Are You Sure About Your Fixed Interest Investments

Just as ratings agency Rapid Ratings has announced that it is to cease providing finance company ratings in New Zealand, we have heard of a number of investors in Australia that have lost many millions of dollars in investments that were financing Westpoint, a large Australian property developer.

At this time, it appears that the losses were confined to several mezzanine finance (junk bond) offerings that were sold to Mum and Dad investors by commission driven brokers.  This, of course, is similar to what happened with the ill fated Metropolis offer that was sold in New Zealand several years ago.  The difference is that this time, it has happened in a heavily regulated market.  It will be interesting to see the report on this once the Australian Regulatory Authority (ASIC) releases it. 

Several finance companies, including at least two based in New Zealand, have exposure to Westpoint Developments, however their security is supposedly protected by first or second mortgage arrangements.  While they acknowledge they have some exposure, they claim it is unlikely that they will suffer any significant financial loss.

The real difference between the positions of the Mum and Dad investors, and those finance companies with the mortgages, is that the finance companies have security and are likely to recover all their monies, whereas poor old Mum and Dad investors will lose their capital as well as the interest that they are owed.

From an investment advisory perspective, it is a real pity that Rapid Ratings are pulling out of the New Zealand market.  They had rated around twenty finance companies, however only five have allowed their ratings to be made public.  This meant that Rapid Ratings did not have a viable product to sell to the investment advisory industry.

While it is of some comfort to know that an investment has been researched by an independent ratings agency, it is amazing how quickly published financial information can change dramatically.  We have recently seen one finance company dramatically increase its provisioning for bad debts, yet we know that the average loan is only for around $10,000.  Small borrowers are having real troubles in meeting their hire purchase obligations.  That this has occurred at a time of very full employment is a real worry as it is inevitable that it will get a lot worse when unemployment rises. 

We have recently seen that one Bay of Plenty based finance company has been censured by the Companies Office for issuing two public prospectuses with incorrect accounting information.  They had to reduce their claimed equity (capital) by close to $4 million dollars. Interestingly, the trustee company responsible for overseeing the debenture issue has now put them on a watching brief.

The warning signs are out there.  Fixed interest offerings may appear to be good.  Unfortunately it is likely that some will be too good to be true.