Chris Lee & Partners Ltd

Market News 25 September 2017

 

Donald Trump’s children must have been unusually well-behaved judging by the way he struggles to respond to Kim Jong Un.

North Korea’s leader is a very well-defined example of excessive attention seeking, something Trump should not be drawn into. (Too late – Ed)

All Trump need do is the following, in my humble opinion:

‘Speak quietly and carry a big stick’; and

‘Speak clearly but say less’.

Investment Opinion

Voting – In this current season of voting, I hope you have all taken advantage of your rights to place votes for your various share investments that are holding Annual Meetings.

After urging you to vote, I remind you also that you do not need to attend the Annual Meeting to present your vote, nor rely on NZ Post to deliver it; you can very easily vote online from the comfort of your computer, or iPad.

Further, you do not have to think about which way to vote, if you don’t have the energy to consider the questions in depth, you can assign your proxy (with voting ‘open’ or ‘discretionary’) to the NZ Shareholders Association. They demonstrably approach their voting decisions from the same perspective as you, as a retail shareholder.

You do not need to be a member of the NZSA to ask them to act as your proxy, their name appears to all under the choices for proxy voting. By assigning them your vote you add leverage to the position when negotiating with boards of directors.

Whilst you do not need to be a member of the NZSA, I have from time to time encouraged the public to consider membership as the fee is low and the value is high (in representing smaller shareholders’ interests).

100 year bonds– Austria has joined the expanding club of nations to offer, and successfully issue, bonds with 100-year maturity dates (Argentina, Mexico, Belgium, Ireland all issued recently).

Austria’s first ‘century bond’ was issued with a yield of 2.10% (who’d like some? – Ed)

100 years presents a lot of opportunity for change to risk, and the subsequent change to reward, and this leverage (time) requires some very clear thinking by both the borrower and the investor.

A country knows, with reasonable confidence, that it will have assets and recurring income for more than 100 years, so borrowing some proportion of funds for this length of time is logical to consider.

However, at a headline level, this is a mind-numbing concept for an investor, because no individual investor expects to live a further 100 years beyond the age at which they have net savings to manage; for the lucky and hardworking this happens in their thirties, but for most investors it is from the age of 50 years onwards.

Further, investors wouldn’t be addressing such extra-ordinarily long term investing until they had far more invested (total sum) than they could possibly expect to need during retirement years spending.

At its simplest, to invest in a 100-year long asset you need a 100-year long liability (committed spending obligation, or preference). 100 years reaches my great grandchildren and I don’t intend to plan for them as beneficiaries until Marie and I are well covered, and then the next layer of potential beneficiaries is covered too.

This implies an extra-ordinarily high level of wealth only achieved by the smallest number of people.

Accordingly, I can only think of two types of investors who would contemplate investment in 100-year bonds (from apparently reliable governments):

Cash rich governments (see comments about Norway below) accumulating long term assets to match against long term liabilities (such as superannuation commitments); and

Traders, including fund managers, who seek to add value by forecasting when interest rates may be rising and falling. The current clients of these funds are not 100-year liabilities but clearly such a firm would hope to still be in the business of managing investors’ funds 100 years from now.

Just for the purpose of technical fun – very long-term bonds change price at progressively different rates (a curved line, when plotted) as interest rates move (a thing called convexity) and traders love this, if they get the direction right with respect to predicting interest rate movement.

So, if I am not proposing that readers buy 100-year bonds, what is the message?

There are several messages:

Central Banks have been successful with reducing the cost of funding (interest rates) across economies by holding cash rates near zero and ensuring demand exceeded supply by purchasing bonds (for the unwitting tax payer) at very low interest rates;

Investment managers (some proportion of them) do not expect meaningful increases to interest rates for a very long period. Based on the experience in Japan over the past 20 years those fund managers can be forgiven for this thinking;

Well managed governments and long-life businesses (especially utilities) can be reasonably assured of relatively low nominal interest costs in the decade ahead, and quite possibly a lot longer;

These lower interest rate returns have fed through to lower returns on property and shares also (having helped force up the market values of these investments). This outlook for low returns will continue;

Asset allocation experts and financial advisers around the world are likely to encourage investors to increase their risk further if they want higher returns (more property, more shares).

It’s great to see that financial markets have the confidence to accept 100 year bonds so soon after the extra-ordinary tension of 2008-2009 but it’s not an asset that I think ‘we’ need to spend much time on, other than its implications.

Investment News

Elections – The NZ General Election will have dominated your awareness, but from an investment perspective the German election was more influential.

In NZ we got roughly what the most recent polls were telling us to expect.

Even though most minor parties suffered proportionate losses in our election MMP has still delivered the balancing tensions required to ensure that government policy evolves in a measured and tested way.

We are yet to have our policy-makers confirmed but I don’t see any incentives coming from the NZ election result to change the constituents of your investment portfolio.

Germany’s election was much more important, from a global perspective, and I think the best (most stable and progressive) result was achieved with Angela Merkel being returned as Chancellor, leading the largest party (32.5%).

Whilst it is a little frustrating to see a far-right party gain so many seats in the German parliament I hope they are consigned to the ineffective corner, without any meaningful leverage.

It is a credit to Merkel, and the majority of German people, that the more conservative government style won control over wider extremes in an era that voted the likes of Trump into power.

Merkel’s previous coalition partner (SDP) lost ground and has already declared they will not be part of the next government coalition leaving Merkel to talk with other parties.

Germany’s new government negotiations are very important and it is very likely they will take longer than New Zealand’s. However, what Merkel will likely prove that it is unwise to declare that you won’t work with others because in her case it seems likely that the Green Party will play a role in their new government.

It is interesting that in NZ the Green party declare they will not talk to the largest party. If they said they would always talk to the largest party, in each era, then they would undoubtedly be more effective for our country, which is something that appeals to me (as long as they focus on green matters – Ed).

All will be revealed in the months ahead but it is the German situation that means more to thoughts about your investment portfolio.

US Federal Reserve – The Fed meeting last week did not offer you much to be concerned about but there were a couple of points of long term influence.

They did not change the Fed Funds rate this time (still 1.25%) but they again tried to have us expect further interest rate hikes from them (one more in 2017 and hopefully three in 2018).

Financial markets are already debating, and disputing, the potential to raise the Fed Funds rate by another 1.00% over the next 12 months. Inflation is not visible and economics is not strong enough, they say.

Of interest to me, and I hope you as investors, is that the Fed lowered the targeted neutral rate from 3.00% to 2.80%, which for me is a recognition that even in the current trend of trying to lift interest rates they will remain relatively low over the long term.

For an extended period (years) many investors and advisers have hoped for higher interest rates but hope is not a robust investment strategy and the signals about interest rates continue to be low.

Norway – has been spectacularly successful at preparing their country for financial stability once oil is no longer delivering high levels of income enjoyed in the past.

Norway’s sovereign wealth fund (managed by Norges Bank Investment Management - NBIM) now has US $1 Trillion invested around the globe.

