Newsletter May 2011

May 2, 2011

Contact Energy

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 13th to June 1st, and the rights will trade between May 5th and May 26th. 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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