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More bank offers coming

Investors can expect to see more banks offer subordinated unsecured debt securities this year, one adviser says, despite a Financial Markets Authority warning that they’re a complex instrument that might not be suitable for many investors.

Friday, March 28th 2014, 6:01AM 11 Comments

by Susan Edmunds

ASB this week announced it would offer a rate of 6.65% until the 2019 call option date on its offer of unsubordinated debt securities, to raise up to $400 million.

The offer closes on April 15 and the notes will be issued at $1 each two days later. The notes are expected to be repaid on June 15, 2024.

The FMA warned that the offer was riskier than a bank deposit and the notes carried similar risks to buying shares in ASB but without the opportunity for growth. “If ASB or CBA experiences severe financial difficulties, the ASB Notes may be exchanged for ordinary shares of CBA or written off.”

It recommended people seek the advice of an independent financial adviser before deciding whether or not to invest. 

But the offer seems to have appealed to a large number of investors.

Adviser Chris Lee said the notes had been extremely popular and he expected issues from all the main banks this year, as they looked to bolster their capital.

New Zealanders had strong faith in the banks, he said.  Investors had little concern about the circumstances the FMA had outlined coming true. 

He said many retail investors saw it as a bank product but at a better rate. “The banks have come through the last five years well and make pots of money.”

For a retired investor who until recently would have been lucky to have found anything paying as much as 5%, this sort of product would make a big difference to their income, he said. The S&P rating of BBB+ was quite high for a subordinated instrument and he expected it would raise the full $400 million.

“The corporate briefing attracted a packed audience of brokers and bankers, with many bank executives attending the function to learn what financial markets will require of these new issues and what approach ASB is taking. We expect that in 2014 there will be several such issues, effectively offering investors a choice for higher returns than previously was available regularly only from finance companies.”

The offer was oversubscribed and Lee said his firm only received about two-thirds of what it applied for, for its clients.  

The ASB offer is tier two capital – Lee said he expected a tier one product could be offered by some banks that could pay another 100 basis points more again.

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Comments from our readers

On 28 March 2014 at 8:51 am Brent Sheather said:
Very good advice from the FMA … maybe this indicates a change of strategy from the regulator…..more focused advice rather than “airy fairy” determinations that advisors must do the right thing by clients. Incidentally this is exactly what we told our clients …. be afraid, be very afraid. Another indication that this is not a good product is the fact that many of the advisors who recommended finance company debentures seem to like these things! Why on earth buy junk debt with minimal upside when you can buy the equity.

Brent Sheather
On 28 March 2014 at 11:51 am Murray Weatherston said:
I don't like these new Basel III instruments either.

The new Tier 1 and Tier 2 instruments are much scarier than the old ones when things go wrong. In the event of problems, they will perform no better than and arguably worse than equity (from a capital perspective).

I am a tad surprised that the FMA allowed the description of what would happen in the event of a CBA non-viability event in s5 of the Investment Statement. I don't think it represents clearly what the downside to these things are.

In the event of a CBA non-viability event, the investors money would get converted to CBA shares at 20% of the CBA price at issue (i.e. now). Their example uses 74.60 AUD as the now price so the investors money would be converted to CBA shares at an AUD 14.92 price.

The document then shows as it's sole illustration what the investor's loss would be if the actual shareprice at the time was only AUD12. They show a NZD5000 deposit would be worth AUD3696 (which is around NZD4000 at 90cents exchange rate).

This suggests that the downside risk is reasonably limited, if I can say -20% is "reasonably limited".

But I have to question what the actual CBA shareprice would be in the event of a CBA non-viability event that triggered the exchange. Can I suggest that the shareprice is much more likely to close to zero - which would mean the 308 CBA shares issued could well-nigh be worth zero. i.e. the investor stands to lose the whole of their capital.