With a population that is only 15% greater than NZ (this month – Ed) that amounts to about US$190,000 per person. When seen in this light what struck me was that they probably still have some way to go before they can feel comfortable that their entire population’s financial liabilities are ‘covered’.

For the curious, the average house price in Norway is currently US$410,000.

NBIM concedes that the scale of the fund makes it hard to discretely make new investments. You can be reasonably sure that NBIM has been investing in 100-year bonds.

Two other points from the information stood out to me:

Firstly: scale has enabled the costs of running the fund to decline, recently this reduced from 0.07% per annum to 0.02% per annum. Kiwisaver providers in NZ, on the whole, still charge well over 1.00% per annum in fees.

NZ Kiwisaver funds have no excuse for not progressively reducing their annual management fees, yet none are. I asked my Kiwisaver provider to negotiate a lower fee and the response, after initially being confused by the query, was ‘thanks but no thanks’.

Secondly: NBIM stated that they were reducing the diversity across the fund to simplify management and reduce costs because ‘it doesn’t make sense to have more diversification in a world in which prices and rates are converging’

This thought, supported by market behaviour, won’t rest well with the Efficient Frontier, Markowitz Diversity supporters.

Norway has done an excellent job of financial planning and efficiency. By contrast, while Kiwisaver is good, NZ is not wealthy enough to plan poorly or charge excessively for managing savings.

Fees – On the subject of cutting fees, the NZX deserves some praise for doing as they intended and cutting fees on Smart Shares when opportunities to do so present themselves.

Last week the NZX announced a cut in the fee charged on the (award winning) S&P/NZX Mid Cap Index Exchange Traded Fund (MDZ) from 0.75% to 0.60% per annum.

This is good form, however, they mustn’t delude themselves about being cheap yet and need to urgently push on with these cuts to get annual fees well below 0.50% per annum, in my view.

Toys R No Longer Us? – Toys R Us has applied for Chapter 11 bankruptcy protection in the US.

They are an example of what I am concerned about, and have discussed occasionally, with excessive debt levels ending in financial failures.

We are not seeing the failures at the government level, even when highly indebted, because central banks and pan-government organisations (such as the International Monetary Fund) are ensuring that financial failure does not occur at a government level. (Unless you are Argentinian or Venezuelan – Ed).

Interestingly the Toys R Us story overlaps with my contempt for the behaviour of Private Equity funds; you see Toys R Us is owned by private equity interests that borrowed 83% of the US$7.5 billion paid to buy the business.

If you exclude such high interest costs from excessive debt levels and removed the ‘advisory fees’ collected by the private equity funds Toys R Us would be profitable. Simply put, they need more equity, less debt and to reduce costs (evolve their business model).

Contrary to expectation, the major problem is not Amazon, kids still like toys and will buy them from Toys R Us, it is the debt dropped on the business from the leveraged buyout and impost of external fees (paid to the private equity owners).

Blue Star Print bond investors know what happens next; holders of the subordinated bonds and possibly a proportion of the senior bonds are told they have lost their money.

The private equity owners will likely restructure the ownership of Toys R Us and then bring it out of Chapter 11 bankruptcy protection to continue trading profitably (Toys R Still Us but their Bonds are No Longer You – Ed).

This reinforces my views to avoid businesses with excessive debt levels, even in a low interest rate environment and to not lend to private equity businesses for leveraged buy outs.

AT1 -  The ANZ Bank in Australia has displayed to holders of Additional Tier 1 subordinated bonds what process to expect under normal operating conditions (robust bank equity, no market disruption).

Investors in these subordinated bonds may recall that to be recognised as Tier 1 equity for the bank the securities must have no defined maturity date, have a compulsory conversion to shares at some point (seven years for recent examples) and only a conditional option to be restructured/repaid (possibly year five).

ANZ Bank is offering to investors in Australia a new Tier 1 subordinated investment, labelled CPS5. They have also offered this to holders of a previous series of the securities (CPS3) as a switch (exit CPS3 and reinvest in CPS5) within the fifth-year buyback facility for the CPS3 investment.

The investor response has been interesting and no doubt useful for both the ANZ and the banking regulators, including the Reserve Bank in NZ who seem keen to predict behaviours and make pre-emptive changes to bank capital definitions.

There are A$1.34 billion CPS 3 on issue;

A$682 million asked to switch into the new CPS5 offer;

A$130 million asked to be repaid (ANZ to buyback and cancel these securities); and

A$528 million CPS3 wish to remain on issue.

This last group is the one that surprises me the most. They may wish to be converted into ANZ ordinary shares at a discount, or to test the ultimate behaviour of the bank and the regulators when they reach the date of compulsory conversion.

I doubt the bank wishes to issue discounted shares, but let’s wait and see; the outcome will be informative to all.

This behaviour in the Australian market, and the behaviour currently by the Reserve Bank of NZ, confirms the modest risk status of the current Tier 1 securities in NZ.

We don’t expect NZ retail investors to be offered any new subordinated bank securities until the RBNZ has completed its current review of acceptable capital.

Portugal – If excessive debt levels are to spark the next ‘crisis’ for financial markets then we’ll need to move on from certain old assumptions that the dominoes may begin their journey from Portugal, Ireland, Italy or Greece (remember the one-time poultry farm? PIIG’s).

Consistent with my comments above it seems unlikely that excessive debt in the government space will cause a problem for markets.

Greece has been assisted away from the edge of the cliff. Ireland received support but was quicker to help itself back toward prosperity. The ECB broke all its own banking principles and helped the Italian banking sector.

Now Portugal has received a second credit rating upgrade, with another possible from the third credit rating agency, so its long-term bond yield (price of debt) has fallen to 2.37% (lower than NZ).

For perspective, Portugal’s 10-year government bonds traded at 16.40% in late 2011, which declined to 4.00% by 2014 and 2.75% by 2015. The interest rate may now fall below 2.00% if they get the third credit rating upgrade and re-enter important bond indices followed by global bond fund managers.

I think we can take default of government bonds off the potential global worries list and focus on corporate debt where excess exists.

Ever The Optimist – Seeing Rob Fyfe appointed as a director on the board of Air Canada is wonderful news form a NZ perspective, as it is from a personal achievement perspective for him.

His experience in the sector is of the highest standard; CEO of Air NZ, Chair of Star Alliance and a board member of the International Air Transport Association.

Now seeing another international airline seek him out to join their board should confirm for all New Zealanders the merit of setting high standards and that there is the opportunity for success beyond NZ borders.

I was lucky enough to see Rob Fyfe’s work first hand at a couple of Air NZ events and would happily recommend that aspiring executives learn more about his approach to business.

ETO II – Synlait’s performance continues to be admirable with sharply rising profits and delivering upon its strategy (and more) since the company was founded in 2000 and listed on the NZX four years ago.

It is safe to assume that the company’s shareholders are happy with the company’s efforts and successes.

Success stories such as Synlait’s, and A2 Milk’s, are doubly valuable to NZ given their export focus.

ETO III – Within the same sector, milk, it is also nice to again see the price of milk rising in recent auctions because each repeated month of good, or better, milk pricing reinforces a farmer’s confidence in the ultimate price he/she will receive for the year.

