Xi was with Vladimir Putin claiming China would share its 5G technology with all partners.

Look me in the eye whilst I tell you two different stories.

INVESTMENT OPINION

Earmuffs – As I was reading last week’s news, contemplating my next inspirational piece of guidance for you I concluded that there was so much ‘noise’ in front of me that I’d recommend ‘investment in a pair of earmuffs and an eye mask’.

Media writers were determined to out-yell each other to capture my attention.

Inappropriate adjectives are being shoe horned into stories to build dramatic effect.

Avoiding much of what I saw and heard was better value than considering its merit.

To make new investment decisions based on the media content was to increase the probability of losing value within your portfolio.

All the headlines, and so much of the content, were the product of a snake oil sales person.

Of particular frustration was when an unnamed journalist called to ask me about the new Mercury bond offer; the person’s industry and product knowledge was nil. The questions disclosed this as did the very loud typing in my ear as they struggled to record what they didn’t understand.

I wasn’t surprised when I read the sensational headline the next day, about a subject that didn’t really warrant any column inches at all.

I think you already know this but if you view the tall multi-coloured cocktail with a paper umbrella and a twist (metaphor for the headline) as being a glass of water (the substance) you’ll be well positioned for your next investment decision.

Automation – After reading about the new Automation and Robotics ETF (Smart Share) last week I contracted tunnel vision for a while and began to only see stories where technology was enhancing production.

Wow, there’s a constant stream of stories about increases in automation. All the humans must be at the beach (other than me).

Two particular stories echoed long for their influence:

Ericsson forecasts that 5G communications will arrive faster than many expect and 45% of the world’s population will have access to it by 2024. They and Nokia are reminding us that Huawei is not the only provider of such technological advances; and

Automation as the world’s agriculture sector is grappling with feeding a population that is expected to rise to nine billion people by 2050. To achieve this the report claimed that production per farmer will need to double again.

Apparently the labour of one farmer fed 26 people in 1965. Today it is 155 and this will need to rise to 265 (presumably on more land) if the population estimates are correct.

The story explained that 5G networks are enabling huge advances in automation with farming equipment allowing a single person to manage many functions from a single point armed with live data updates.

It may soon be time to visit Mystery Creek again.

These developments reminded me how ‘on the money’ Infratil is with its investment in the Canberra Data Centres because as more users gain access to 4G communications, and major data users migrate up to 5G, data movement will likely adopt Moore’s law ratios (double every two years).

Actually, data use is probably doubling every two months.

And one thing we know about data is that everyone likes to keep it so as to analyse it or use it as evidence for or against some assertion.

A few years ago I was disappointed that Tim Bennett didn’t launch an ETF focused on investment in the technology space (thinking Google, Amazon, Apple, etc) but Mark Peterson’s team has done well by providing a doorway to automation and robotics. (a lower fee would be nice – Ed)

Restrain the Economy – The Bank of England seems to be standing alone in the world of central banks by calling a need to increase interest rates to cool their overheating economy.

It must have felt like a strange statement to release whilst surrounded by peers who are cutting interest rates and by folk banging the Brexit drums of doom.

Now, the Bank of England is also advocating a four day working week.

It wasn’t clear whether they wish to cool the economy by cutting incomes by 20% or heat it up by demanding a 25% increase in productivity.

Proxy Votes – We are pleased with the very large number of you who are taking up the opportunity to appoint the NZ Shareholders Association as a Standing Proxy to vote on your behalf for securities held by you.

Well done. Make your voice heard.

For those investors who haven’t yet done so, please do. We are happy to email the forms and descriptions to you for processing.

I was taught that there is no such thing as a free lunch, but assigning a Standard Proxy to a skilled person willing to vote on your behalf without cost to you is very close to being one.

Tax – The well informed media tell us that the government has moved on from its Capital Gains Tax failure and now wants to raise more money by increasing the top tax rate.

Secrets, both political and commercial, are constantly leaked, no matter what the regulators would intend so I expect this new tax news to be verified following a complex string of denials.

I do hope that the government is using a nicely engineered nutcracker and not a sledge hammer for this development.

I’d also like to believe they are willing to cancel spending that fails in its objective.

Maybe I have selective hearing (outside the home? – Ed) but I can’t recite one incidence of the government (all colours) cancelling a programme because it failed to perform, especially one they had established.

I don’t mind paying taxes if the funds are being used well.

Cheating – Dishonesty is a frustrating constant but it will expand in its acceptance if political leaders don’t set better standards.

Donald Trump continues to declare black is white, then actually black again, until it’s red.

The Chinese are reported to be placing ‘Made in Vietnam’ on their products destined for US ports. Maybe this means Vietnamese leadership negotiated a lower ‘commission’ for the ‘made elsewhere stickers’ service than North Korea.

Wait, no, that wouldn’t work North Korea can’t export to the US.

What a nonsense that runs a serious risk of turning into a shambles.

Good luck to foreign exchange traders. If the US catches any of them providing USD settlement services to such businesses they will find themselves in a world of hurt from the ever so principled bunch at the Whitehouse and Congress.

International investment was already feeling less ‘comfortable’ based on disruptive politics but it’s getting worse based on the deceit being reported today.

China– is reported to be buying more gold, presumably with reserves that they’d like to avoid buying US Treasuries with while the two countries are arguing over trade agreements (disagreements – Ed).

To some this may look like a good method to snub the US and add pressure against President Trump, but I think it is a strategic error.

Gold is a store of declining real value linked to as yet unshaken historical value principles and to some industrial use.

There remains a very wide and deep market for buying and selling gold but the most powerful nations on earth are seldom net buyers of the metal.

Warren Buffett often reminds people that gold is unproductive and the only way to improve one’s circumstances is to produce more, and to apply investment capital to that task.

Placing money in gold to avoid US Treasuries might be suitably described as cutting off one’s nose despite one’s political face.

China II – China’s attempts to now reach into Hong Kong through legislative change has drawn an enormous protest from Hong Kong locals.

Hong Kong’s population is about 7.4 million currently and media wanted us to believe 500,000 (7% of the population) turned out to protest the new Chinese controlled extradition rights. Now that is a protest, unlike many a NZ walkabout or social media chants and copied email campaigns.

Maybe it wasn’t half a million, but visually it was an enormous gathering and it was true that many finished the four hour march before others had even left the starting point.

At its core it is another disturbing attempt to reduce freedom of choice, speech and movement.

More political angst – Turkey wishes to jail two journalists for reporting on the central bank’s poor handling of the country’s 2018 currency shock.

Disturbingly the entity that called for their arrest was…. the central bank, with its new head…  President Erdogan.

Does anybody see a problem here?

We have so little to worry about here as Jacinda and Simon prod each other with sticks and we discuss house building, public transport and well being.

Underinsurance – Not our subject right?

Right, but I think my observation is, or it should be for economists who are cleverer than me on my assertion (insurance is adding to the drag on our economic performance).

Most weeks I read a headline or an article declaring that ‘New Zealanders are underinsured’.

I’ll guess that they are sponsored news items from the insurance council, insurance companies and insurance advisers, but I always ponder, if the facts are true, why is it the case?

The Financial Markets Authority thinks part of the problem is poor customer service. This likely features in the problem, but I think the most credible answer is price. Covering one’s risks is becoming unaffordable.

The public, as a rising proportion, have declared that there is an imbalance between the risk and the price of insurance.

I have some sympathy with this conclusion and have adjusted my own insurances in response to the incessant increases in pricing demanded by insurers.

However, my question for the economists is:

Is the decline in insurance cover across New Zealand an important ‘canary’ further disclosing the serious lack of discretionary spending available in our economy?

The news reminds us that some of our lowest income families are occassionally forced to make decisions between allocating money to food or power (but not both), so other less essential cash demands don’t stand a chance in those communities.

I meet many people who question medical insurance to the point of cancellation as pricing escalates beyond a reasonable proportion of their annual budgets.

Uninsured vehicles are so common on the roads it is a problem that I’d like central government to address, given the volume of expense heaped upon a third party by the failure of others. Again it discloses an affordability problem as much as a behavioural one (third party insurance is cheap in my view).

I’m hoping an economist, with access to far more data than I, might hastily throw together a chart displaying the change in uptake of insurance (broadly) on the same axis as NZ inflation data.

A general weakening of ‘our’ discretionary spending capacity surely weakens the threat of inflation.

EVER THE OPTIMIST – The Chinese palate and wallet are supporting huge increases in red meat consumption, which NZ is benefitting from.

Depending on the month of measurement the year on year sales are up between 50-70% on last year.

ETO II – Aided by Chinese consumption trends the government expects primary industry export revenue will rise 7.1 percent to $45.7 billion in the June year, but predicts growth will be flatter in the future.

This government prediction doesn’t feel very robust to me given the rising global population and the increased consumption of red meat by the Chinese.

ETO III – MBIE reports that provincial centres have shown the greatest willingness to adopt ultrafast broadband, with deeper penetration in the likes of Nelson, Tauranga and Hamilton than in the nation's major urban centres.

This is great news for the businesses of those regions. Interconnectivity will be an important part of productivity.

INVESTMENT OPPORTUNITIES

Mercury Energy bond – the new MCY020 bond has been launched and set its minimum interest rate at 3.60% p.a.

The offer document is up on the Current Investments page of our website.

Investors (old and new) must now urgently (prior to 5pm tomorrow) contact us to request a firm allocation.

The bond offer opens for applications (under firm allocation) on 19 June and closes on 4 July 2019 with investments processed on application forms.

Mercury Energy is paying the brokerage expenses, so clients do not pay brokerage on this transaction.

TRAVEL

Ed will be in Nelson on 18 June.

Chris and Johnny will be in Christchurch on 19 June.

David Colman will be in Palmerston North on 2 July.

Mike Warrington


Market News – 10 June 2019

Today’s interesting brief news item explained that China thinks the barriers to entry for their domestic car manufacturing sector are too low after discovering they have 486 aspiring electric car makers!

President Xi will need to cover all of Southern Mongolia with solar panels and dam a few more rivers if all 486 manufacturers happen to succeed.

Note to Infratil – Longroad Shanghai? (Easy sell to the ‘Belt and Road’ nation soon to be filled with electric cars).

INVESTMENT OPINION

Proxy Votes – I have fantastic news for you; The NZ Shareholders Association has launched its Standing Proxy voting service whereby it will exercise votes on your behalf at meetings (if you appoint them).

This will boost the influence of the NZSA in the eyes and ears of the companies we invest in, which is an excellent situation for smaller investors.

The repayment of ASB Perpetual Preference Shares will remain my 2019 highlight for clients but there is a very good chance that this new ‘Standing Proxy’ service will be placed second on the highlights list for the value it delivers to our clients.

A Standing Proxy enables an investor (you) to place a standing instruction for the NZ Shareholders Association to exercise your voting rights (for you) at each opportunity when voting is required.

You issue the authority once, for each registry, and thereafter know that your vote counts and will be exercised by people willing to analyse the merits of each vote.

If a proposal has no merit the NZSA will say so, and vote accordingly.

The NZ Shareholders Association are demonstrably reviewing the voting proposals from the same perspective as you; they are an association of predominantly smaller share investors.

As I have said previously, the more voting power ‘we’ can concentrate into the hands of a single ‘person’ (NZSA) the more powerful ‘our’ vote will become.

An enormous number of small shareholders do not currently vote. I understand why. The paperwork involved or online skill requirement, the time consumed, the feeling of being ineffectual and the legally crafted descriptions all result in no action by many.

That perception can, and must, now change through the completion of two simple forms (one per registry).

Please make your vote heard.

Please consider putting a Standing Proxy vote instruction in place appointing the NZ Shareholders Association as your Proxy.

Membership of NZSA is not a condition of participation but I certainly encourage investors to become members and enjoy the value offered by them.

If you’d like to participate please let us know by return email. We will email the forms back to you with completed examples and steps to follow (described by the NZSA).

There is no downside to this decision.

Please take action and make your vote count (a cliché, I know, but very very true in this case).

We extend our thanks the NZSA for their perserverance with getting this service up and running for all investors.

Green – Kermit once sang of how it was good to be green, but the world’s regulators are progressively making it financially important too, if you’d like to stay in business.

When the regional council in Canterbury declared a ‘climate emergency’ I was non-plussed about the move, not because I don’t think the population at large should be changing its environmental behaviour but the use of the term emergency seemed headline grabbing.

I had hoped to learn that it was a little like other states of emergency which elevated the powers of the regulatory body so they could force certain desirable behaviours by the public, but this doesn’t seem to be an outcome from their climate emergency.

By contrast, last week Canada’s central bank (The Bank of Canada) publicly listed climate change as a key vulnerability to financial stability for the first time, joining many other central banks adopting such a stance.

This led me off to read about an organisation I was blissfully unaware of: Central Banks and Supervisors Network for Greening the Financial System (NGFS). A bit of a mouthful, but a collective that can become increasingly effective as the central banks tighten their bonds of agreement on this new front for measuring financial stability.

This collective stance from global central banks will undoubtedly have influence because as they slowly weave the subject of climate change into assessing financial stability risks our banks and businesses will be forced to respond because money will be at stake.

Central banks might force all banks to carry more equity for lending activity that was deemed to be a negative influence on the climate. Banks would logically respond by seeking lower Loan to Value Ratios (LVR) from ‘non green’ borrowers (ie more equity required) and they would charge higher interest rates on such loans.

As the market for carbon trading matures, putting a price on acceptable or unacceptable behaviour within the environment, the banks, and central banks, could more easily see who to penalise based on new financial stability regulations.

Businesses with a measurable negative influence on the environment might agree to pay the higher regulatory costs, or they might ‘plant a few trees’ to try and neutralise (or improve) their impact on the environment.

You’ll have deduced that carbon pricing and regulatory penalties will need to be greater than the cost of improving the environment (‘planting metaphorical trees’).

At some point the higher pricing of poorly behaved businesses must reach its consumers and either they must agree to pay a higher price or simply not do business regardless of the price. Price messages will be much clearer and more effective than the confusion peddled by politicians.

Once we reach the point where higher prices reach customers those businesses will be experiencing pressure to improve their environmental practices from two sides, regulation and consumption, which should be powerful enough to deliver meaningful change.

Globally, politicians have proved to be very weak at leading and displaying what change must look like. It is a very good thing to see central bankers globally taking more control of the risk and discussing how to enforce good behaviour with something businesses understand well - money (increased costs).

The volume of concienscious consumers is growing slowly and this pressure will help reinforce change.

It won’t surprise me if NZ’s Work Safe legislation is used as another lever to demand better environmental practices in business.

It all helps.

I like to read about businesses making change prior to the arrival of regulatory force.

Observers of Infratil will know that it sees the merit of environmentally aligned investment with its renewable energy businesses and last week Todd Corporation announced that it has purchased 75% of solar energy business Sunergise to add to its Nova Energy interests (long term replacement planning for its currently fossil fuel interests).

Other businesses, like Argosy, are following a strategy of property improvement, which predominantly involves energy efficiency but also aspires to improve the health and transport outcomes for the tenants, and this in turn helps the city around them.

These are all examples of good incremental change that will not be disruptive to the economy.

What bothers me at the moment are the many new investment opportunities that are beginning to parade around town with green (or kakariki) ‘capes’ as if they were the latest Marvel character heroes.

For a while it is going to be difficult to spot those investments that are truly following a path of environmental improvement and those that are simply riding the wave of political enthusiasm.

What I hope to see is a specific section in all annual reports from the serious businesses that we are already invested in explaining the real actions that were taken during the past year to reduce their negative impact on the environment.

I want to read about more ideas than just ‘we planted 1,000 trees’.

I’ll be very happy to read about small changes such as asking staff to isolate food scraps in separate bins and arrange bulk collection to go to a pig farmer, or finding a secondary use for shredded documents. You can insert any quote you like about how great things are made up of many small inputs. People like greatness; so all management need to do is encourage the many small inputs.

Most of the good ideas will come from the people, not the management.

As for the other ‘green’ share offer, I have no interest in it and no further comment to make after this sentence.

Tax – You can only laugh, right?

One week after the Treasury, through the Minister of Finance, forecast that the tax collected for the 10 months to April would be NZ$68.8 billion, the actual numbers were announced at NZ$71 billion.

Did a few guilty tax cheaters fess up and pay $2.2 billion during the month that was unexpected?

The Treasury is receiving a lot of heat for poor information management but surely the heat should be on the inaccuracy of the numbers.

Oil warning – Financial market participants check their favourite price signals every morning wanting to understand what they missed overnight and what the new settings might mean for the day ahead.

One of those settings is the relationship between oil and gold prices.

The current combination of a rising gold price (loss of trust in other assets or currencies) and a falling oil price (weaker economics, being a reference to energy use) has many proclaiming that a recession follows.

Certainly the way Donald Trump, President Xi, the UK and Europe are behaving, slower economies makes sense.

The US Federal Reserve doesn’t seem ready to admit it just yet, but their latest words are laying the ground work for a reaction (lower interest rates).

The Reserve Bank of Australia governor, Philip Lowe, has just cut interest rates and is already back at the rostrum announcing that another 0.25% cut to 1.00% was likely before the end of 2019.

The Reserve Bank of NZ, sheepishly I suspect, stated that it thinks our current interest rate setting is about right, all things considered.

It will have a lot more to reconsider soon based on the way the other global central banks are behaving.

Smart Shares – The NZX continues to expand its menu of Exchange Traded Funds under the Smart Shares brand.

Five of the latest subset are likely to appeal to many with their filters for Environmental, Sustainable and Governance focus and the desire to have their investment capital only used by businesses that meet higher standards against these ESG measures.

I’ll be very curious to see if investors begin to move from a non-ESG fund across the ESG fund of similar risk type. If so, the NZX will gain a valuable insight into the ‘temperature’ of investor sentiment as it relates to good corporate behaviour beyond the balance sheet.

I am very pleased to see the ETF range widening. In the past I was disappointed that a technology sector ETF didn’t exist given the huge growth that occurred in this sector, especially over the past decade.

This time I am very pleased to see that the NZX has introduced two new sector specific funds, being Healthcare Innovation Fund (LIV – a cute moniker) and Automation and Robotics Fund (R2D2? – Ed) no . . . (BOT).

We don’t provide financial advice relating to Kiwisaver, other than to the parents we meet suggesting that they encourage their children to join. The NZX operates a Kiwisaver fund (SuperLife) which uses Smart Shares for its investment funds, so these many funds can be drip fed with savings.

For disclosure sake, one element of my enthusiasm for the Smart Shares business beyond them being inexpensive, liquid and diverse, is that I am an NZX shareholder and have been for a long time.

EVER THE OPTIMIST – Please re-read the item above on Standing Proxy voting! 

INVESTMENT OPPORTUNITIES

Mercury Energy bond – MCY020.

I have been estimating what interest rate Mercury might pay on its proposed new subordinated bond.  

Based on the previous issue and current market conditions I thought a margin of 2.00% over the benchmark swap rate seemed logical, and until a week ago this implied a yield between 3.80% - 4.00%, with 4.00% unlikely in my view.

Following the week-long slump in long-term interest rates the implied yield has fallen to more like 3.50% - 3.70%.

As an aside, this slump in interest rates is purely market driven. The lower interest rate is not driven by the directors of Mercury Energy as many investors protest to me when we describe interest rates offered on new bonds.

I like that our clients bought wheel barrow loads of long term, and subordinated bonds, and have carried yields of 6.00% - 8.00% for the longest time, but that time is up, sadly.

The reinvestment offers at 3.00% - 4.00% are not directors having a laugh at our expense. They are not ‘trying it on’ to see if they’ll get the deal away at a bargain price as some suggest to me.

The changing interest rates are a market-driven price in the same way that our petrol at the pump is (if you can turn a blind eye to the huge taxes applied to fuel pricing – Ed).

Mike Bennetts (CEO Z Energy) doesn’t set the global price of oil and Fraser Whineray (CEO Mercury Energy) doesn’t set market interest rates.

Nonetheless, the potential interest rate on the new Mercury bonds needs your attention because the decision to invest, or not, will be upon us shortly.

Infratil – IFT Rights issue closes tomorrow. If you were planning to take up your Rights your application should now be in. If it is not yet done, following the online process is your only reliable option to beat the close off date.

TRAVEL

 

Chris will be in Palmerston North on Thursday (13 June), to deliver two seminars. The first meeting (investing in today’s low interest rate environment) will start at 11am, the second (The Billion Dollar Bonfire – how Allan Hubbard and the government destroyed SCF) begins at 12:15pm. He will be at The Coachman, 140 Fitzherbert Avenue.

Chris will also be presenting the same seminars in Tauranga on Thursday 20 June, at Hotel Armitage, 9 Willow Street, Tauranga. The first meeting (investing in today’s low interest rate environment) will start at 11am, the second (The Billion Dollar Bonfire) begins at 12:15pm.

If anyone would like to attend either or both meetings, please contact our office.

 

Ed will be in Nelson on 18 June, Auckland (Remuera) 9 July & Auckland (Albany) 10 July.

David will be in Palmerston North on 2 July.

Mike Warrington


Market News – 3 June 2019

I’m not really trying to develop a ‘headline review’ section, but…

Last week:

‘AA takes Sky City to court over construction noise’.

Unsurprisingly the Judge threw them out to resolve their differences like normal people.

Although the fact that this upset reached the court seems to be symptomatic of society’s growing volume of people who feel they should set personalised rules for the behaviour of others.

INVESTMENT OPINION

Bank Equity – Good on TSB Bank for showing some leadership.

Rather than continuing to issue headlines to the media about the impact of additional equity being sought by the Reserve Bank TSB’s directors have lifted their minimum equity target to 14.00% (its already at 14.57%) and I’d wager that they will lift the target by 0.25% per annum until it reaches the 15% target proposed by the central bank.

They’ll get to their target by withholding a little dividend each year.

The fact that TSB, and Heartland Bank, can compete with the major banks whilst already carrying higher equity ratios rather dilutes the counter argument that the major banks won’t cope and customer pricing will be unreasonably penalising in future.

2019 The Year of Repayment – While the media are focused on the government’s ‘Year of Delivery’, and I assume they weren’t referring to the early delivery of the budget, our clients’ are rightly focused on the ‘Year of Repayment’.

Subordinated bonds, from banks and major corporates, have treated our investors very well over the past 6-9 years but most of the bank items are now in full repayment mode and are not offering similar reinvestment offers.

The corporate borrowers (non bank) that are offering new subordinated bonds will deliver yields that are likely to be rather disappointing to investors.

It will be a period of reasonably significant asset allocation change for many investors and with a faint hint of trumpet sound it is an important time for seeking financial advice from competent people.

Interest Rates – Yes, again…

The unrelenting decline in long term interest rates continues and for the moment is pegged to the behaviour of President Trump and President Xi who seem determined to do less business.

The 30-year US Treasuries (bond) yield has declined by 0.36% in the past month, now rewarding (misnomer) at 2.57% (only 0.07% higher than the current overnight Fed Funds target rate!).

This is a huge change in market expectations, and a 7.50% swing in value of the asset (was $1.00 last month, now is $1.075 after one month’s movement).

Some market analysis addresses concerns about weaker economics ahead of us, but inflation adjusted bonds are also reminding us that the weakness may be very long lasting because the returns on 30-year inflation adjusted bonds are also falling (expecting less inflation over this very long window).

The US 30-year inflation adjusted bond offers a real (over inflation) return of 0.73%, but it’s still falling.

There are so many signals congregating that warn of low, or no, real return for investors who lend money in the years ahead.

Repeat – Financing Retirement- after surveying feedback about how to make the client investing experience simpler (thanks very much for the many responses) several people asked me about the article I wrote in 2018 about financing retirement.

I offered to reprise it here (in ITALIC), both to be useful and to save myself a little typing on a holiday weekend!

I have re-read it and adjusted for contemporary rewards. (additional comments in brackets)

At its core we save money during our working years to ensure we can finance our retired years.

 

This is a paragraph about asset allocation.

 

Consolidated conversations with clients leave me hearing from people that the annual cost to run a house each year sits between $40-50,000 (without luxuries, such as international travel). (This must have increased a little driven by insurance and council rates)

 

For a couple, National Super is currently about $31,000 of after-tax income, so another $15-20,000 income per annum is necessary to reach that recurring annual expense.

 

Mathematically one can calculate how much money they require in savings to reasonably ensure the comfortable financing of their future. For example, if you are 65 years of age and conclude that you’ll have as much as 35 more years left on this planet, the approximate financial scenarios are:

 

Spending capital option:

 

$400,000 saved now, expecting to earn about 4.00% pre-tax (at 17.50% marginal tax rate), without the impost of annual fees, will support approximately $20,000 of spending over 35 years (capital runs out at that point); and (The scale of savings needed has increased with the recent declines in returns)

 

Not spending capital option:

 

$600,000 saved now, again invested at about 4.00% pre-tax (17.50%, no fees) would deliver a recurring amount of approximately $20,000 after tax income per annum (capital is roughly maintained in 2018 terms). (Again, more savings are required now)

 

In both cases the actual income would vary based on contemporary returns, but interest rate returns would also vary based on inflation over time so to some extent real returns should be sustained over time allowing an inflation adjusted spend near to today’s $20,000. (Current interest rates threaten to fall to the point of no real return and inflation from insurers and councils is far higher than broad statistical measures, so the outcomes are not balanced)

 

$400,000 - $600,000 are substantial sums of money to accumulate through ones working life, after paying off a home.

 

If you want a truly inflation adjusted portfolio you should only spend earnings of about 2.00% and compound the balance of your income to ensure a rising capital sum in your portfolio (hopefully also 2.00% if the world manages to keep inflation stable in the targeted ranges).

 

However, this inflation adjusted scenario would require that you hold almost twice as much in savings today, and that isn’t a practical target for most people in my view.

 

Given that fixed interest investments are the lowest risk option for aligning your assets and income with your probable spending future, do you have sufficient money allocated to fixed interest assets to provide you with substantial comfort in your base case financial future?

 

Remember that the lowest risk asset should be expected to deliver the lowest ongoing return. If an investor is to stand any chance of exceeding today’s 4.00% pre-tax interest rate returns they will need to consider some investing with additional risk.

 

Investments allocated to higher risks, such as property and company shares often deliver higher returns than interest rates, but so should they otherwise there is little point in accepting the higher risk profile (more volatile valuations).

 

I touch on returns for risk further down in this article for you.

 

If you happen to have accumulated more savings than $600,000 and you agree that $50,000 is a workable annual rate of spending, then you have the luxury of being able to consider more investment into higher risk assets (such as property and shares). This, in turn, should support more luxuries and discretionary spending.

 

You may have deduced that once savings exceed $400,000 (near surety of $20,000 spending per annum for 35 years) an investor opens the door to the potential for some higher risk investing (an expanding tolerance for risk), and hopefully higher returns, on the balance of their savings.

 

Theoretically one reward for a high savings rate during one’s working life is the virtuous spiral of being able to invest in some higher risk assets and thus receive a higher average rate of return than a lower risk investor.

 

Risk tolerance is a scientific question relating financial capacity, not an artistic question relating to emotional conclusions.

So, the more money you save, either the higher your investment risk tolerance can be, or the more you can spend, or both if it is managed carefully. (Preach this to the children) You sometimes read that the young should always take higher risk investment positions, which I agree with; this relates to the time they have to recover from errors, and initially the modest scale of the funds placed at risk relative to that time factor.

 

I do not wish to say that a portfolio of below $400,000 for a retired person should not include property and shares, it probably should, given the relative returns, but it does mean that a smaller portfolio should be managed with relatively high levels of care and attention.

 

As ever, a portfolio should try to minimise the impost of annual fees because a 1.00% annual management fee raids $4,000 per annum from a $400,000 portfolio, which may only be earning about $16-18,000 per annum income (pre-fees).

 

Allocating savings to higher risk investments is an imperfect science and requires various perspectives before making decisions, complicating the process of reaching conclusions. I am thinking of Albert Einstein as I say that; an item is only moving fast if it is considered relative to a stationary object (perspective I) but not if considered relative to another moving object (perspective II).

 

Linked to my comments above about higher returns being available from higher risk investing I came across a very useful table of data on Vanguard’s website.

 

Plenty of fund management businesses will direct you to data about greater returns from higher risk investment over time, but usually their time scales are 12 months, 3 years, 5 years and if they have done OK as a brand they’ll display a 10 year measure, but the Vanguard data went back to data post 1926.

 

90 years, crossing an enormous range of major political and financial events is surely enough to validate the performance reporting.

 

Vanguard combined property into their ‘Shares’ label so I cannot differentiate tangible property performance from business performance, but I suspect these two have a high enough coefficient (properties are rented by successful businesses, plus government) to accept this combination.

 

Vanguard then displays a migration of risk taken from 100% fixed interest (deposits, bonds) through various blends

 

The tables show the following results:

 

Average return, Best Year, Worst Year and Number of years with a loss.

 

I have displayed a few of the data sequences here to display that over long periods of time that the diverse portfolios of increased risk delivered higher returns.

 

100% Fixed interest investment:

 

Average annual return +5.4%

Best year (1982) +32.6%

Worst year (1969) – 8.1%

Years with a loss 14 of 92

 

70% Fixed interest and 30% shares:

 

Average annual return +7.3%

Best year (1982) +28.4%

Worst year (1931) –14.2%

Years with a loss 13 of 92

 

50% Fixed Interest and 50% Shares:

 

Average annual return +8.4%

Best year (1933) +32.3%

Worst year (1931) –22.5%

Years with a loss 17 of 92

 

30% Fixed interest and 70% Shares:

 

Average annual return +9.3%

Best year (1933) +41.1%

Worst year (1931) –30.7%

Years with a loss 21 of 92

 

100% in Shares:

 

Average annual return +10.3%

Best year (1933) +54.2%

Worst year (1931) –43.1%

Years with a loss 25 of 92

 

Viewed through this long-term lens (perspective) you can clearly see the rising returns alongside participation in the higher involvement of risk.

 

Frankly, that’s a relief to see it proved over a very long period; it wouldn’t make sense otherwise.

 

You can also clearly see the impact of more volatility when investing with more risk through larger loss proportions and more years when losses in valuation were experienced.

 

I found the fact that the best and worst year were often in the early 1930’s revealing. 1982 showed up a couple of times.

 

Years that incurred a loss were a quarter of the time or less, and typically were only 1/6th of the time all the way up to the inclusion of 50% in shares.

 

Vanguard’s research showed that in the last 50 years, equity returns (shares) remained positive during 10 out of 11 previous rate-hike periods. This time may be different, of course, but market timing is the wrong strategy. (Vanguard) (I suggest re-reading that last line)

We make a lot of noise through headlines across the ‘share my thoughts in a Nanosecond’ internet but none of the best and worst years feature in the era of the internet (since 1989).

 

Maybe the internet’s speed of information sharing smooths out market volatility, in a similar way to Exchanged Traded Funds surprisingly supporting market liquidity, rather than the opposite?

 

Transport yourself back to the top of this article, helping people understand the level of savings they may need in retirement, and based on the scale of those savings when they might consider introducing higher levels of average risk in the pursuit of higher average portfolio returns.

 

If you are to spend your capital in retirement, which represents a sequence of future liabilities, then having a high proportion of fixed interest investing makes sense, until those savings exceed $400,000.

 

Thereafter (or a little prior) an investor should be considering inclusion of some property and shares investing in a portfolio.

 

The greater one’s savings, or time available, the greater the potential for accepting these higher investment risk proportions within the portfolio.

 

For the record, in the current highly priced share market, I am not encouraging readers to go out and blindly take more risk. I am however, again reminding them to have a personal investment policy to manage your money against and yes, that it should have exposure to property and shares investing.

 

If all your future spending plans are covered by part of your savings pool, maybe you will discover that you are underinvested in terms of risk and the remainder of your savings can and should be applied to investment with a higher level of risk.

 

Whilst many people don’t like the thought, all of the investors considering the above will also have a debt free home and home equity release businesses will provide an assurance that you can access additional spending money if the unintended happens and the savings pool runs out. This is yet another reminder of a person’s capacity to pursue some additional returns via higher risk profiles.

 

I hope your retirement spending plans are well financed, I hope you have developed a good set of rules (investment policy) for investment decisions and I hope you can see that accepting some addition risk often delivers additional returns to you.

(It does not surprise me that I didn’t need to amend any words in the article above and the new additions were few.)

EVER THE OPTIMIST – Exporter Fisher & Paykel Healthcare continues to lead the way for NZ businesses displaying success on the international stage, with sales now exceeding $1 billion.

INVESTMENT OPPORTUNITIES

Mercury Energy bond – As expected Mercury has announced its intention to repay its ‘old’ subordinated bonds (MCY010) on 11 July 2019 and to reissue a new similar subordinated bond to investors (offered soon).

Access to the new bond offer will only be handled via financial advisers and brokers such as ourselves.

We think it is likely that MCY will offer an option for payment of the new bond using one’s holding in the old bond (tick a box?).

We have started a list for the new bond offer (pending) and encourage any investor wishing to invest (rollover of old bonds, or those using new cash) to join our list and advise the amount that they’d like to invest.

We think it is likely that if a person holding the old bond (MCY010) does nothing they will be repaid in July. The formal documents will explain the situation shortly.

Napier Port – We have a contact list for investors wishing to hear more about participation in the float of Napier Port, once it is offered.

For the curious Napier Port has excellent information about the business on its website: https://www.napierport.co.nz/

Infratil – The immediate decision required from IFT investors relates to the Rights offer providing access to additional ordinary shares at a price discount.

Link Market Services has issued communications to all shareholders explaining the process and timing (the offer closes on 11 June, so act early).

Please read these douments carefully as they require a decision from you.

Clients receiving a financial advice service from Chris Lee & Partners can find a research item on the private login page of our website.

TRAVEL

 

Ed will be in Napier on 5 June and in Nelson on 18 June.

David will be in Lower Hutt on 11 June.

Chris and Johnny will be in Christchurch on 19 June.

Mike Warrington


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