Contact Energy has announced a rights issue that seeks to raise approximately $350 million to strengthen its balance sheet for investment in growth opportunities. I have explained how rights work in previous newsletters, but with so many people holding Contact Energy shares it might be worth revisiting the subject again. A right is a type of security that allows a shareholder to purchase extra shares in a company. Rights usually have a short time-frame, and are also usually renounceable (the holder can sell the right to someone else). The offer is always at a discounted price because of the dilutionary effect the extra shares has on the price. During the rights trading period (usually two or three weeks) the right should trade at the difference between the current share price and the price at which the new shares are being offered.

Contact’s offer is one new share for every nine you currently hold at a price of $5.05. At the time the offer was made Contact Energy’s share price was at $5.86. Simple maths tells us that if all other things remain equal the new share price (after all rights are exercised) should be approximately $5.78. Other things very rarely remain equal, and in Contact’s case the share price rose as high as $6.05 following the announcement. This is a reflection of the market viewing Contact’s proposal favourably in the long-term.

The offer will be open from May 13^th to June 1st, and the rights will trade between May 5^th and May 26^th. On the first day of rights trading Contact Energy shares were selling at $5.88, and the rights were quoted at 83 cents. The important thing for investors is to ensure they take up one of the alternatives. Either take up the new shares at the discounted price, or sell the rights to someone else. Doing nothing will mean you are losing the value of the rights assigned to you. The difference (financially) between paying for the new shares and selling the rights is negligible. Taking up the new shares will be beneficial in the long-term, provided the company performs well in the future. Call the office if you need any guidance.

Bernard Whimp

Bernard Whimp claims to have retired from making his low-ball share offers to vulnerable investors. The new Financial Markets Authority appears to have been successful in putting Whimp out of business, however I would be surprised if it’s the last we hear of him. Please don’t hesitate to phone the office if you receive any unsolicited offers to buy your shares.

Perpetual Reset Securities

I wrote last month about the various perpetual securities on the market, and produced a table showing their various characteristics. This month I have added columns to the table showing when each security has its next rate reset, and what interest rate each security would have if it was reset today.

Security Benchmark Margin Current Rate Next Rate Reset Rate if Reset Today

Infratil 1 Year Swap 1.50% 4.97% 15/11/2011 4.34%

Origin 1 Year Swap 1.50% 4.92% 15/10/2011 4.34%

Rabobank 90 Day Bill 0.76% 4.21% 08/10/2011 3.40%

Quayside 3 Year Swap 1.70% 5.42% 12/03/2014 5.57%

ANZ 5 Year Swap 2.00% 9.66% 18/04/2013 6.55%

BNZ 5 Year Swap 2.20% 9.89% 28/03/2013 6.75%

Rabobank 5 Year Swap 3.75% 8.78% 16/06/2014 8.30%

BNZ 5 Year Swap 4.09% 9.10% 30/06/2014 8.64%

Kiwi Bank 5 Year Swap 2.90% 8.15% 04/05/2015 7.45%

Genesis

The Genesis bond offer has proved popular, closing oversubscribed, with allocations to brokers being scaled back. Concerns from our clients have centred on the mechanism used to determine the return, and the very long term. The interest rate is arrived at in the same manner as the perpetual securities listed above – a benchmark rate plus a margin. The benchmark is the five year swap rate (4.63% at the rate set date) and the margin is 3.87%. In five years time the interest rate will be reset at whatever the five year swap rate is, plus the margin of 3.87%, plus a step-up margin of 0.25%. Whether the interest rate goes up or down for the following five year period will be determined by any movement in the five year swap rate, however the rate should be a fair reflection of interest rate movements over that period.

I can understand the long term being of some concern, although I think too many investors are reluctant to invest longer than five years in case they die in the interim. Your aim with investments should be to hold good quality, liquid securities, with a wide range of maturities. When you die your estate then owns good quality, liquid securities, with a wide range of maturities. Your executors then deal with the estate assets according to your will. Keeping your investments very short-term as you age simply exposes you to lower rates of return. By all means spend it all before you die, but don’t fall into the trap of assuming you can’t invest some of your funds long-term just because it might last longer than you.