As a farmer’s confidence rises so too does their spending across the regions, which ultimately reaches other beneficiaries of their success (employment).

Investment Opportunities

Precinct – the recently closed offer of convertible notes begins trading on the NZX soon (28 September).

If you wish to invest in these securities but missed the new offer please contact us, we’ll be happy to help you purchase this investment from the secondary market.

Property For Industry – announced an intention to ‘consider an offer’ of bonds to the public.

Details are yet to be announced but many of you will guess accurately that it is likely to be a longer term (5-8 years) and this will result in a yield well above 4.00%.

We have started a list and all investors are welcome to join it if they wish to hear more from us once the offer is made.

Vodafone – has also announced its intention to list Vodafone NZ on the NZX.

Regular readers may recall that there were hints about this potential listing a couple of years ago, prior to the merger discussions between Vodafone and Sky TV.

Vodafone is a meaningful scale business to list on the NZX and a direct competitor to Spark so it will attract a lot of attention from investors large and small.

The NZX will be pleased to see such a large, new, listing after a very quiet spell for Initial Public Offers of shares.

We have a mail list for investors wishing to hear more about this proposed offer.

The fastest way to hear about new issues is to join our ‘All New Issues’ email group, which can be done via our website or by emailing a request to us to be added to this list.

Travel

Kevin will be in Invercargill on 19 October.

Chris will be in Christchurch on September 26 and 27 and in Auckland on October 16 and 17, then back in Christchurch on October 23 and 24.

David will be in Palmerston North and Wanganui on 10 October and New Plymouth on 11 October.

Anyone wanting to make an appointment should contact us.

If you wish to be alerted about the next time we visit your region please drop us an email and we will retain it and get back to you once dates are booked.

Michael Warrington

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Market News 18 September 2017

 

Boy, we humans like to jump to conclusions.

It may be anxiety related as ‘we’ try to confront and resolve the unknown, or it might be as we try to gain an information or financial advantage from offering predictions about the future.

Financial markets perpetually try to do the second of these.

Cyclone Irma was a very serious, and damaging, weather event. Before it had arrived, commentators were estimating repair costs!

I have read predictions of US$200 billion, and now US49 billion, yet the more important task of actually checking the facts and pursing the recovery has barely begun.

Here in NZ investors are beginning to ask us for advice about changing portfolios prior to the General Election on 23 September fuelled by JacindaMania and JacindaDoubt. (and JacindaTax – Ed)

Our advice is to sit still.

Make your decisions based on facts and highly probable forecasts, not mysteries and moving targets.

I repeat one of my previous comments to readers that the NZ government is a moderate policy maker, whether led by the Blue Team or the Red Team.

If you leap into portfolio change mode you may well spend more in transaction fees than you would lose in tax.

First, let’s vote, and let’s encourage our children and grandchildren to exercise their right to vote too.

After that, let’s talk.

Investment Opinion

Tax – I know I shouldn’t go here (politics) but I was prompted to do so by a good article on tax by Shamubeel Eaqub (www.stuff.co.nz).

A couple of messages for readers are that one only pays taxes when they are winning (moving forward financially) and that NZ has already completed a recent Tax Working Group review of NZ’s framework, which we should continue to refer back to (from 2010). We don’t need recurring reviews over short time frames.

https://www.victoria.ac.nz/sacl/centres-and-institutes/cagtr/pdf/tax-report-website.pdf

To be effective a tax system must be broad and fair. On this point the TWG found that:

Base-broadening is required to address some of the existing biases in the tax system and to improve its efficiency and sustainability.

With respect to the current heated debate (Capital Gains Tax and Land Taxes – I’ll avoid water!) they said:

Capital Gains Tax

Most members of the TWG have significant concerns over the practical

challenges arising from a comprehensive CGT and the potential distortions and other efficiency implications that may arise from a partial CGT.

Land Tax

Most members of the TWG support the introduction of a low-rate land tax as a means of funding other tax rate reductions.

They noted the investment distortions that are present with investment in residential property.

Again, as above, I’ll limit my conclusion to; do not make any investment decisions based on the many theories being thrown around prior to the election. Let’s deal with facts once they emerge.

Landcorp – The National Party has explained that if re-elected it will consider instructing Landcorp to invite young farmers to buy farms from them, including lease-to-buy arrangements.

In principle I do not mind the government considering the sale of such a non-strategic asset but in my opinion Nathan Guy (Minister for Primary Industries) has made a significant error by defining the potential buyers as ‘100 young farming families’.

Appointing myself the Minister for Primary Industries for a day, I would have done the following:

An Initial Public Offer of shares in Landcorp on the NZX;

Have the government retain shares roughly equivalent to the value of the farms that may yet be required for treaty settlement obligations;

Begin to offer farm management contracts to ‘100 young farmers’ that the ‘previous Minister’ claims exist;

Use Landcorp ordinary shares to pay outperformance bonuses to those farm managers;

Reduce the scale of Landcorp’s head office.

It has always been very difficult for smaller NZ investors, and liquidity demanding Kiwisaver funds, to gain an exposure to NZ primary industries, especially the land based production aspect of red meat and dairy farming. Listing Landcorp would solve this diversity problem and add a much-needed NZX listed link to the largest sector of the NZ economy.

As I understand it farming families find it difficult to convince the younger generation to takeover the family farm, so I question the previous Minister’s claim that he has a list of 100 such people ready and waiting to buy farms from Landcorp.

If Landcorp was listed on the NZX the liquidity for changing ownership of ‘the farm’ would be ever-present and efficient. Increasing or decreasing investment could occur incrementally rather than in a single large transaction within a single season.

Listing Landcorp on the NZX should attract huge support from the Greens because it would provide the opportunity for public disclosure of environmental governance and performance matters within the sector (relative to commercial performance).

So, Nathan, if you’d like your job back as Minister for Primary Industries please review and expand your list of potential buyers of Landcorp from 100 to 100,000 people.

Fully Subscribed – Yeah right!

Sometimes you can safely assume there is an open bottle of Tui’s on the table when some people draft self-congratulatory headlines.

Everybody likes to been seen as successful and to be complimented on performance, but sometimes one needs to concede that a strategy has failed and not try to find some woolly, multi-definition, wording to pretend success has been achieved.

The latest item that caught my attention in this regard was CropLogic’s share float in Australia; a float raising AUD$8 million at 20 cents per share.

My attention was drawn to it because the leader of the offer was Powerhouse Ventures Ltd (PVL.ASX), a business that we have criticised recently.

A successful listing of CropLogic would have been a good thing for the under-fire Powerhouse entity as it would have returned money and profits to Powerhouse and restored a small shred of credibility to its venture capital business development role.

In reality after telling the market that the offer was ‘underwritten to $5m’ and ‘successfully completed with $8m raised’ the reality of the supply and demand for CropLogic shares was displayed in the 25% fall for its share price on the first day’s trading.

We don’t need any further commentary on the matter other than that provided to us by the market.

Powerhouse’s own listing (PVL.ASX) was also broadcast as a success when it listed in October 2016 but the rapid fall in its share price from AUD$1.00 to AUD$0.77 told the real story. (The share price is now $0.35).