I think the way the IS illustrates this matter could well be quite misleading to some investors.
On 31 March 2014 at 10:12 pm Murray Weatherston said:
Anyone reading this blog?
Is there any reader willing to express a view either in favour of, not in favour of, or neutral about these Basel III issues.
One sign of a healthy profession is surely that there can be intelligent debate about issues of the day without those holding divergent views falling out.
On 3 April 2014 at 8:15 am Bob said:
We've done the analysis and are buyers. CBA etc are listed and capable of raising further equity if needed. Strong banking system, strong bank - would expect parent support if needed. Several billion of these issues have been issued in Australia in the last year and a half and the market is pretty comfortable with these tier II capital issues.
BTW, a credit rating of BBB+ means they are 'investment grade', not junk. Reasons for purchasing the debt vs equity will be known by all advisers.
Agree that investors should do their homework on them though and of course only hold in a diversified portfolio.
On 3 April 2014 at 6:14 pm Brent sheather said:
That's a huge relief
On 4 April 2014 at 9:31 am alan clarke said:

so they've been around a year and a half in Ozzie - that's a good long term test, said no one ever

and CBA are strong - ahem, the ASB and all NZ banks lend very heavily to an overheated Akld property market

and even heavier to the dairy industry, who are high risk - exposed to contamination, diseases such as foot and mouth, and lots of other countries competing

Don't hold your breath waiting for an Ozzie parent company to come up with cash or guarantees if they are losing money big time

Goodness I agree with Brent - again !
On 4 April 2014 at 10:06 am Russell Hutchinson said:
@Murray Weatherston: agree with your point on intelligent debate :-)
On 5 April 2014 at 9:31 am Pragmatic said:
I'm curious at "bobs" appraisal of this investment, and where this sits in a portfolio. Reading Brent & Murrays comments (& factoring in my own belief about global banks right now) I tend to agree that these bank offerings are extremely high risk.

Still - I haven't done my own research and look forward to learning about "bobs" appraisal process in arriving at his decision.

Without pre-empting anything, I wonder if this process included external 'non aligned' research, macro factors such as new Basil III implications, and a what-if scenario
On 7 April 2014 at 12:29 pm Brent Sheather said:
Hi Pragmatic

Perhaps the best way of seeing where junk like the ASB bonds “sits in a portfolio” is to look at what professional fund managers around the world do. Unless they are a hedge fund they generally limit subordinated debt to about 5% to 10% of fixed interest portfolios, at a maximum, and spread this widely. On this basis it would be hard to argue that a weighting of more than 3% or 4% in these things was appropriate …. as part of a balanced portfolio. For an all bond portfolio a higher weighting might be appropriate.
On 7 April 2014 at 12:35 pm alan clarke said:
Perhaps the application of Fiduciary guidelines would help - among other things, don't use products until they have a 3 year track record.

The track record - price as low as 65 cents - of ASBPA's & PB's - tells a story

Yes I know its a different structure but the story is the same

I know of one investor who bought it over the counter thinking it was fixed interest

From Australia

Raymond Tatnell's financial adviser told him the investment was ''a no-brainer''. Tatnell lost money. There is rich irony in the ''no-brainer'' recommendation because MQ Gateway, which Macquarie marketed to Westpac and which Westpac in turn sold to its clients, took considerable brains to concoct - perhaps too many brains.

MQ was ludicrously complicated - did anyone really understand it ?
On 7 April 2014 at 12:54 pm AndyB said:
I think its fine to have an exposure to these securities in a diversified portfolio as "bob" has suggested however what is critical is to understand what part they play in a portfolio.

The old Basel II instruments could perhaps be construed as debt however these Basel III compliant issues are very different.

Should the financial system fall on hard times these will not perform like bonds given the 'loss absorption' terminology inherent in these instruments.

By all means put them in your diversified portfolios but you have to understand how the security will perform in times of stress.

It isn't a bond. Don't just buy them cos lots of others have.... I fail to see how that is appropriate research, nor do I see how that aligns your clients risk profile with the nature of the security.

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