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Newsletter November 2010

November 1, 2010

KiwiSaver

KiwiSaver has been operating for just over three years now, and has gained a wide level of support. In the early stages I subscribed to a company who were providing independent research on the various offerings in order to determine which schemes I was going to support. ING came out on top based on them being the largest manager of superannuation funds in New Zealand, their proven administration and communication abilities, and the options made available to investors. Gareth Morgan and Fisher Funds didn’t feature prominently in the report; however I offered their products based on my view of their past performance, and their philosophy on investing. In contrast to ING neither Gareth Morgan nor Fisher funds offered commission to advisers who placed business with them. I attended a KiwiSaver course in the early days and was amused at the number of advisers whose decision on what to offer was solely based on commission. Fisher Funds has recently changed to offering advisers a commission on business placed with them.

Comparisons between providers are inevitable, however are often worthless when taken over a short period of time. A two-year performance comparison is of little value for those invested in a growth fund with a ten to twenty year time-frame. As time passes the comparisons should become more meaningful. Some of the performance figures make interesting reading – unsurprisingly the poorer performing funds have been in growth assets such as shares and property. Fisher Funds has bucked that trend however, recording the best two-year performance for an aggressive fund at over 6.00% per annum. Gareth Morgan has underperformed over the last two years after a very good result in the first year. Most of the ING funds have come in around the average or just above average mark. ING is a clear leader in the total of assets under management, with 25% of all KiwiSaver funds under its control. Gareth Morgan manages approximately 5.50%, and Fisher Funds has approximately 2.50%.

I don’t recommend investors rush out and change providers based on two or three years’ performance data. Investing requires a long-term approach, and after three years I would still recommend the three providers I chose at the start. For those who do want to switch providers the process is very simple, and I can organise that for you.

The Code of Professional Conduct for Financial Advisers

Commerce Minister Simon Power approved the Code of Professional Conduct for Authorised Financial Advisers on September 21^st. The approval means the Commissioner for Financial Advisers can now determine when the code comes into effect. The new regulatory regime is governed by two pieces of legislation – the Financial Advisers Act and the Financial Service Providers Act. The two Acts, which will be in force by July next year, require all financial service providers – including financial advisers – to be on a public register and, if they provide retail services, to belong to an approved dispute resolution scheme.

The Code of Professional Conduct establishes eighteen standards to ensure all authorised financial advisers meet minimum standards of ethical behaviour, client care, knowledge, skills and competence, and continuing professional development. You can view the Code at http://www.financialadvisercode.govt.nz/ and I would encourage all investors to have a look at it.

Some of the code standards will alter the way we conduct our business. Advisers now have a legal obligation to ensure any financial security is suitable for the client concerned. Suitability is determined by having an in-depth understanding of the client’s financial situation, financial needs, financial goals, and tolerance for risk. Some of our business involves, for example, the offer of shares or bonds coming to the market. We advertise their availability, and clients make contact expressing their interest. In some cases the client makes the decision to invest without my input. Under Code Standard 8 I am obliged to determine the suitability of each investment based on the client’s financial circumstances. In my view determining suitability based on the client’s financial circumstances should be considered standard practice, and is a worthy goal of the new regulations. In the past I haven’t charged clients for the analysis involved in putting together an investment plan. Most of our business is transactional and that side of the business has largely subsidised the planning side of the business. As the pendulum swings with the introduction of the new laws I will be charging clients for the time involved in analysing their situation, and making recommendations.

Of course there are plenty of investors who aren’t interested in having their situation analysed, and simply want access to shares, bonds, debentures and the like. The new regulations allow for this. An investor can decline to provide the adviser with the relevant information, and in this case the adviser must take reasonable steps to ensure the client is aware that the personalised service is limited; and must specify those limitations. The client can also instruct the adviser not to determine the suitability of the investment concerned. This relief is only available if the instruction is provided in a document that is signed and dated by the client, and that includes a clear acknowledgement from the client as to the advantages of the adviser determining suitability based on the client’s financial situation.