PVL claimed the successful placement of AUD$10 million of shares, a condition of its listing, but quite clearly a large proportion of those PVL shares were held by person(s) who did not want them.

Powerhouse sent two senior executives out to see us when they were building toward their own share market listing. They smiled a lot and talked a lot. Now we can see that walking is not a skill set they have.

I’ll leave you to speculate on who might benefit from getting a listing complete regardless of the outcome for the share price once listed.

You all know what a successful new market listing looks like. The asset that you have invested in begins trading at the price paid in the Initial Public Offer (IPO) and there is a better than even chance that the price drifts a little higher as the company meets performance goals.

Heartland Bank’s shares are an example of this, as is its very recent NZX listed bond offer. Demand exceeded supply for the bond so the market price of that bond has been reinforced. HBL’s shares have been rising to reflect a business that delivers on forecasts.

Precinct’s recent offer of Convertible Notes was a success. Again demand exceeded supply and pricing will be at or above $1.00 when trading begins.

Oceania’s float in early 2017 onto the NZX was a success. Supply and demand were finely balanced in this case with the $0.79 share price set based on deep inquiry with investors (book building process).

As a result OCA began trading on the NZX at $0.79 and within a few weeks it was climbing as company performance met, or exceeded, expectation.

Three successful examples is sufficient. You know what success looks like.

If you are unsure about new investments listen to your financial adviser, listen to your instincts and let the market do the talking for you about the truth of supply and demand, not self-serving headlines from people with a vested interest.

Investment News

Opus – Patient shareholders in Opus International Consultants (OIC) have had an external party validate the value that they believed existed; WSP Global, through a NZ subsidiary, has offered a premium price to takeover the whole of the OIC business.

Whilst I suspect the likes of Brian Gaynor will be justifiably disappointed to see yet another business removed from the NZ market the advice from the independent directors to accept the offer seems logical to me.

Interestingly the last share that I ‘sold’ during a 100% takeover and delisting from the NZX (Acurity Healthcare) had the same Chairman as Opus, being Alan Isaac.

The majority shareholder of Opus, UEM Edgenta Berhad of Singapore, has negotiated a high price relative to the past two years of trading and the Opus directors have negotiated an additional 14 cents of value through agreed dividend payments.

This is one of those unusual times when small shareholders have benefitted from the interests and influence of the major shareholders actions.

The total value of the takeover offer is $1.92. The last time the OIC share price was at this level was in 2014 and to be fair to WSP the OIC share price has only been above $1.92 for approximately 15-20% of all trading during the past 10 years.

WSP claims they can reach value with OIC that the company could not reach on its own.

Accordingly, I am not surprised by the independent directors recommendation that OIC shareholders accept the offer and I encourage shareholders to read the Target Company Statement closely.

Response to the takeover offer are due by 27 November 2017.

Turners – Turners Group (TRA), the car finance and credit recovery business will have frustrated its small shareholders by announcing a placement to professional investors to raise most of the additional equity sought to expand this business ($25 million of $30 million).

The placement was made at a 10% discount to market pricing; $3.02 per new share.

I’ll try to refrain from being critical of the declining TRA share price in the weeks prior to this placement and the standard inference that somebody knew about the capital raising ahead of time and traded a few shares as a result. We get very sick of seeing this behaviour on share markets.

Actually, if you’ll indulge me digressing from TRA but remaining on topic of insider trading of shares; Equifax, a US business currently in deep trouble for loss of client data, reported that several executives sold company shares two days after learning about the data breach, but one month before that breach was report to the market.

Surely, that is a story that needs to be investigated further by the market’s regulators.

Back to Turners (TRA).

Current TRA shareholders will be invited to participate in a placement of $5 million new shares at the same price of $3.02 per new share with documentation being issued shortly.

TRA should have raised this $30 million by a proportional rights issue to its current shareholders.

Good governance and low interest rates would ensure that this capital raise would have been completed easily with plenty of time to pursue the business growth plans spelled out by the directors.

There is no excuse for not doing a rights issue to raise this capital, especially when the CEO said they paid an underwriter to support the placement. Their investment bankers can’t be very good at their jobs if a pre-arranged placement required an underwrite fee, something that implies uncertainty existed.

If the underwriter is a related party to major shareholders in the business, the sniff test fails by an even bigger margin.

TRA used a throw away line of trying to use the placement to broaden its share register. If new investors wish to invest in TRA they are welcome to do so by purchasing shares on market like everyone else.

I think TRA has been doing a good job of re-building this finance business but they have on several occasions made decisions that imply they are not concerned about retaining the respect of their investors.

Disclosure – I own a few TRA shares.

NZSIF – I am relieved to report that the NZ Social Infrastructure Fund has finally reached the point of requesting the final call for capital (16 cents per unit) to reach the point of being fully paid.

This final payment is due on or before this Thursday, so, if NZSIF investors’ have not already paid this money to Computershare I would urge them to do so now.

Investors in NZSIF have needed to be extra-ordinarily patient as they waited seven years to achieve this point of full investment.

Part of the delay related to over-promise and under-deliver of Public Private Partnerships by the NZ government and this lead NZSIF to seek other opportunities in Australia too.

I encourage all investors to look at the most recent reports on the www.nzsif.co.nz website.

It appears to me that returns will be a little lower than originally described as possible (6-7% pre tax according to the latest communication) but there is some exposure to upside for values and returns in the years ahead of us are forecast to rise (perhaps to 10% by 2022) and the asset quality is very good.

If you are an investor who has stayed the course this long it makes sense to stay in and see where the managers can take this mature, de-risked, investment portfolio.

Perhaps NZSIF could now ask Craig’s Investment Partners to list the fund on the NZX to add better liquidity to the investment.

Refreshing – In a world that has in broad terms forgotten that it is appropriate to allow businesses to fail, and for governments to default on debt obligations, it is refreshing to see China pushing for disclosure of business failures and allowing them to happen.

Market commentary talks about the previously ‘implied government support’ no longer being a realistic expectation and that this is a ‘reminder of the important need to do credit research on the risks involved’.

Imagine that; consider the risks being taken.

Investors incurring losses are of course screaming, but these losses will sharpen their focus and have them realise that they own the risk, not the tax-payer (aka Chinese Communist Party – Ed).

In the example story that I read on Bloomberg Wuyang Construction Group Co., a builder in the eastern province of Zhejiang, defaulted on two notes (bonds) totalling 1.36 billion yuan (US$209 million) last month.

‘Bondholders are now up in arms, claiming in an Aug. 23 filing posted on the Shanghai Stock Exchange’s website that the company didn’t disclose a raft of transgressions in sale documents for the bonds, which were sold in 2015’.

Failure within 24 months does indeed raise questions about disclosure and market operation, but that can be a different focus for the Chinese government and its market regulators.

For now, I applaud the Chinese stance on allowing business failure to occur and not pretend otherwise with artificial influence.

Ever The Optimist – Consumer confidence is at a three year high four weeks out from a General Election.

That seems either unusual or something to be optimistic about.

