Investment Insight -
Focus New Zealand
As winter grinds through its final month, Kiwis might have hoped for a continuation of a COVID-19-free existence. Alert level 4, daily COVID briefings, working from home and queuing at the supermarket a distant memory.
It is too soon to predict how severe the recent outbreak will be and its subsequent effect on the economy. Yet data from the first wave shows how important it is for governments to respond quickly. Those countries that did so fastest, including New Zealand, contained the disease most effectively – a lesson the Australian state of Victoria is paying for now.
In this Investment Insight, we look at the New Zealand investment regime and where to from here given the themes that played out in March and April look set to reappear.
The macro set-up
On the afternoon of 12 August, two hours after heightened alert levels came into force, the Reserve Bank of New Zealand (RBNZ) released their quarterly Monetary Policy Statement and update on monetary conditions. The RBNZ kept the Official Cash Rate at 0.25%. This was widely expected as the RBNZ had previously said they would keep the rate at 0.25% until March 2021.
In March next year the RBNZ will then consider moving to a negative cash rate. It is very unlikely that this negative rate will apply to households; instead it will apply to large institutional investors and companies. Nevertheless, retail deposit rates are likely to continue to fall with most savings accounts moving to a zero-interest rate.
Not exactly an incentive to save
This is exactly what the RBNZ wants to occur. It wants consumers and business to stop stockpiling cash and instead spend that cash to stimulate the economy. It also wants to make it easier to borrow money. The RBNZ has other monetary policy tools which include the ‘Large Scale Asset Purchase’ programme and a new ‘Funding for Lending’ programme. Their purpose is simple. The RBNZ wants lower interest rates and encourage spending and borrowing.
In New Zealand, it is estimated that the aggregate household balance sheet is around $1.9 trillion. Around $900 billion is invested in housing and land. $575 billion is invested in businesses and $225 billion in shares, managed funds and KiwiSaver. The remaining $200 billion is invested in term deposits and savings accounts1. Essentially, the RBNZ wants households to spend the $200 billion currently in term deposits and savings accounts.
Low interest rates are likely to be around for at least the next two to three years. This means term deposits and bank savings accounts are no longer an option for long-term savings. So where to turn to?
Corporate bonds
The first place many investors turn to when they move out of term deposits is corporate bonds. Compared to term deposits, the New Zealand corporate bond market is small and any increase in demand will be hard to satisfy.
Overseas, bond markets have been running hot with many companies taking advantage of the record low interest rates to borrow funds by issuing new bonds. In New Zealand, however, it has been the exact opposite with only two issues coming to the market since the March lockdown. Why the difference?
Firstly, many of the larger New Zealand companies have been financially well positioned for the challenges of COVID-19 so they have not had the need to increase their borrowing. Where there has been a need for new borrowing, this has been willingly met by the major retail banks. Thanks to the RBNZ’s asset purchasing programmes, the banks are very well funded, and they want to put this money to work.
This creates a positive backdrop for the run to the end of the year. Investor confidence is positive as they have seen most companies manage through the initial challenges of COVID-19 and report solid if not spectacular results. Interest rates are at record lows and will probably fall further.
Whilst it may seem strange to be positive when there is a health crisis in New Zealand, the landscape is one where we do expect the corporate bond market to continue to perform well over the remainder of 2020.
Shares
It will come as no surprise that we expect most New Zealand businesses to be impacted by the latest COVID-19 alert level changes. Business and consumer confidence will take a hit with sectors such as ‘brick and mortar’ retail, entertainment and tourism expected to be particularly effected.
Share markets in New Zealand have followed a dramatic V-shape recovery. A brutal sell off has given way to a lively recovery, yet a V-shaped path for the economy – a brief recession, followed by a swift recovery – seems unlikely. The scale of job losses suggests the economy is in a hole too deep to climb out of quickly.
So why has the share market increased so much? In part this reflects the RBNZ’s efforts to backstop the economy. Shares are appealing, if only by comparison. At the same time financial markets look forward, yesterday’s news is stale. What matters is the future, in particular the returns that today’s buyer of shares can expect and as we have discussed many times since March, the amount of government and central bank support means future earning look strong.
NZ Funds’ positioning
Interest rates remaining ultra-low further underscores the need to find companies that can generate sustainable income for investors. NZ Funds’ active management across our New Zealand bond and share strategies means we are well placed to generate income for our clients during the low interest rate environment.
Furthermore, as we discussed in 7 August 2020 | Performance Update, we have commenced positioning portfolios for a cyclical upswing across United States and global markets. While New Zealand may lag this upswing as the country focuses on elimination of COVID-19, we have purchased an initial holding in United States small cap companies and commodities.
It is too soon to predict how severe the recent outbreak will be and its subsequent effect on the economy. Yet data from the first wave shows how important it is for governments to respond quickly. Those countries that did so fastest, including New Zealand, contained the disease most effectively – a lesson the Australian state of Victoria is paying for now.
In this Investment Insight, we look at the New Zealand investment regime and where to from here given the themes that played out in March and April look set to reappear.