My preference would be for clients to opt in to providing their adviser with all the information necessary to determine the suitability of the investments they are considering. This is not so I can make more money, it’s simply good practice. Those who opt out of providing the relevant information are effectively giving up their right to pursue recourse if an adviser makes poor decisions (the legislation is designed to hold advisers accountable for their actions).

Code Standard 9 requires an adviser to provide a written explanation of the basis on which a personalised service is provided, when that service is an investment planning service, or it relates to a Category 1 product. Category 1 product has a fairly wide definition, however for our purposes includes all the securities we deal in (shares, bonds, debentures, managed funds etc). If I buy or sell shares for someone I am obliged to provide a written explanation of the principal benefits and risks involved in following any financial advice as part of that service. As with Code Standard 8 the client has the ability to opt out of receiving the written explanation if they wish. An adviser must not direct or influence a client to decline the explanation, however that does not prevent the adviser from:

Drawing the client’s attention to the ability to opt out of receiving a written explanation; or
Quoting a reasonable fee for providing the explanation

Clearly investors are going to have to decide what level of service they require from their financial adviser, and whether or not they are prepared to pay for it. We will be renewing the administrative documents we have in place at present, so that clients can clearly state their expectations in relation to the service they are receiving from us. Before long we will not be able to conduct any business without such documentation. The choice will always rest with you, however higher levels of service (read that as compliance with the new regulations) will not come without a cost.

All financial advisers are required to sit an exam based on the new regulations, and most advisers will be required to undergo additional training and assessment in order to meet the requirements for registration and authorisation. Compliance is proving very time-consuming, and I will be out of the office for some time through November and December because of this. Please ring first and make an appointment if you want to see me.

Fixed Interest

The South Canterbury Finance money was paid back on October 21^st, and many will be questioning where it should go. There are a number of new bond issues in the pipeline; however I would caution investors to be sure that any new investment suits their purpose. At times I think some people simply take whatever is available when they have an investment mature. Don’t hesitate to keep the money in the bank until the right investment comes along. The factors you should consider include:

Risk – does the investment suit your risk profile?
Return – is a non-bank investment paying enough to warrant drawing your money out of the bank?
Duration – when is your fixed interest maturing? Try and stagger maturities so you are not subject to reinvesting large sums at the bottom of an interest-rate cycle.
Liquidity – how important is it that you can cash up your investment? Recognise this advantage of bonds over bank deposits and debentures.

Goodman Fielder

Goodman Fielder has announced an offer of up to $175 million of unsecured, unsubordinated fixed rate bonds, with the ability to accept oversubscriptions of $75 million.

Maturity Date – May 16^th 2016
Interest paid quarterly
Minimum investment – $5,000
Minimum interest rate – 7.25%
Closing date – November 17^th
The bonds rank equally with Goodman’s bank debt

Other bonds are due out shortly including APN News & Media. If you think you may be interested in any new offerings please call the office – the sooner we can anticipate demand the more likely it is we can satisfy that demand.

DISCLOSURE STATEMENT AVAILABLE ON REQUEST AND FREE OF CHARGE

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Newsletter July 2010

July 1, 2010

South Canterbury Finance

The news that Alan Hubbard has been placed into statutory management by the Government has come as a huge shock to the investment community. Hubbard is a rare breed in New Zealand business, a man who puts the interests of others ahead of his own. The Government was at pains to emphasise South Canterbury Finance was not part of the statutory management order, however the news will undoubtedly have an effect on the company. The Government would have been fully aware of the implications for South Canterbury Finance when they made the statutory management decision, and one can only assume the charges against Hubbard are serious, and provable. If not, the Government has made a serious error of judgement, which could end up costing them a significant sum of money. I hope for the Hubbards’ sake there is no dishonesty involved, and the only misdemeanour will be a lack of compliance with some very onerous securities regulations.