ETO II – Science was always going to be part of the solution.

Apparently there are plant types that will absorb more nitrogen from dairy farms and feature as part of the necessary improvement of water quality downstream from dairy land use.

Keep it up, you scientists, and try to convince other kids to follow this vocation.

Investment Opportunities

Heartland Bank – Thank you to all who participated in this new bond offer with Chris Lee & Partners.

HBL is pleased with the success of this public bond offer.

Precinct Properties – We also thank all who participated in this Convertible Note offer through Chris Lee & Partners and would like all application forms to be on their way to us also.

Property For Industry – is the latest borrower to announce an intention to ‘consider an offer’ of bonds to the public.

Details are yet to be announced but many of you will guess accurately that it is likely to be a longer term (5-8 years) and this will result in a yield well above 4.00%.

We have started a list and all investors are welcome to join it if they wish to hear more from us once the offer is made.

Vodafone – has also announced its intention to list Vodafone NZ on the NZX.

Regular readers may recall that there were hints about this potential listing a couple of years ago, prior to the merger discussions between Vodafone and Sky TV.

Vodafone is a meaningful scale business to list on the NZX and a direct competitor to Spark so it will attract a lot of attention from investors large and small.

The NZX will be pleased to see such a large, new, listing after a very quiet spell for Initial Public Offers of shares.

We have a mail list for investors wishing to hear more about this proposed offer.

The fastest way to hear about new issues is to join our ‘All New Issues’ email group, which can be done via our website or by emailing a request to us to be added to this list.

Travel

Kevin will be in Christchurch on 28 September and in Invercargill on 19 October.

Chris will be in Christchurch on September 26 and 27.

Edward is in our Wellington office (Level 15, ANZ Tower, 171 Featherston St) on Tuesdays, available to meet new and existing clients who prefer to meet in Wellington.

David will be in Palmerston North and Whanganui on 10 October and in New Plymouth on 11 October.

Anyone wanting to make an appointment should contact us.

If you wish to be alerted about the next time we visit your region please drop us an email and we will retain it and get back to you once dates are booked.

Michael Warrington

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Market News 11 September 2017

I read a fun, but realistic list of simple truths from a Deutsche Asset Management  fund manager over the weekend.

Here a couple that made me smile:

‘I don’t know’ is almost always the correct answer when someone asks you what’s going to happen in the markets (I use this often).

‘Proper diversification means always having to say you’re sorry about part of your portfolio’ (This reminds me of people telling me they hated their short term and resettable bonds but loved their fixed rate long term bonds).

‘The market doesn’t care how you feel about a stock or what price you paid for it’. (this relates to my comments to clients about the irrelevance of yesterday’s purchase price on today’s thinking).

‘The best investment process is the one that fits your personality enough to allow you to see it through any market environment’.

On this last point, try your own stress test by revaluing all of your shares 25% lower than today’s prices; then see how you feel about the outcome.

Investment Opinion

DLT – Central banks of the world continue to release discussion documents on the topic of Distributed Ledger Technology (BlockChain) acknowledging its inevitable arrival in the financial settlement space.

Unsurprisingly they want to regulate its roll-out.

I’m not sure that they’ll enjoy such a position of control on the application of DLT other than over the accepted central ‘legal tender’ currency and central banks would be very wise to ensure that a country’s main accepted currency is connected to DLT settlement as soon as possible.

Other payment methods are sprouting faster than seedlings in a rain forest and these could undermine mainstream currencies if central banks don’t ensure contemporary ease of use and effectiveness for the ‘legal tender’ currency.

Central banks’ shouldn’t try to restrict external interaction (other payment methods) with the ‘legal tender’ currency upon a centrally regulated DLT framework. For the sake of economic efficiency all financial settlement activities must be able to interact seamlessly.

Usefully the Bank of England has concluded that they are not yet ready to switch settlement systems toward DLT but will try to arrange for DLT systems to interact with the current Real Time Gross Settlements systems used by the bank(s).

The US Federal Reserve has included reference to considering DLT systems in its current review for improving payments in the US.

The European Central Bank and the Bank of Japan have also declared (via Project Stella) that while DLT offers encouraging evidence for the future of the technology they are not yet prepared to switch to its use; but you can tell they are thinking about it.

Interestingly the Brazilian Central Bank (Banco Central do Brasil) has, within its review of DLT, decided to identify if it could establish a local DLT settlement protocol as a back-up for any failure of its current Real Time Gross Settlement system.

This approach is clever because it will be able to test it in parallel with the current system before actually using it as the primary settlement method in future, as seems likely to me.

The regulators may have a role in determining an acceptable unique personal identity reference, such as a Social Security Number in the US, for identifying ‘who’ is related to a settlement action as it moves across integrated DLT frameworks.

Very soon I think we will see DLT applications being used across many different businesses within the global economy.

The ‘what’, ‘when’ and ‘where’ will be easy to add into the transaction but to be successful the framework will require a permanent and reliable anchor to the ‘who’.

Imagine if you wished to buy a new BMW motorcar and the dealer uses DLT as a payment (and data capture) technology and they are indifferent as to whether the amount that you owe them is made up of NZ dollars from a NZ banking environment, plus a few accumulated Air NZ airpoints and a handful of Bitcoin.

BMW Still needs to know ‘who’ is making the payment, as do tax authorities and perhaps money laundering monitors. The rest of the pricing across various payment sources can be instantly calculated.

If ‘we’ establish a workable protocol for cross settlement amongst different asset pools (cash, airpoints, bitcoin, gold bars in store, AirBNB credits), each using DLT, then the ultimate in efficiency can be achieved across the economy.

If we can achieve the same basis for validating the ‘who’ as India are pursuing then you may only need your finger-print or eye scan to buy that BMW!

For those of you itching to write a cheque and make an investment, sorry, but I see no opportunity to invest for profit in this space yet. All I can see is dramatic change coming our way, and fast.

The change to DLT processes could be as significant as being told you will no longer need to use the asphalt highway to get home, this hover car designed by the Jetsons will get you there.

As an investor I suspect we will be looking out for entities not to invest in because they are not embracing the new settlement environment rather than those who might make super-profits from the introduction of DLT.

For now I think you should be willing to read articles on the subject released from central banks of the world to keep in touch with the development of this important technology.

Broadcasting – Locally, Sky TV is the market’s current kicking dog (metaphor).

Losing customers and declining revenues is the current reality for this business as it addresses its role in the world of subscriber video content. However, I think investors, analysts, commentators and consumers are jumping too far too fast in some of their conclusions.

‘Amazon and Facebook will crush Sky TV’.

Will they?

Will they send Jeremy Clarkson down with a camera to record, produce and cover domestic sport?

Or if these technology-leveraged businesses seriously have an interest in New Zealand’s 5 million person widely dispersed ‘city’ will they simply buy Sky TV and re-name it?

According to the headlines Facebook boldly bid $840 million for the rights to the Indian Premier League. The only problem was that an experienced old school business (Rupert Murdoch) bid $2.6 billion.

Murdoch is also trying to buy back more of the Sky TV shares in the UK that he doesn’t already own but the UK regulators are concerned about control.

Excessive control or excessive competition; they can’t both be right.

There was a time not so long ago (3 years) when some analysts pondered whether or not Sky TV would have the Commerce Commission breathing down their neck based on monopoly strength of position. These analysts may feel vindicated in that opinion based on ComCom rejecting Sky TV’s proposed hook-up with Vodafone.

The playing field has changed for Sky TV and it has changed fast. This discloses to me the error of ComCom’s thinking when they rejected the Vodafone proposal; ComCom is looking backward and must now be feeling a knock to the back of the head with the reality of the evolution that is occurring with video content delivery.

Just like the Distributed Ledger Technology (DLT) paragraph above, technology is indeed driving tidal change across the planet and it is doing so faster than most recognise.

I don’t see the technology development for video distribution as an imminent death knell for Sky TV but it would be naïve to not think the temperature in the kitchen (Sky TV) boardroom hadn’t become uncomfortably hot.

Sky TV still has a good product to deliver to a willing audience (albeit a smaller audience), 

One thing is certain, the senior executives of Sky TV now need to work harder than at any time other than during the negative cash flow set up days for this business. They have a lot to prove if they wish to remain on the video playing field.

Disclosure: I still own a few SKT shares. 

I don’t expect Jeremy Clarkson to come down to NZ and laugh at me for my investment.

I reconcile the investment with Mrs Warrington by explaining ‘it’s (now) only a small investment in the portfolio, darling’.

Investors must get their own advice about SKT shares where the options are – be out, or be in, but in all cases I suspect heat reflective gloves are to be recommended.

Investment News

Low Rates – Maybe I am pre-disposed to reading stories that remind me of the likelihood that interest rates will remain low but I never need to wait for long before the next story appears.

Last week there were two, both from influential sources.

The governor of the Reserve Bank of Australia, Philip Lowe, said that low interest rates are here to stay and that even once the central bank feels an increase is warranted it is unlikely that interest rates would lift more than 2.00% from current levels (i.e. up to 3.50%).

The governor had been concerned about excessive debt use but there are signs that this situation is changing too, for the better. Banking regulator APRA placed pressure on banks to reduce interest only lending to a limit of 30% of all lending and this has resulted in the gross amount of interest only loans falling for the first time in eight years.

Half a world away, but exposed to the same economic circumstances of modest growth pressures and benign inflation the US Federal Reserve is beginning to debate whether they should be slowing down with their preference for increasing interest rates and reducing the volume of bonds on the central bank’s balance sheet (reverse the money printing).

Yes, the US Fed had been trying to lead the way, away from the world of zero percent interest rates but the slow pace they adopted is perhaps not slow enough and they may shortly announce a tempering of the push higher.

Indeed, in a speech Tuesday, Fed Governor Lael Brainard (whose views are aligned with Chair Janet Yellen) said ‘the long-standing assessment at the central bank that persistently low inflation is the result of transitory factors that eventually will pass does not add up considering current circumstances’.

As a result, she said, policymakers should reconsider the current path they expect for future rate hikes.

She went on to say ‘I am concerned that the recent low readings for inflation may be driven by depressed underlying inflation, which would imply a more persistent shortfall in inflation from our objective’. 

‘In that case, it would be prudent to raise the federal funds rate more gradually.’

The US Fed is running the white flag up the pole.

I hope they manage to quietly reduce their balance sheet, as planned, by investing in less new bonds than those maturing for repayment in their portfolio. Until private savings alone can support private and government borrowing levels without artificial support from ‘printed money’ from the central bank the world is not going to escape the current economic imbalance.

That imbalance involves excess liquidity, which sustains the under-pricing of credit (i.e. low interest rates).

ETF – We’ve commented a few times recently about Exchange Traded Funds (ETF) so this little piece of news appealed to me.

Who was the Fund Source ‘NZ Equity Sector’ fund manager of the year last year?

It was NZX Smart Shares Mid Cap Exchange Traded Fund (MDZ).

I didn’t dive into the measurement drivers, and many active managers received awards too, but an ETF winning a fund manager of the year award was a surprise for me (a fan of some ETF use).

Good Form – Regardless of low interest rates it is good to see a business using a lift in revenues during a good year to repay elevated debts from more difficult years. 

In this case the story relates to BHP in Australia:

The mining giant said it had raised the offer cap to $US2.94 billion, from $US2.5 billion earlier, following strong participation in the Euro tender offers.

The buyback is part of the company's plan to cut debt after a turnaround in commodities prices helped it sharply boost cashflows in the 2016/17 financial year.

Tourism – I think NZ needs to reinvent some aspects of its tourism attractions if we wish to keep attracting large crowds and compete for travellers discretionary spending.

No sooner did Myanmar and now Iran re-open their borders for travellers than they enjoyed a surge in tourist arrivals.

According to a CNN report six million people visited Iran last year. 

This is almost double the total visitors to NZ last year and we are a beautiful country with a benign political environment without wars and drug lords on our borders.

Tourism competes with Dairy as our largest export so ‘we’ need to approach it with a strategy of ‘how can we do it better next year’ if we are to keep the revenues rolling.

Ever The Optimist – I am sure that you all have a view about the preferred outcome from the NZ General Election, but, regardless of the outcome I see competent governance and little reason to be concerned about your investments.

Investment Opportunities

The pending injection of cash back into investor hands, especially from Rabobank’s $900 million repayment is awakening many capital users.

Heartland Bank – Thank you to all who participated in this new bond offer with us. All application forms should now be in with us or on their way.

Recall that with the departure by NZ Post from sensible service levels we strongly encourage investors to scan and email completed application forms to us even if they need to visit the likes of Warehouse Stationary (or similar) to assist with the scan/email process.

Precinct Properties – We also thank all who participated in this Convertible Note offer through Chris Lee & Partners and would like all application forms to be on their way to us also.

Property For Industry – is the latest borrower to announce an intention to ‘consider an offer’ of bonds to the public.

Details are yet to be announced but many of you will guess accurately that it is likely to be a longer term (5-8 years) and this will result in a yield well above 4.00%.

We have started a list and all investors are welcome to join it if they wish to hear more from us once the offer is made. 

Vodafone – has also announced its intention to list Vodafone NZ on the NZX.

Regular readers may recall that there were hints about this potential listing a couple of years ago, prior to the merger discussions between Vodafone and Sky TV.

Vodafone is a meaningful scale business to list on the NZX and a direct competitor to Spark so it will attract a lot of attention from investors large and small.

The NZX will be pleased to see such a large, new, listing after a very quiet spell for Initial Public Offers of shares.

We have a mail list for investors wishing to hear more about this proposed offer.

The fastest way to hear about new issues is to join our ‘All New Issues’ email group, which can be done via our website or by emailing a request to us to be added to this list.

Travel

Kevin will be in Christchurch on 28 September and in Invercargill on 19 October.

Chris will be in Christchurch on September 26 and 27.

Edward is in our Wellington office (Level 15, ANZ Tower, 171 Featherston St) on Tuesdays, available to meet new and existing clients who prefer to meet in Wellington.

David will be in Palmerston North and Wanganui on 10 October and in New Plymouth on 11 Otober.

Anyone wanting to make an appointment should contact us.

If you wish to be alerted about the next time we visit your region please drop us an email and we will retain it and get back to you once dates are booked.

Michael Warrington

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Market News 4 September 2017

 

I have enjoyed my recent research projects with the latest being a trip in South West USA (riding motorbikes through Utah and Colorado).

NZ definitely does not have a lock on awesome scenery so it's important that we continue to make tourists welcome in our country, and willing to spend.

The pressures being expressed by New Zealand’s focal locations are understood but it is a quality problem to have and is much better than the alternative. Treat tourism like the business that it is and serve it well, at a profit.

Judging by what we saw tourism must be up in the Utah and Colorado also. Food and accommodation providers were busy and almost every retail outlet that we saw had a sign in the window looking for additional staff. One of the signs was less than a metre from the only beggar that we saw sitting on the pavement!

The employment rewards were unlikely to be lucrative but there are plenty of opportunities to work, if you want to.

All the American Airlines anecdotally appear to be doing better than last time I was there, judging by the upgraded air fleet visible at all airports. They have clearly stopped cutting each other's throats and are making respectable margins again, which is probably why Warren Buffet began investing in the sector.

Speaking of Warren Buffett, conveniently he was interviewed at length one afternoon while I was watching the television. He is not all that worried about the current share market (‘a little high, but better value than bonds’) but he is concerned about the escalation of nuclear weapons in the hands of the unstable.

Nuclear battles remain a remote possibility in his view, but the probabilities have increased and the scenarios are binary given that fights with such weapons would be devastating to global populations.

Buffett had little concern to express about politics. He observed that he had lived through 14 different presidents and still viewed the US as having the greatest economic potential on the planet.

We sheepishly asked a few people about politics and learned that even Trump supporters are perplexed about some aspects of his approach, and they were not typically Twitter folk, but they are comfortable with the core messages that Trump stood (on.) on?

Upon my return to NZ I learned that our pre-election polls continue to gyrate more widely than previous forecast but frankly I concluded: ‘so what, it is small news on the global playing field’.

The NZ election result, once known will barely rate a mention on the major global media channels.

Investment Opinion

Crypto Currencies – If you’re like me it probably does your head in to think about crypto currencies and the role they seem likely to play in our future. However, it is becoming apparent that ‘we’ should keep an eye on them because their presence is expanding.

We should probably not describe them as ‘crypto’ currencies though because using secrecy as the brand runs counter to marketing expertise and invites suspicion from authorities.

Let’s call them ‘Alt Coins’ as some do, where ‘Alt’ is sourced to the term Alternate.

Maybe our regulators, once they reach the point of acceptance that this settlement medium has claimed a position in the global economy,  will help us define which of these currencies can be called ‘Alt’ (willing to abide by open disclosure) and which should be described as ‘Crypto’ (secretive and greater risk).

Bitcoin is a brand that you have seen us talk about a few times, although it is the technology design behind it (BlockChain) that is the most impressive aspect, but if media articles are to be believed there may already be as many as 900 hundred crypto currencies in existence.

In my opinion Bitcoin started out as an ‘Alt’ coin but has relatively quickly slipped into the realm of being ‘Crypto’.

I learnt a few more brands whilst reading about the subject - Ethereum, Ripple, Zcash, Byteball, Augur. They are just words, invented sometimes and borrowed from history for others but given that these currencies produce nothing they will be dependent on becoming an accepted brand if they are to succeed in the economy as a medium for commerce.

When David Colman and I debated whether 900 different Alt Coins was a credible number we concluded that it didn’t really matter whether it was 90, 900 or 9000 because the space was expanding no matter what we or the regulators thought of the concept.

The creators of these Alt Coins want to make money (as in personal profits) by making this new ‘money’. A small subset of the population want to use ‘Alt Coins’ to settle obligations and are willing to extend some level of trust to them for use.

Ah, the word trust, also used on the printed versions of the mighty US dollar, today’s dominant global reserve currency, yet diminishing trust is the reason that Alt Coins are developing and gold refuses to expire as a store of value.

If Alt Coin developers can be trusted to ensure a limited supply of the coins then the users can use them without fearing value will be undermined by supply. Ideally the value of an Alt Coin would remain relatively stable in the same way that a NZ dollar moves around in small increments relative to other global currencies.

I suspect that Bitcoin’s massive leap in value will be part of its own demise as the dominant Alt Coin; trust is already lost for Bitcoin. It is clearly ‘Crypto’ and the secrecy undermines the trust that is required for widespread use.

David and I concluded though that the strange behaviour around Bitcoin is not the end for Alt Coins, we have only just reached chapter II in the start on a long story.

The best scenario that we could reach was that ‘Alt’ coins will need to list on an exchange so that price disclosure is simple, which in turn would support efficient transactions between ‘Alt’ coins and help to stabilise pricing for each of them. It would be a bit like the current foreign exchange markets of today.

The irony for ‘Alt’ coins is that their future may be assured if their pricing could be linked by on market trading with other currencies and stores of value such as the USD, NZD, gold etc.

The bastions of financial stability, the central banks, could indeed launch their own ‘Alt’ coins centred on their own economies and maybe linked to the value of the current currency because the combination of ‘real’ money and ‘Alt’ coins would add breadth to the global market of payments and such breadth ought to reduce the risk of single product shocks.

Trading banks could try to cement their futures in an ‘Alt’ coin world by providing trusted ‘Alt coin purses’ and agree to capture their management under the central bank’s regulations to ensure financial stability remained.

I may have opened a can of worms with that last thought; imagine the Anti Money Laundering nightmare that involves hundreds or thousands of different ‘Alt’ coins! CBA in Australia had trouble handling simple cash via ATM, imagine if they had to trace digital money too.

I guess BlockChain (Distributed Ledger) technology will help clear up the track and trace obligations rather nicely and given CBA’s troubles with real money it might accelerate central banks’ moves toward use of ‘Alt’ coins.

I think I may have wandered all over the park with these comments, so let me tidy it up in summary:

The market of alternative money (‘Alt’ coins or ‘crypto’ currencies) is expanding and this won’t stop;

Financial markets will be happy to use them if they can profit from them, so it seems likely that credible exchanges will be set up for trading ‘Alt’ coins. Look out for such exchanges in Chicago, New York, Hong Kong…. Wellington;

Digital money not trading on a registered exchange and thus out of sight of regulators shall be labelled ‘crypto’ currency and not be accepted widely. It will keep technologically talented police busy 24/7/52;

We need strong providers to provide a ‘purse’ to store our ‘Alt’ coins. This will probably be the domain of the banks, if they act fast enough;

We need central banks to get onboard, not shy away from ‘Alt’ coins and Distributed Ledger technology.

Try not to pretend or hope that the world of ‘Alt’ coins is going to be a temporary fad, but don’t expect to be pressured to participate and don’t view them as an investment.

Bank Bonds – The Reserve Bank of NZ is changing the landscape for subordinated bonds in NZ and your attention is sought.