The macro set-up
On the afternoon of 12 August, two hours after heightened alert levels came into force, the Reserve Bank of New Zealand (RBNZ) released their quarterly Monetary Policy Statement and update on monetary conditions. The RBNZ kept the Official Cash Rate at 0.25%. This was widely expected as the RBNZ had previously said they would keep the rate at 0.25% until March 2021.
In March next year the RBNZ will then consider moving to a negative cash rate. It is very unlikely that this negative rate will apply to households; instead it will apply to large institutional investors and companies. Nevertheless, retail deposit rates are likely to continue to fall with most savings accounts moving to a zero-interest rate.
Not exactly an incentive to save
This is exactly what the RBNZ wants to occur. It wants consumers and business to stop stockpiling cash and instead spend that cash to stimulate the economy. It also wants to make it easier to borrow money. The RBNZ has other monetary policy tools which include the ‘Large Scale Asset Purchase’ programme and a new ‘Funding for Lending’ programme. Their purpose is simple. The RBNZ wants lower interest rates and encourage spending and borrowing.
In New Zealand, it is estimated that the aggregate household balance sheet is around $1.9 trillion. Around $900 billion is invested in housing and land. $575 billion is invested in businesses and $225 billion in shares, managed funds and KiwiSaver. The remaining $200 billion is invested in term deposits and savings accounts1. Essentially, the RBNZ wants households to spend the $200 billion currently in term deposits and savings accounts.
Low interest rates are likely to be around for at least the next two to three years. This means term deposits and bank savings accounts are no longer an option for long-term savings. So where to turn to?
Corporate bonds
The first place many investors turn to when they move out of term deposits is corporate bonds. Compared to term deposits, the New Zealand corporate bond market is small and any increase in demand will be hard to satisfy.
Overseas, bond markets have been running hot with many companies taking advantage of the record low interest rates to borrow funds by issuing new bonds. In New Zealand, however, it has been the exact opposite with only two issues coming to the market since the March lockdown. Why the difference?
Firstly, many of the larger New Zealand companies have been financially well positioned for the challenges of COVID-19 so they have not had the need to increase their borrowing. Where there has been a need for new borrowing, this has been willingly met by the major retail banks. Thanks to the RBNZ’s asset purchasing programmes, the banks are very well funded, and they want to put this money to work.
This creates a positive backdrop for the run to the end of the year. Investor confidence is positive as they have seen most companies manage through the initial challenges of COVID-19 and report solid if not spectacular results. Interest rates are at record lows and will probably fall further.
Whilst it may seem strange to be positive when there is a health crisis in New Zealand, the landscape is one where we do expect the corporate bond market to continue to perform well over the remainder of 2020.
Shares
It will come as no surprise that we expect most New Zealand businesses to be impacted by the latest COVID-19 alert level changes. Business and consumer confidence will take a hit with sectors such as ‘brick and mortar’ retail, entertainment and tourism expected to be particularly effected.
Share markets in New Zealand have followed a dramatic V-shape recovery. A brutal sell off has given way to a lively recovery, yet a V-shaped path for the economy – a brief recession, followed by a swift recovery – seems unlikely. The scale of job losses suggests the economy is in a hole too deep to climb out of quickly.
So why has the share market increased so much? In part this reflects the RBNZ’s efforts to backstop the economy. Shares are appealing, if only by comparison. At the same time financial markets look forward, yesterday’s news is stale. What matters is the future, in particular the returns that today’s buyer of shares can expect and as we have discussed many times since March, the amount of government and central bank support means future earning look strong.
NZ Funds’ positioning
Interest rates remaining ultra-low further underscores the need to find companies that can generate sustainable income for investors. NZ Funds’ active management across our New Zealand bond and share strategies means we are well placed to generate income for our clients during the low interest rate environment.
Furthermore, as we discussed in 7 August 2020 | Performance Update, we have commenced positioning portfolios for a cyclical upswing across United States and global markets. While New Zealand may lag this upswing as the country focuses on elimination of COVID-19, we have purchased an initial holding in United States small cap companies and commodities.
Source: Term deposit rate ANZ webpage 14 August, Wellington Airport NZ Funds, Official cash rate RBNZ.
Bloomberg: Spark dividend is the net dividend. Please note this is illustrative only and not an investment recommendation..
For more information please contact NZ Funds.
This document has been provided for information purposes only. The content of this document is not intended as a substitute for specific professional advice on investments, financial planning or any other matter.
While the information provided in this document is stated accurately to the best of our knowledge and belief, New Zealand Funds Management Limited, its directors, employees and related parties accept no liability or responsibility for any loss, damage, claim or expense suffered or incurred by any party as a result of reliance on the information provided and opinions expressed except as required by law.
For more information please contact NZ Funds.
This document has been provided for information purposes only. The content of this document is not intended as a substitute for specific professional advice on investments, financial planning or any other matter.
While the information provided in this document is stated accurately to the best of our knowledge and belief, New Zealand Funds Management Limited, its directors, employees and related parties accept no liability or responsibility for any loss, damage, claim or expense suffered or incurred by any party as a result of reliance on the information provided and opinions expressed except as required by law.
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James Grigor is Chief Investment Officer for New Zealand Funds Management Limited (NZ Funds) and a member of the NZ Funds KiwiSaver Scheme. James' comments are of a general nature, and he is not responsible for any loss that any reader may suffer from following it.
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