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As supporters of the The Reach Foundation (Reach), Providence would like to share the recently published Hopes and Dreams Report.
Reach in partnership with social researchers Reality Check Communication Research (Reality Check), have opened a real conversation with young people in Australia to explore their hopes and dreams.
This is a critically important discussion with and about young people.Do you know what the ‘great Australian Dream’ looks like for today’s teenagers? How often do the teenagers in your life talk to you about their vision for their future – what they hope for, aspire to, both for themselves and for their peers?
It is important for young people to dream big, to aspire, to envisage the kind of future they want and genuinely to feel able to chase that dream. And it’s equally important for the rest of their community to support and encourage them to go for it.
The Report is the result of a multi-tiered research process designed to provide a comprehensive story of the views of young people in Australia today. This process utilized various methods, including a literature review, focus groups, surveys and online discussion forums. Over 600 young Australians aged 13–18 took part in this research, providing a diversity of viewpoints that makes a meaningful contribution to the current conversation on what’s important to young Australians today.
It is a confusing global economic outlook with investor confidence waning as the credibility of global central banks is brought into question.
Click here to read the full Global Outlook & Strategy September 2015 “Confusion, Confidence and Credibility”. For more information please contact us.
A very interesting observation today compliments of Bloomberg.
Basel 3 and QE has resulted in more distortions in the global corporate bond market. We now see negative swap spreads implying that investors believe corporate bonds are less risky than US treasuries. We believe this is due to the ongoing search for yield in a low interest rate environment and the resulting mispricing of risk.
Additionally we now see negative inventory of corporate bonds as Basel 3 discourages banks to hold such assets due to additional capital requirements. One of the long term negative implications of this is that banks still access credit quality when lending to corporates but then sell the assets off balance sheet to yield hungry investors.
Sound familiar? Think Collateralized Debt Obligations, Mortgage Backed Securities and the GFC.
We are concerned regarding the lack liquidity in the corporate bond market and the mismatch of duration between the underlying security and the promise of daily liquidity within mutual funds and exchange traded funds.
This is one of the reason why we hold a significant above benchmark weighting to cash despite the low yield. Here is a link to the Bloomberg article for reference.
The Australian Government released its response to the Financial System Inquiry this morning. On first glance some of the key outcomes are below.
Of the 44 recommendations from the inquiry, the government has agreed with all but one. The only one they disagreed with was the recommendation to prohibit limited recourse borrowing arrangements by superannuation funds citing limited data to justify significant policy intervention.
The Government has broken down the focus into five distinct stages. These are outlined below with the key changes
CONSUMER OUTCOMES – DIRECTLY AFFECTS FINANCIAL ADVICE
Overall, the majority of these outcomes will make the operating environment for the banking sector challenging from an investors perspective. For the full report, please follow this link.
James Smith Appointed Head of Melbourne Office
Melbourne, 24 September, 2015: Australian independent investment advisory firm Providence has appointed leading Victorian adviser James Smith to the dual roles of Senior Investment Adviser and Head of its new Melbourne office, in response to strong growth nationwide.
Focused on the delivery of informed and independent advice, James will be responsible for the service of the company’s Victorian clients and the continued expansion of the business in the state.
With a 122% growth of Funds Under Management (FUM) since 2012, the company is now managing approximately $1bn of funds for individuals, families and not-for-profit organisations across the country.
James joins Providence with over twenty years’ experience in the investment market, most recently as the Deputy Head of Domestic Sales and Director of Institutional Sales at CIMB Securities, where he was responsible for the delivery of research and investment ideas to Melbourne based equities fund managers. In this role James delivered consistent strong growth for the organisation and opened a new international market in New Zealand in addition to being a member of the organisation’s management committee.
Prior to that role, James was the Director of Melbourne Sales for RBS and ABN AMRO, and an Associate Director at Deutsche Bank.
Grant Patterson, Managing Director of Providence welcomed James to the team.
“At Providence, we take a boutique approach to client relationships, and the addition of such a well-regarded local adviser as James demonstrates our commitment to our Victorian clients”, he said. “James shares our belief in the separation between advice and product, while delivering the highest standard of service. We are delighted to have him apply his institutional investment banking expertise into wealth advisory, for the benefit of our clients”.
Celebrating its 15th anniversary this year, Providence has seen a 28% growth in FUM in the past 12 months. The company will continue its growth nationwide from the Sydney and Melbourne offices.
By Grant Patterson – Managing Director, Providence Independent Investment Advisory
After one of the longest bull runs without a 10% correction (45 months – the 3rd longest in history much) fundamentals and mean reversion are back in control. Whatever the excuse markets will find a way to mean revert and expunge exuberant investor behaviour.
So what are the catalysts for this correction, where are valuations and what is the outlook for investment portfolios?
The search for yield and aversion to negative real returns from cash courtesy of global central banks forced investors into higher risk assets. Emerging markets bonds , global equities and real estate were the biggest beneficiaries. Then the basic human behaviour of greed took hold with record levels of margin loans in the US and China fuelling excessive valuations.
Margin loans in the US are approximately 2.7% and has likely played a part in the 45 month bull market (see chart below). The Chinese have approximately 3.5% of the total market cap in outstanding debt, this has spurred a 136% rally in their index, however has also likely played a part in the sudden 41% correction that has recently occurred. Interestingly, the 3.5% Margin Lending to Market Capitalisation ratio is the same level that Australia peaked at prior to the GFC.
The Chinese authorities did little to stop the speculation and when the balloon burst they mistakenly tried to prop up the market. So much for their desire to allow market forces to be in control. Credibility has been lost.
And that is the big issue: Central Bank credibility.
Eight years in from the global financial crisis global growth remains weak despite the huge money printing negative real interest rates orchestrated by global central banks. There is little to show for these policies. Global debt levels remain at record levels , see chart, asset prices have been inflated above fundamentals see charts and interest rates cannot go any lower. There’s no ammunition left, besides attempting to devalue your currency.
So where are we regarding absolute valuations?
Shiller PE’s (a ratio of price to the average 10 year earnings, also known as cyclically adjusted PE or CAPE) suggest that Australian equities are approaching fair value. US equities on the other hand, still look relatively expensive despite the recent weakness.
Forwards PE’s suggest that World and US equities are also approaching fair value.
So where to now my friend?
Continuing market volatility will be a feature with wild oscillations as day traders , computer trading algorithms and headlining press articles leading the way. Value investors will be alert for opportunities in quality equities that get caught up in any sell programs or get dragged along with poorer quality companies. Short term investors will follow the usual pattern of behavioural finance and sell assets at the bottom and revert to cash as the markets correct. There will be some collateral damage although we won’t know where that is until it is.
In a low growth environment what are the appropriate valuations on an absolute basis? Our external research provider, Heuristic, demonstrates that US Shiller PE ratios have generally been lower in economic growth environments below 2% p.a and above 6% p.a. Generally, when growth is below 2% PE ratios have been less dispersed and confined between 10x and 15x.
Oh and that brings me to the oil price. The collapse in the oil price is eventually stimulatory for the global economy. