Market News 11 October 2021

This week's awesome news is that Captain James T. Kirk is going (back) to space.

I love how this blurs the lines between fantasy and reality.

I do hope that Elon Musk has the good grace to name the craft the Space-X Enterprise and to embroider LIVE LONG AND PROSPER on the space suits.

Ooh, and here's a Star Trek quote that seems entirely suitable for today:

Things are only impossible, until they are not.

INVESTMENT OPINION

OCR – The Official Cash Rate is finally on the move upward (+0.25% to 0.50%), toward some new 'neutral' setting, which not even the Reserve Bank is brave enough to define.

I don't blame them; It really is a 'who knows' interest rate level on a seascape that is unusually volatile at present, being bounced from all points of the compass, and is likely to remain so throughout 2022.

I suspect the Reserve Bank would like the regulatory targeted central inflation objective (of 2%) to hold true as a focal point, and to not experience inflation above that level for long periods of time.

Working from that assumption, I currently view an OCR at 2.00% as being a neutral target, being neither a positive nor negative real return for investors who park unused cash in the banking system.

Analysts, and the market 'distillery', currently conclude that the central bank will lift the OCR as far as 1.50% during 2022 (the 1-year benchmark rate is 1.05% today), but 'we' are happy to change that opinion tomorrow morning if different news comes to hand (when – Ed).

I agree with the analysts calling for another +0.25% in November, then February 2022 and I'll lobby for April and May 2022 also. Let's front load this tightening of monetary policy to create some scope for movement lower if (when – Ed) we run into our next moment of financial difficulty.

Four increases of +0.25% by May 2022 only lifts the OCR to 1.50% which is hardly laden with tension at a modest 0.50% below the 2.00% inflation target and the expectation of 4.00% Inflation during 2022.

In theory, inflation protected assets should still move forward in value even if the RBNZ is successful in increasing the OCR to 2.00% during 2022 and perhaps on into 2023.

The RBNZ stated that it was aware of businesses that are finding trading very difficult under Covid19 restrictions but in my view many such businesses wouldn't (or shouldn't) be carrying large proportions of debt (thinking food and entertainment sector).

I'd hope that these businesses were gaining support from central government fiscal spending schemes. The level of the OCR, and 0.25% increments of change is irrelevant to businesses under the most pressure driven by cash flow, not by the price of money.

I was pleased to see that this forward-looking institution (RBNZ) has started referring to Covid19 in endemic terms.

Use of the term pandemic remains appropriate during the rest of 2021 as we push vaccinations up to levels that give us more control of assisting the unwell, but to plan ahead requires leadership on best practice under endemic circumstances, albeit immediately post-pandemic.

Other central banks are progressively moving, or planning to move, interest rates higher. Poland has finally broken away from Euro-speak and increased its cash rate from 0.10% (where it sat for 9 years!) to 0.50%.

Good on them, but frankly I think they missed several opportunities to increase the interest rate by 0.10% increments and send ongoing signals to their market, without dramatic changes to the price of money.

Our central bank will be hoping that more countries do get on with the job of increasing interest rates, especially our major trading partners, so as to avoid disrupting the value of the NZ dollar (NZD) too much, which would happen if our interest rate change occurs faster than that of our trading partners.

We may have a small problem there though; Australia still claims no change until 2023-2024 and China looks a serious chance of needing to ease monetary policy again soon.

Financial markets were expecting last weeks +0.25% interest rate change in NZ and thus very little happened on financial markets and the value of the NZD did not change.

As for its other obligations, the Reserve Bank of NZ shouldn't have any trouble maintaining maximum sustainable employment because as the borders open, I suspect a rather large volume of skilled workers will depart in pursuit of higher wages and better conditions.

New Zealand will need every available person on the job!

Then, the housing focus; If the risk of net emigration comes to pass, it too may help ease the net housing supply crisis, but it would be a rather ignominious way of gaining control of that problem (losing our best people overseas).

To investors, what does the RBNZ action mean for you?

Well, you may recall one important rule: 'Don't fight the FED' (aka the central bank), so acknowledge their preference for increasing interest rates and adding some monetary tension back into the economy.

However, I don't think you should feel rushed to change your portfolio because at the moment the Reserve Bank has only donned the flyweight gloves and they are practicing every move in front of you prior to execution.

You will earn a little more on your call account, and short-term deposits, but not enough to get excited about.

Roll on November for the next increment.

Global Tax – The global overhaul (140 nations) of corporate taxation appears to have settled on a 'minimum corporate tax rate' of 15% and that taxes should be paid where they are earned.

136 countries, including Ireland, have agreed. Kenya, Nigeria, Pakistan and Sri Lanka have not yet signed.

The 'at least' wording was removed from the definition, which is helpful because using such imprecise language introduced a risk of future arbitrage between nations.

I don't know the corporate tax rates of all the world's developed nations (average is reported as being 23.50%), but I know this development caused the most angst for Ireland who host many of the world's largest companies and tax them at 12.50%.

Once Ireland increases its corporate tax rate to 15% there is surely a reasonable chance that companies like Google will quickly agree to pay 15% tax at point of sale.

On that point, the rollout is likely to take many years.

The 15% global minimum immediately forces nations like NZ, with our 28% corporate tax rate, to contemplate how we will manage the difference, especially between international and domestic companies?

I saw the New Zealand flag fluttering in the breeze behind the proud dignitaries after the signing, so we are clearly onboard with the development.

15% tax from Google is better than we currently collect.

Then we need to contemplate how to stop, say, F&P Healthcare from relocating to Ireland (anywhere else – Ed) to reduce its total tax obligations.

Is New Zealand per chance to debate making our corporate tax rate to 15% and compete globally, but retain the obligation to withhold 33% from the payouts to owners (imputation at 15%, Withholding Tax at 18%)?

If this leads companies to distribute less in dividend (more retained for growth), so only 15% tax reaches the government, the Minister of Revenue will need to return to the tax working groups efforts to address the next evolution of our tax base.

Personally, I think this leads to lower personal tax rates to support low-income levels and the offsetting introduction of land tax (for all) and estate taxes. We have to pay for spending some way.

During the years of accumulation, I'm sure I would have rejected estate taxes but an industry friend once asked me 'why do your beneficiaries need any more of your money than a sum that covers the cost of a home each and a little cash to improve their lifestyles?'

As a parent you have demonstrably provided for your children.

He wasn't proposing the evaporation of estate assets, just a meaningful tax rate on the value over and above a defined amount (evolving) that offered significant support to my beneficiaries.

If I wanted to make donations and control the reduction of my overall wealth, why wasn't I doing it whilst alive?

If I wanted to support children's debt reduction or business growth aspirations, why wasn't I doing it whilst they were at greatest financial risk (years ago)?

As it happens, I am seeing a lot more of this behaviour now; grandparents and parents passing equity to the next generation but doing it whilst the are alive to enjoy the process.

I have been inspired by those pre-emptively passing equity between the generations. Well-functioning family units and communities' matter.

Maybe most of us do not need the government to tell us what good behaviour looks like, but estate levies might encourage a little more to look in the right direction before their final days.

I have strayed a little from the point, which is that I think the global 15% corporate tax rate looks likely to force another round of tax think.

Technology – I have a renewed sympathy for those who are skeptical about technology's reliability after reading the news about Facebook's failure last week.

One of the world's largest technology service providers failed to operate, then managed to lock out its staff (swipe cards wouldn't work) and the fix was one that we all use once we reach the point of ultimate frustration – switch off, wait five minutes, switch on.

Seriously?

First, they leave the business vulnerable to such a failure; and

Second, they pay people enormous sums to switch off/switch on.

I happen to think the world would have been a better place if Facebook stayed offline for a year.

China – Evergrande has been joined by Fantasia in the category of 'failed Chinese property developers'.

Trading in shares of such companies is being halted.

The Chinese government appears to be taking steps to avoid a contagion that damages its public confidence, including those who have been buying properties, but I agree with the analysts who conclude they are unconcerned about financial losses for international investors, and the wealthy Chinese elite.

President Xi is set on a path of migrating wealth from what was becoming a 90:10 situation (10% own 90% of assets) to a desired setting of 55:45 (where only the members of the CCP are allowed to hold an excess!)

Financial markets are updating potential losses for international investors live (by the minute), so I don't expect an unmanageable contagion, however, the political concept of forcing a renewed balance in assets across the country (communism – Ed) implies a reasonably stark drop to China's potential economic growth rates.

Over the past 20 to 30 years the world has enjoyed, and then become dependent on, China's growth to support their own.

If China cools off, who will step into the economic breach?

EVER THE OPTIMIST

Did I say Captain Kirk is going back to space!

Following his return to earth Rocket Lab should invite him on to their board of directors as an honorary observer.

ETO II

Westpac is forecasting an $8.50 /KgMS for dairy farmers in the year ahead.

This is excellent news and is revenue that the country definitely needs.

Hug a farmer, regardless of what the government says!

ETO III – Vaccinations

NZ 1st Jab: 3,266,697 = 68% (total population) 80% (>12 years of age)

NZ 2nd Jab: 1,865,831 = 43% (total population) 50.0% (>12 years of age)

The sub-category numbers are becoming more promising when you assess them under the 'risk based' lens that led the rollout of New Zealand's vaccination programme.

65 years+ - 93% first jab, 85% 2nd jab.

I hope those with health-related fragilities have accepted medical advice and been vaccinated (if able).

I hope trusted people are helping the Maori communities, especially the young, to understand the science of the vaccination option.

I think the 'stick' (no Rhythm and Vines without vaccination – Ed) will help the younger folk to make progress.

Whilst I acknowledge freedom of choice, here's a comment that displays my bias (for the vaccine):

It would be nice if we could look back from 2022 and see that we managed the health risk well during 2020 when vaccines weren't an option, and then once they were, we set and achieved a target of 90%+ vaccination in short order to maintain our excellent health management programme.

At the beginning of 2021 I expressed a view that vaccinations and cheap money would be the biggest influences on investors risks and returns. It has been demonstrably true, and it continues to be.

The scale of the risk from the virus is declining (as vaccinations rise) enabling increased economic activity and more importantly an ability to smooth out the disruptive economic forces (think shipping at 10x pricing and 50% delivery!) and energy supply.

Energy disruption is a clear and present danger, of more influence on daily lives than our forward-looking climate goals.

Many of our environmental ambitions are dependent on being able to settle back into more efficient routines (community and business).

Keep your chin up, have confidence, because we are getting closer to the light.

https://www.bloomberg.com/graphics/covid-vaccine-tracker-global-distribution/

https://www.health.govt.nz/our-work/diseases-and-conditions/covid-19-novel-coronavirus/covid-19-data-and-statistics/covid-19-vaccine-data#age

Vaccination doses delivered – 6.45 billion jabs (volume = 42% fully vaccinated)

Active Cases – 18.0 million (decrease)

Daily rate of new cases – 400,000 (decrease)

People in serious condition – 84,000 (decrease)

Daily Deaths (Covid related) – 6,000 (decrease)

Daily death ratios throughout 2020 were about 5,000 per day. Fingers crossed that vaccination ratios will bring the current daily rate below the 5,000 level.

Investment Opportunities

Auckland Council – is offering a new 6-year bond this week (very strong borrower).

The interest rate should be a little above 2.00%.

Clients will pay brokerage on this transaction.

We have a list that investors seeking firm allocations are welcome to join.

Kiwibank – will be the first bank in NZ to issue a Tier 1 subordinated security under the new regulatory rules for bank equity capital.

They intend to issue a Perpetual Preference Share (PPS) next week. I have made the term perpetual bold intentionally, so it cannot be missed.

On occasion people have asked me what perpetual means in the investment world. I respond with the dictionary definition; it is possible that the securities will remain on issue forever.

Practically speaking, this hasn't been the market experience, but if repayment occurs it only does so for the benefit of the borrower or in this case the central bank (not for the investor).

Nonetheless, subordinated securities with complex terms and conditions offer higher returns for the additional risk, which will appeal to some.

Kiwibank is yet to define the returns and dates, but you can be reasonably assured they will pay the brokerage costs for the investment offer and based on similar securities in Australia we expect a return in excess of 4.00%.

We have started a list for investors wishing to participate in this new offer.

Kevin Gloag is preparing a research item for the offer, which will be placed on the login page of our website for those receiving a financial advice service from us.

2 Degrees IPO – This potential share float appears to have been postponed so it can discuss the concept of merging with Orcon to become a larger, combined, telecommunications sector offering.

This implies that any listing will not occur until 2022, so perhaps you can amuse yourselves over summer by throwing up suggestions for a new, merged, company brand name.

Orcon2, 2 Orci, 3 Degrees?

Z Energy – Directors have supported AMPOL's takeover offer to the extent that they have entered into a Scheme Implementation Agreement at a price of $3.78 plus a $0.05 dividend for the current year, and recommend that shareholders accept the offer.

I am a little surprised by the directors' enthusiasm.

If any other suiters are stalking such a high cashflow asset now's the time for them to show their hand.

TRAVEL

Johnny intends to be in Tauranga on October 21.

Any client wishing to arrange a meeting is welcome to contact the office.

Michael Warrington 


Market News 4 October 2021

I have lifted this comment from the Vaccination section below to this opening section because it deserves additional respect.

Congratulations to the BNZ for finding ‘carrot’ methods to encourage staff vaccinations and show leadership in the community. Sticks can come later, which I see Air NZ is defining 2022 as an appropriate start point for using the ‘stick’ (I agree – Ed)

BNZ will pay for a vaccination in low-income countries for every BNZ staff member who gets vaccinated. That’s in excess of 5,000 people.

May I respectfully launch a ‘Telethon’ campaign and ask that all other banks and major employers make the same offer to their staff.

Then, BNZ, I have another follow up idea for you, as we are running into vaccine hesitancy:

You’ll donate yet another vaccination to low-income countries for every customer that presents you with evidence of being vaccinated (2nd jab) themselves, beyond 15 October.

Or (all banks), if you’d like a more ambitious idea, ask the Ministry of Health to sponsor a $50 credit to the personal account of a vaccinated person (evidence provided via National Health Number). The credit drops to $25 on 15 November and NIL from 15 December.

At a glance you might think this will cost $200 million or so, but it won’t. The credits will reach those with the greatest need. Many people will not pursue the credit.

It’s a lot cheaper for the government to offer such credits than borrowing $1 billion per week to finance lock downs.

INVESTMENT OPINION

Self-Govern – You must get tired of constantly reading headlines from commentators predicting turning points in the share market, and interest rates, with the loudest being the gloomiest, glass half-empty folk.

The solution to the unnecessary anxiety is to have a good plan and ignore them.

Sweeping financial market predictions are less accurate than a coin toss (50%) and the certainty of the meteorological ‘winter is coming’ (100%). So, if financial predictions rate at less than a 50% chance of occurring they become possibilities, not probabilities.

How do you successfully counter possibilities?

By confronting them with control of your probabilities.

A. If you have a known, or unavoidable, liability (-1), you place a reliable asset against it (+1). Think of shelter and food costs.

B. If you then have a probable liability (-0.80), you place a reasonably reliable asset (+0.95) against it. Think of transport costs, social events,

C. Thereafter your remaining liabilities have more discretion (say -0.60) in liability terms, so you can pursue a little more risk with the investing (say +0.40). Think luxury travel, luxury food consumption, financial gifts to family.

The more reliable assets held under A) and B) have lower rewards. Assets held under C) offer the most potential for higher rewards.

When considering the structure of your investment portfolio, under no circumstances should market volatility disrupt A) above. I hope that typically National Super will meet the costs of A).

Next, there really shouldn’t be a market state that stops you from meeting liabilities under B) either. Everyone’s preference is that this income arrives from recurring interest and dividends, but a belt and braces approach will ensure capital is available for spending too (think maturing fixed interest items over the years ahead).

On the basis that you have discretion over your spending under C) you can invest in the pursuit of more risk, and hopefully higher returns. On balance, this should play out well, but it will involve moments of financial anxiety (such as a 30%+ decline in the value of the share market).

The critical point is that you can confront the anxiety under C) and not be pressured into a decision by the market, but rather as a result of reasoned conclusions with financial advice.

The scale of one’s wealth influences the ratios held in A), B) and C).

All the way ‘up’ the glass half empty folk predict a fall in the share market. After 12 years of rising, they must be tiring of their own voices even though the chances tilt a little more in their favour as the altitude increases.

Then, when share markets decline, they spend years saying ‘I told you so’ ignoring the extra-ordinary movements in value that they haven’t participated in, in either direction.

The appropriate approach, after ignoring emotive headlines, is to have a plan for control of the situation.

When the Night King (market volatility) arrives be sure to have a plan (and a financial adviser – Ed) and hold a Valyrian steel dagger (volatility neutral portfolio).

Evergrande – The share market is telling us that we may be passing the point of most intense financial pressure for this company (code 3333.HK) with the share price lifting from the depths of $2.40 back up to $3.00.

Evergrande was temporarily ‘rescued’ by a state entity buying from them some shares (US$1.5 billion) in a bank that it owns part of.

The alternate view is that speculators buying the shares will now hold their breath and hope President Xi agrees to step in with some more assistance.

What I found more interesting was the view when I expanded the time frame for the share price chart to 12 years and witnessed the surge from $6 to $30 in 2017 which on its own reveals an instability.

Upon reading reports from 2017 you discover a mix of analyst excitement about Evergrande’s scale of property development outside the major cities, urged on by central government stimulus, but also of a business that was using debt to also buyback shares and (my interpretation) trying to squeeze out the naysayers who were short selling shares and predicting doom for the company (due to building unwanted apartments!)

You’ve heard the phrase that ‘timing is everything’, and it’s as true in finance as it is in comedy.

Time (4 years) is proving the naysayers correct. Government stimulus was poorly applied. The economy and its residents weren’t ready for the product or service being supplied.

The share price has spent the past four years making its way back down, to below $6.00 (There’s no holding back the truth – Ed). From what I see there is no way the share price belonged as high as $20-30.

If Evergrande’s major shareholder and chairman (Hui Ka Yan) is genuinely wealthy and doesn’t want to end up in a Chinese prison, he’d be wise to inject some new capital, meet some debt obligations, and deliver homes to Chinese people.

International investors holding approximately $20 billion of the $300 billion company debt may well be in a spot of bother and will likely lose money.

Either the chairman will begin negotiating write downs to international debt obligations, or Evergrande will default, and China will use selective financial support as an international weapon by only assisting Chinese creditors, particularly those waiting for a property to be delivered.

If they are willing to arrest innocent people based on political spats, they will surely not care about legal action threatened from abroad.

A failing, or failed, property company may not be the item of greatest concern to New Zealand investors, other than if it is one of the canaries in the mine?

Like many nations China has been providing artificial financial stimulus to its economy.

If Evergrande is an example of how artificial and misdirected stimulus plays out (failure) then investors should be considering what it will mean if Chinese economic growth slows, followed by all other nations providing artificial financial support (including NZ – Ed).

China – of greater concern for those watching China and its economy should be the power shortages they are now experiencing, which is impacting both industrial and residential consumers.

One of the problems is self-inflicted with a shortage of high-quality coal for electricity generation, having attempted to punish Australia by rejecting its coal supply.

Photos of near empty coal storage facilities are easy to find. Apparently, they only have sufficient in reserve for two weeks electricity generation.

I doubt that the Chinese population will link their suffering (less energy supplied) to the political egos of its government.

A second, and probably silent, problem might be energy demand from Bitcoin miners. I say silent because this activity is now banned in China, but what other increased energy demand is there in a nation that has been reducing its steel making and its building sector activities?

Maybe the market knows about the energy problem, and China’s reliance on imported coal as an energy source, because the market price for coal has jumped from a once relatively steady US$50-60 per tonne to US$220 at the time of writing.

I think Australia’s new order for nuclear submarines is a distraction from the real war in the Pacific which is being fought out across trade.

It’s the only sensible explanation for the radical pricing volatility being experienced on many vital products around the world.

I guess it is naïve to suggest that politicians simply meet in the middle, apologise for their egotistical and selfish recent behaviours and return to more harmonious business settings?

Energy – whilst I am talking about energy issues, here’s an awkward headline from the UK amongst their difficulties with energy businesses failing and others stepping in to serve the customers:

Shell Energy takes on 255,000 customers from collapsed rival ‘Green’.

Trustpower (TPW) – Then, on the subject of the evolution of who serves the customer, NZ is about to experience what I think is the largest transfer of a customer base from one business to another with the Commerce Commission agreeing to Trustpower’s sale of 234,000 residential consumers.

The remaining condition is the restructure of the TECT community trust which requires a High Court hearing in mid-November.

TPW is keeping its generation assets and its commercial and industrial electricity user customers.

It’s been an interesting strategy for me to get my head around.

TPW, like most businesses fought hard to build an ever-larger retail client base, being the first to prove the value of multiple household services from a single provider, and now they wish to sell that group of clients (demand profile).

It seems an especially bold move by TPW given the strong parochial following that it enjoyed from its Tauranga customers (home province).

It’s nice to know that there was a market for such a transaction; willing seller meets willing buyer (Mercury Energy - MCY).

Mercury clearly has different strategic goals.

I am sure that both TPW and MCY have very long-term horizons for their decision making. I hope they are both pointing North, or perhaps NNE for one and NNW for the other?

Who else might be considering the business separation of product from serving a customer?

EVER THE OPTIMIST

Synlait Milk (SML) and New World are introducing (going back in time – Ed) a returnable milk bottle, made of aluminum.

We all remember the era of milk, in glass bottles, at our gate right?

ETO II

Pfizer BioNTech confirm trials are delivering ‘robust’ immune responses from children aged between 5-12 years of age.

ETO III – Vaccinations

Dame Sarah Gilbert, lead scientist to the Oxford/Astra Zeneca vaccine, (summarised in a speech) that society already lived with four different human coronaviruses that we don’t think about very much… and eventually Covid-19 will become one of those.

I far prefer to hear from scientists than politicians.

I’m pretty keen to see FDA approvals for vaccinating 5-12 year old children soon, followed by <5 years.

NZ 1st Jab: 3,266,697 = 66% (total population) 78% (>12 years of age)

NZ 2nd Jab: 1,865,831 = 39% (total population) 46% (>12 years of age)

https://www.bloomberg.com/graphics/covid-vaccine-tracker-global-distribution/

https://www.health.govt.nz/our-work/diseases-and-conditions/covid-19-novel-coronavirus/covid-19-data-and-statistics/covid-19-vaccine-data#age

Vaccination doses delivered – 6.30 billion jabs (volume = 41% fully vaccinated)

Total (recorded) Corona Virus cases – 234 million (removing this next week)

Active Cases – 18.4 million (decrease)

Daily rate of new cases – 450,000 (decrease)

People in serious condition – 89,000 (decrease)

Daily Deaths (Covid related) – 7,000 (decrease)

Investment Opportunities

Auckland Council – is next to offer a new bond, with a 6-year term.

They are marketing the issuer this week, which seems to imply investment decisions will be next week.

Bonds issued by local government fall under the extremely strong category for default risk (low) and will have an interest rate north of 2.00%.

We have a list for investors wishing to invest in the offer.

2 Degrees IPO – The company has confirmed that it intends to float on the NZX before the end of this year.

TRAVEL

Edward will be in Wellington on Friday, 15 October

Johnny will be in Tauranga on Thursday, October 21.

Chris will be in Christchurch on Tuesday October 26 and Wednesday (am) October 27.

Any client wishing to arrange a meeting is welcome to contact the office.

Michael Warrington 


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