KEY POINTS:
Safety-conscious investors looking for an alternative to finance company debentures might find the New Zealand Debt Market (NZDX) appealing.
Little known outside the circles of financial professionals, the market, a subsidiary of the NZX, gives investors an opportunity to get fixed interest returns from solid well-known companies.
When a company such as Telecom, Vector or BNZ needs to raise money, it issues a debt security, borrowing from investors at a fixed interest rate. The debt security is then listed on the NZDX and can be bought and sold for more or less than the "face value" of the capital invested.
The premium or discount is determined by current interest rates. If, for example, an investor buys a security with an 8 per cent return and interest rates rise, this return will no longer be as attractive, and the underlying value may fall. An investor who then buys the security for less than face value gets a higher yield than the original purchaser. The opposite may also happen.
One of the advantages of listed debt securities is that they're priced by supply and demand if bought on the NZX, as opposed to a finance company debenture, where the provider determines the interest rate.
And they can be sold on the open market at a moment's notice. The companies that list debt are also subject to the NZX's continuous disclosure rules - something of a safeguard for alert investors.
NZDX yields are on the rise. Yellow Pages, for example, says Jeff Matthews, senior financial adviser at Spicers Wealth Management, has struggled to fill an offering at 11 per cent-plus, whereas six months ago it would have sold it easily.
It's true that debt securities aren't as safe as bank deposits, but they can return more. ANZ National's last listing on the NZDX, for instance, is paying 8.25 per cent, yet the highest on-call interest rate on offer by that bank is 7.55 per cent, although the comparison isn't entirely fair as the underlying value of the listing can rise and fall.
However, that risk only applies if the investment is sold before it matures; investors who hold on for the full term know exactly what their return will be.
AA-rated investment grade securities are trading at yields of around 8-8.5 per cent says Graeme Beckett, director at broker First NZ Capital. At the lower end of investment-graded securities, 9.85 per cent was the highest on offer on Tuesday when The Business spoke to Beckett. This was from Works Infrastructure Finance (NZ), a subsidiary of Australian-listed contracting and construction group Downer EDI. The company has a Fitch Ratings BBB- investment grade rating.
Matthews says he doesn't believe that the NZDX is at the top if its cycle, but there was certainly some "bargain buying" on the market. If interest rates fall, then the underlying capital value of the investments should rise.
Any company that meets the NZX's listing requirements can float debt securities on the NZDX, but not all offerings are equally safe.
The NZX's products group manager, Geoff Brown, estimates that 30 per cent by value of securities listed on the NDZX are of "investment grade", meaning the companies behind them have a sufficiently strong rating from one of the international agencies such as Moody's, Standard & Poor's and Fitch.
Many finance companies, on the other hand, have no ratings at all or, at best, are "junk bonds", slang for sub-investment grade investments.
One difficulty for DIY investors is that although the ratings of issues are set out in securities' listing documents, they're not included on the information published on the NZX's website. Investors, says Brown, need to ask their broker for that information.
John Rowley, director of financial planning firm Macquarie Financial Services, says for an investor's peace of mind, the liquidity, the trusted names of many of the securities, and the investment-grade ratings, are good in uncertain times.
"The yield might be a tad lower, but it is not a bad starting point."
Financial planners don't get commission for buying securities on the NZDX so they have to charge clients directly for providing that advice. Yet commentators expect to see more financial planners showing interest in the market as investors shy away from riskier finance companies.
The NZDX market has nearly doubled from $4.6 billion to $9 billion invested in five years and is still growing.
"The flight to quality is on the way," says Beckett.
Direct investors pay brokerage of around 0.5-1 per cent when they buy their investment and then nothing until they sell. Securities bought at the time of float are free of brokerage charge, points out Beckett.
For more information, the book Understanding Fixed Interest Rates, published by Macquarie Financial Services, is available free from www.goodreturns.co.nz/books.
* Diana Clement is an Auckland-based personal finance and investment writer
Debt for sale
* Debt securities offer fixed returns.
* Often solidly backed.
* Can be sold at will.
* Prices set by supply and demand.