If the charges are more sinister, it could easily prove the last straw for South Canterbury Finance. Alan Hubbard, after pouring millions of dollars of his own wealth into the company, is seeking an equity partner to carry the company beyond the December 2011 withdrawal of the Government Guarantee. Any negative news makes such a task improbable; news of the Serious Fraud Office being involved could blow those chances out of the water.

The majority of our clients hold South Canterbury Finance within the Government Guarantee, and those investors need not be concerned about the security of their investment. If South Canterbury defaults the Government will step in and make interest and principal payments to you when they fall due. The bonds maturing in 2012 will be covered by the Guarantee until December 2011, and if the company defaults before then, those bonds will also be honoured by the Government. If the company trades past 2011 those bonds will have no guarantee behind them, and repayment will depend on the fortunes of the company over the following year. I can’t imagine South Canterbury would trade past December 2011 without absolute confidence of its survival. The perpetual preference shares are not covered by the Government Guarantee, and holders of those securities will be hoping the company can trade well beyond the December 2011 deadline.

The Time Value of Money

One of the first concepts taught in a finance degree is the “time value” of money. In simple terms the time value of money suggests we would rather receive a dollar today than receiving the same dollar on a date in the future. Today’s dollar is worth more than the same dollar in the future due to the fact we have the ability to earn interest on it in the interim. It’s a fairly basic concept, however it can be difficult to use in practice. For example how do you know whether receiving $750 today is better than receiving $1,000 in five years time? This is the type of question investors’ grapple with when faced with decisions such as the Dorchester Finance recapitalisation.

To answer the question of whether receiving $750 today is more favourable than receiving $1,000 in five years time is a relatively simple matter, because we know (or can estimate) all the variables.

$750 today (Present Value)
$1,000 in the future (Future Value)
Five-year term (Term)

All we need to estimate is the rate of return we might achieve in the interim. I think it would be safe to assume we could achieve 6.75% without taking undue risk. If we invest $750 today at 6.75%, and compound the interest annually, in five years we will have $1,039.68. Clearly it is better to take 75 cents in the dollar today, than wait five years to receive the lot. I use a financial calculator to solve these equations, but you can use a standard calculator if you know the formula.

Formula – Future Value = Present Value x (1 + Rate of Return) ^Term

Future Value = 750 x (1.0675) ^5

Future Value = 750 x 1.38624

Future Value = 1,039.68

* The ^ symbol indicates “to the power of.”

The Dorchester Pacific Finance decision is, of course, far more complex than this simple problem, because we don’t know the variables with any degree of certainty. Dorchester Pacific Finance debenture holders are being offered four new securities in return for their outstanding debentures; units in Dorchester Property Trust holding four hotel properties, interest-bearing (5.00%) notes with Dorchester Pacific Limited, shares in Dorchester Pacific Limited, and options to acquire further shares in Dorchester Pacific Limited.

The company claim the units in the hotels, and the shares in Dorchester Pacific will offer liquidity to those wishing to exit their investment. Liquidity is a great thing, but is of little use if the value of the underlying securities is slashed by an excess of sellers wishing to exit. Look at what happened to the Allied Farmers share price when Hanover investors were issued shares in lieu of their debentures. When the Allied Farmers shares were issued to Hanover investors, they were trading at 0.20 cents. At the time this represented approximately 0.45 cents in the dollar for the Hanover debentures. Since then the Allied Farmers share price has slowly declined to 0.04 cents, as investors who presumably have decided time is not a luxury they can rely on, have sold out.

If I was twenty years old I would probably vote for the capital reconstruction, put the units and shares away in the bottom draw, and wait for the economy to move through its inevitable cycle. If I was retired, and relying on investment income to subsidise my pension, I would retain my rights as a secured debenture holder, and vote against the plan. If you hold Dorchester debentures, and you would like to discuss your situation, please call the office.

GPG

GPG shareholders will be wondering what the company has in store for them next. There is clearly a major rift between directors Gary Weiss and Tony Gibbs, and it is a very poor look for the company. The suggestion that GPG split off its Australian holdings into a separate company met with universal disapproval, and the company has since suggested some sort of return of capital in combination with an exit from thread maker, Coats. The share price has taken a hiding as investors shy away from what appears to be a directionless company. The research we have suggests GPG is valued at far more (based on the share prices of the companies it holds) than the 0.67cents it currently trades at. Of course “value” and “price” don’t always go hand in hand. If there is enough negative sentiment around a particular asset value tends to be ignored as investors scramble to exit.

Scams

I recently had a young man in the office who appears to have been the subject of a scam. He was contacted by phone by a sharebroker in the U.S who convinced him to buy some shares trading on the U.S exchange. He paid $10,000 to the US broker, who sent a statement documenting his holding. When he wanted to cash in his shares, the broker was nowhere to be found. Wherever there is money there will be people trying to take it off you, and some of these people are extremely plausible. You need to be vigilant when you receive an unsolicited approach from somebody making offers of financial gain. If it sounds too good to be true then nine times out of ten it is.

BP has been in the news recently for all the wrong reasons. The oil spill in the Gulf is the worst in history, and it is the type of event that causes shareholders to shudder. It’s something that all share investors need to be aware of – we can’t predict the future. The worst part of an adviser’s job is the fact that we are always dealing with historic information. We can analyse a company to death and produce research and reports on what it’s achieved, but we can’t tell you what it’s going to do tomorrow. BP would have been regarded as a blue-chip stock to hold as part of an international portfolio, increasing in price from £4.00 in 2003 to £6.50 in April 2010. Since the spill the share price has dropped over fifty per cent to £3.05. Comparisons can be drawn here in New Zealand with Telecom, GPG, and South Canterbury Finance, and I think the message for investors is that you shouldn’t try and back one or two winners. Determine whether risky assets are suitable for your situation, and if so, make sure you spread your money well to ensure an overnight breaking news story doesn’t send you into cardiac arrest.

Shell

Aotea Energy, the joint venture between Infratil and the New Zealand Superannuation Fund that purchased the Shell assets in New Zealand, may be looking to raise money in a bond offer shortly. We expect the rate to be above 7.50% for a five year term. If you are interested in this opportunity please make contact with the office as soon as possible, so we can get an indication of demand.

Hockey

My youngest son will be competing in the National Under-16 hockey tournament here at Clareville, starting on July 12^th. I am hoping to get to as many games as I can, so will be away from the office at times during the week. If I am out of the office, and you need to contact me, don’t hesitate to ring me on my cellphone – 0274523980.

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Newsletter June 2010

June 1, 2010

The World Is Far From Fixed

Events in Europe over recent months highlight the depth of the financial crisis around the world. It was easy to be lulled into thinking we are getting back to normal, however the plight of Greece, Spain and others (United Kingdom?) clearly shows the problem has shifted rather than been removed. The debt hasn’t gone away – it has simply been transferred from individuals and corporations to governments. The massive sovereign bailouts in the U.S, the U.K and Europe provided financial markets with the confidence needed to keep the global monetary system operating; however there is now a realisation that the debt still has to be paid back.

The International Monetary Fund and EU rescue package amounted to US$1 trillion. What is a trillion? I had to Google it to find out, and it can be either one million million, or one million, million, million! Whatever it is, it’s an obscene amount of debt that the Greeks are going to be saddled with for generations. Some question whether a rescue package should have been put in place at all. Why not let a poorly managed company/country fail and suffer the consequences? I guess the politicians have to weigh up the social implications as well as the financial implications of letting a country go bankrupt. You only need to look at what is happening in Zimbabwe to get an idea of where Greece would head if it failed. Already the austerity package has resulted in deaths – a complete failure would result in many more.

One concern I have with the mind boggling debt figures of some countries is the dreaded “I” word – inflation. I know I rabbit on about inflation too much, but I wonder if debt-laden countries are going to be happy to let inflation take care of a good part of their problem. If I was saddled with debt I would be more than happy to see double-digit inflation reducing the real value of my debt. I don’t think it is as big a problem here in New Zealand; however it is still worth keeping in mind. Our public debt as a percentage of Gross Domestic Product is a relatively conservative 14% (but rising) compared to Greece at 120%, Japan at 190% and Zimbabwe at 300%. Public debt is different to “external” debt, which reflects the foreign currency liabilities of the public and private sector. Our external debt is very high, and is predominantly concentrated in the private sector (mainly housing).

Budget

Most of what came out of the Budget was well flagged beforehand and shouldn’t have come as too much of a surprise. The main effect on investors is in the property sector, with the Government removing the ability to claim depreciation on most permanent buildings from April 1^st next year. The listed property trusts have been directly affected and their share prices have dropped accordingly. How much of the decline is a direct result of the Budget, and how much relates to the general malaise in the market is debatable, however there is no question the property trusts have had significant declines over the last two years. The general consensus is that it could have been worse for property investors, with capital gains tax being mooted as a possibility. Some of the negatives will be offset for investors by the reduction in personal income tax rates, and the reduction in the corporate and PIE tax rates. Property is a very cyclical asset, and you can be confident prices will improve as the economy improves.

As I suggested, although I was surprised it was done so soon, the Government has cracked down on the eligibility for benefits. Trusts have been targeted, and will now be included as part of a family’s total income when determining eligibility for benefits such as student allowances and community services cards. Even though it affects me personally (my children are eligible for student allowances) I think the move is fair. Why should I be eligible for a benefit (funded by taxpayers) that someone else is not eligible for simply because I have structured my financial affairs in a certain way? I have a friend who is an assessor for the Government-funded home insulation scheme. He tells me a good portion of those applying for the subsidy own large houses on equally large farms, and many of them have a community services card. In time, will the Government include trust assets when determining the eligibility for rest-home care subsidies?

Despite the Government’s changes, trusts will remain a valid vehicle for protecting your assets for the benefit of others. Not all trusts are set up to rort the welfare system – one of the main reasons is to ensure your assets pass to the people you want them to. Since the passing of the Property Relationship Act the rules relating to marital splits are also applicable to de facto relationships. If you leave your estate through your will, whatever your children receive will be at risk of property claims by their partner in the eventuality of a relationship breakdown. Your lawyer has much more experience than me in the merits of trusts, and I would encourage anyone who is thinking about their estate planning needs to contact their lawyer.

Ron Hay

A big thank you must go to Ron Hay for taking time out of a busy schedule to come and speak to our clients. The main point I think investors should take from his presentation is “volatility.” He has been proved right with sharemarkets around the world taking a hammering over the last month. We are fortunate to have access to a firm like Baillieu’s in Australia, as they are “on site” and have direct access to the executives of the companies they are recommending. They have provided sound research over the years, and have picked some very good stocks for our clients.

I try and encourage most investors to get some of their money out of New Zealand. Our market is tiny in comparison to the main global markets, our liquidity (the ability to buy and sell easily) is lower, and we don’t have access to as many sectors (minerals, emerging markets, healthcare, IT, and banking) as other markets. My main concern, however, would be if New Zealand suffered a major catastrophic event. Think what would happen to your investment portfolio if Wellington or Auckland was levelled by an earthquake, or, heaven forbid, if foot and mouth disease entered New Zealand. You could be assured your share values would halve overnight, regardless of what companies you held. I view my overseas investments as a simple insurance policy against “NZ Inc” performing poorly.

Some of Ron Hay’s recommendations included:

Banking – Commonwealth Bank of Australia, ANZ, National Australia Bank, and Westpac
Diversified Resources – BHP and Rio Tinto
Retail – Woolworths and Wesfarmers
Building Materials – CSR, ABC and Brickworks
Energy – Woodside Petroleum, Origin, Molopo, Orica, and Worley Parsons
Education and Information Technology – Seek

Computershare – the world’s largest share register
CSL – pharmaceutical company specialisig in plasma products and vaccines

Short-Selling

Ron Hay was asked a question about short-selling, and the effects it has had on share markets around the world. The practice is illegal in New Zealand, but is common in other markets. Short-selling is a practice whereby you can sell shares you don’t own when you expect prices to fall. A short-seller would typically borrow the shares through a broker, who would be holding the shares for another investor. The investor/broker receives a fee for lending the shares to someone else. The short-seller then sells the shares in the market, waits until their price drops, and then buys them back, returning them to the broker/investor. Their profit is the difference between what they sold them for and what they had to pay to buy them back, minus the fee paid to the broker. It can have a very distortionary effect on markets. Germany has recently banned “naked” short-selling (the seller doesn’t own the shares, and doesn’t borrow them to cover their position) of certain securities.

Shares – Risk – Time

I have fielded a number of calls recently about Telecom and GPG. Anyone who has owned these shares for any length of time will be as disappointed as I am with their seemingly interminable price decline. The question I’m asked the most, unfortunately, is a questions I don’t have the answer to – are they going to recover? Too often I see share investors who shouldn’t own shares in the first place. We all accept that share investments carry risk, however risk is not only a function of the fortunes of the company – it is also a function of the time-frame of the investor. One question share investors need to ask is;

Have I got time to ride out the volatility in prices?

The next question you need to ask is:

What is the best use of my investment capital from today onwards?

Far too many people refuse to sell a poor-performing investment because they have paid more for it than it is worth today. No matter how hard it is you must take your sunk costs out of the equation. Look at your poor-performing investment and ask if there is something else that will perform better for you.

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Newsletter October 2009

October 1, 2009

Are We Through The Recession?

New Zealand is technically out of recession after GDP rose 0.1% in the June quarter. This follows five quarters of negative economic growth. Judging by our sharemarket’s performance over the last six months you might think we have turned the corner. The NZSX50 has increased by just under 30% since March, but is it sustainable? There are a number of commentators predicting a W-shaped recovery, where we give up some of the gains we have made recently before we truly emerge from the recession. The housing market is said to be going ahead again, but is it the type of recovery New Zealand needs? Hopefully the banks won’t be lulled back into the loose lending practices that saw Kiwis with some of the highest debt per capita in the world.

Last month’s newsletter had a section on sharemarket terms and the P/E ratio was one I covered. The P/E ratio is a measure of how much you are paying for each dollar of a company’s earnings. The long-run average P/E for New Zealand shares (using the NZSX50) is 13. In June, 2007 it had reached 17, and in December 2008 it was sitting just under 12. Right now it is hovering at about its long-term average of 13. So is it a good time to be buying shares? I’m in the “W-shaped” recovery camp and I wonder if the sharemarket rally has been overdone. My advice to share investors throughout the turmoil of the last eighteen months has been to buy in stages rather than try and time the market. This advice still holds even if you think the market may ease back (remember I could be wrong). If you think you can time the market, that’s fine, but history tells us very few people have successfully been able to do it. Buying in stages will average the price you pay for shares over a longer period of time and will take out some of the volatility in prices. It has a flash name in the investment literature (dollar cost averaging). I’ll just call it common sense.

The G20 summit in Pittsburgh has been nutting out ways to avoid a repeat of the recession, and leaders have reached an agreement on limiting the payment of bonuses to executives. This will go some way to restoring confidence in markets, and perhaps the Contact Energy directors should read through the G20’s statement before they set next year’s fees.

What Have We Learnt From The Financial Crisis?

My biggest hope for investors is there is a greater appreciation of the relationship between risk and return, together with an appreciation of the fundamental benefit of diversifying investments. On the adviser side I hope the new legislation weeds out some of the sales-based advisers who have put their own interests ahead of their clients’. I had a dear 95 year old lady in the office recently showing me her portfolio of investments held by a locally represented financial planning chain. The majority of her funds were invested in the planner’s house branded products – most of which are in receivership. I’m not going to criticise individual choices of investment because all advisers at some stage have chosen a lemon (for me personally it’s Feltex Carpets and Strategic Finance, and professionally it’s Strategic Finance and St Laurence). But what I struggle not to get very cynical about is the complete lack of diversification some of these large selling chains exercise. Their sole purpose seems to be to act as a funnel for funds to related parties to their business. High quality independent investments are ignored presumably because there’s nothing in it for the adviser. At the age of 95, an investment portfolio should be mainly bank deposits and government bonds.

I sincerely hope investors can see through the rort that is the managed funds industry in New Zealand. In my opinion a managed fund generally benefits the manager first and the investor second (if they are lucky). I have lost count of the number of people I have had in my office who bought units in a managed fund back in 1980-something that isn’t worth any more than they initially contributed. Of course the manager has taken 1% to 2% of the value of those funds every year for the past 25 years so has done very nicely. I looked at the ING Property Securities Fund recently for a client. Approximately 80% of the fund’s investments are in the four main property trusts listed on the New Zealand Stock Exchange (ING, Goodman, Kiwi and AMP Property Trusts). There is a 5% entry fee to buy this fund and management fees are 1.75% per annum. Why on earth would anyone buy this fund when you can simply buy the companies individually in your own name on the stock exchange? It would cost you 1.50% brokerage (not 5%) to buy them through Bramwell Brown, and once you own them you are not paying someone else 1.75% per annum simply to tell you that you still own them!

I would only recommend managed funds for those investors with small sums of money looking to achieve adequate diversification. The NZX passive “smart” funds such as smartTENZ and smartMOZZY are good for this purpose and have relatively low management fees (0.60% for smartTENZ).

Fixed Interest

After a glut of fixed interest opportunities up until June this year, we have seen no new issues come to the market since. Secondary market yields remain low and some commentators are suggesting now is a good time to exit the bond market. Many bonds are trading at premiums to their issue price, so if you were considering selling any of these bonds you will get back more than you paid for them. Take the Fonterra bond as an example. It pays a regular interest payment of 7.75% for the life of the bond. Buyers in the secondary market are happy with a yield of only 6.62%, which means they are happy to pay more for the bond than when it was issued. Refer back to the explanation of bond pricing in the May and June newsletters if you are struggling to see the mechanics of how this works.

Barramundi

The Barramundi share price has had an impressive run over the last six months from its low of 0.34cents in March to its current price of 0.75cents. It appears highly unlikely the price will reach $1.00 by October 25 however; therefore the warrants will remain worthless. Barramundi shareholders will be pleased to know the company will issue new warrants on October 23 with revised terms. The new exercise price will be 0.75cents, with an expiry date of 27 October 2011. See the June newsletter for an explanation of how warrants work. The company did consider extending the expiry date of the original warrants, or allowing warrant holders to participate in the new issue, however have decided that would not be equitable to current shareholders. So, unfortunately those investors who bought warrants as a means of getting into Barramundi at reduced prices will remain very disappointed.

Client Identification

New rules are forever evolving around how financial institutions conduct business. The global financial crisis has seen a raft of new anti money laundering laws passed in many countries, and we are obliged to abide by those new laws. Unfortunately each country (and each business within those countries) may have a slightly different interpretation of what is required. The main law we have to comply with is the Financial Transactions Reporting Act which requires us to formally identify our clients. Even if you have been a client of Bramwell Brown for twenty years, we still have to keep these records on file. The information we require is:

Full name
Date of birth
Address
IRD Number
Copy of drivers licence or passport
Bank encoded deposit slip or bank statement in the name of the account holder
Proof of address (power account/phone account)
Common shareholder number (if applicable)
Certified copy of probate for estate applicants
Title page and signatures page of trust deed for trust applicants

DISCLOSURE STATEMENT AVAILABLE ON REQUEST AND FREE OF CHARGE

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