You do not need to prepare to make any changes to your investment portfolios. There is nothing to be concerned about, but the changes are worth understanding.

In July, shortly after their messy public debate with Kiwibank, the RBNZ released a discussion document entitled: Capital Review Paper 2: What should qualify as bank capital?

The thrust of their concern is the complexity of current regulations for bonds that can be used as equity capital on a bank’s balance sheet.

They are concerned about regulatory arbitrage between Australia and New Zealand, which is partly to the disadvantage of small NZ banks, plus potential arbitrage between tax requirements and bank license requirements.

The current regulatory situation, which is not very long in the tooth (2013), is structured based on the rules set by the Bank of International Settlements (BIS) with its Basel III definitions.

Basically these rules allow the equity of a bank balance sheet to be made up by the following items:

Core Equity – Tier 1

 

- Ordinary shares (fully paid); and

- Retained earnings;

Equity – Additional Tier 1

 

- Preference shares, typically perpetual but with a possible repayment, potential conversion to ordinary shares, no certainty of dividend; and

- Complex subordinated bonds, typically perpetual and convertible into shares (or the economic performance of underlying shares);

Equity – Tier 2

 

- Less complex subordinated bonds, typically with a long term maturity date but can be written off under events of financial distress for a bank.

The RBNZ has put up five different options to consider, from the status quo to a much simpler combination.

The option that the RBNZ prefers looks roughly like this:

Core Equity – Tier 1

 

- Ordinary shares (fully paid); and

- Retained earnings;

Equity – Additional Tier 1

 

- Preference shares, perpetual, no certainty of dividend;

Equity – Tier 2

 

- Any type of subordinated bond.

The RBNZ would also like to remove the use of Special Purpose Vehicles from the process of issuing capital for banks (used by ASB, Kiwibank and BNZ in the past).

Within the document the RBNZ naively asserted that they also held concerns about subordinated bank bonds being mis-sold in NZ and the inference is that banks were getting away with unrealistically cheap pricing.

The central bank should have stuck to their regulatory brief because the point about mis-selling and incorrect pricing diluted what was otherwise a document of reasonable quality, albeit repetitive at times.

They made one other mistake, they tried to draw a parallel between Italian politics and NZ politics implying that our politicians couldn’t help themselves from bailing out subordinated bond investors if a bank got in financial difficulty. I beg to differ on this point too.

I don’t know who RBNZ staff get their own personal financial advice from but it clearly isn’t from us, the major NZX firms, financial advice groups or Private Bankers (ie the majority of financial advice market in NZ) because the Basel III subordinated securities came with saturation levels of financial advice, or advice not to invest.

Did some of the public invest in subordinated bank bonds without financial advice, motivated by the brand and the interest rate?

Of course they did but these people are not the concern of the central bank. Nothing in the RBNZ mandate demands that they focus on public engagement with Financial Advice.

The investment offers come with a prospectus (now known as Public Disclosure Statement because prospecting is no longer allowed!), which explains risks in detail, including warnings from the Financial Markets Authority and recommendations that one seek financial advice.

Clearly our business has a healthy bias to encourage the public to seek financial advice and the behaviour of complex items like subordinated bank bonds disclose why the public should do so.

I was about to declare that I am a fan of simplicity so most of the RBNZ proposal made good sense to me, but given our bias for advice maybe I should be arguing for even more complexity!

The RBNZ may not have noticed that they are in the midst of justifying the pricing of the current subordinated bank securities owned by retail investors.

The constant evolution of bank capital regulation has delivered a repayment and repricing frequency that has been beneficial to investors.

I could build a case to explain that the likes of ANZ and Kiwibank paid too much for their current issues of Tier 1 subordinated bonds ($500m at 7.20% and $150m at 7.25% respectively). I’d get no argument from Kiwibank on this point given the nonsense the RBNZ put them through regarding the use of their Tier 1 securities.

By the way, you cannot raise $500 million, as the ANZ did, by mis-pricing or mis-selling a public offer as the RBNZ would have you believe.

If you are curious to understand more about equity on bank balance sheets, or do not sleep well, then you can go to the RBNZ website to read the review –

http://www.rbnz.govt.nz/regulation-and-supervision/banks/consultations-and-policy-initiatives/active-policy-development/review-of-the-capital-adequacy-framework-registered-banks

However, the main point that we take for our investors is that the RBNZ has significantly increased the probability of repayment for ‘old’ Tier 1 subordinated bonds and this should increase the pricing of current securities and comfort of ownership.

If the rules changes, as seems probable, our financial advice will evolve with the new securities offered by the banks.

Investment News

My news reading was limited over the past couple of weeks, but a couple of headlines spotted stayed with me.

The Hawke’s Bay Regional Council preparing to give up on its managed irrigation plans and write off $14-15 million is disappointing; and

The ‘Forest & Bird’ Society lodging an appeal against the Environmental Protection Authority’s controversial decision to allow seabed mining off South Taranaki.

The last time I checked, whilst fishing, I couldn’t see any forests off the coast and the occasional bird sighted seem unconcerned about the sand under the sea.

Perhaps to enhance their appeal Forest & Bird have explained that they are interested in whales too. (lost focus? – Ed)

Coincidentally, one rider on our trip works in Australian mining and he has spent several seasons off the coast of Australia. He reports a noticeable increase in the volume of whales passing his rig each year.

He has not seen any forests out there.

Ever The Optimist – Young Chinese consumers are becoming more tolerant (digestion) to fresh milk. In response the volume of fresh milk exports is increasing (now 60,000 litres per month) at pricing that is between 2x and 4x the price paid in NZ.

As this market expands it should help to increase the overall average pricing of milk to the NZ dairy sector, through good and bad seasons.

Investment Opportunities

Heartland Bank – HBL’s offer of a 5-year senior bond with a minimum interest rate of 4.50% p.a. has been fully allocated.

If you have an allocation from us please ensure it is delivered promptly.

Thank you to all who participated in this offer through Chris Lee & partners.

Precinct Properties - Precinct has announced an offer of up to $150 million of four year, fixed rate, subordinated convertible notes.

A minimum interest rate of 4.80% p.a. has been announced with the offer opening on 5 September 2017.

All investors are welcome to join our mail list for this offer by contacting us.

David Colman has published some detailed comments and financial advice on the Private Client page of our website for those who seek financial advices services from us.

Offer documents can now be seen on both the front page of our websites and on the Current Investments page.

The fastest way to hear about new issues is to join our ‘All New Issues’ email group, which can be done via our website or by emailing a request to us to be added to this list.

Travel

Kevin will be in Christchurch on 28 September and in Invercargill on 19 October.

Chris will be in Tauranga on 5 September and in Christchurch on September 26 and 27.

Edward is in our Wellington office (Level 15, ANZ Tower, 171 Featherston St) on Tuesdays, available to meet new and existing clients who prefer to meet in Wellington.

Anyone wanting to make an appointment should contact us.

If you wish to be alerted about the next time we visit your region please drop us an email and we will retain it and get back to you once dates are booked.

Michael Warrington

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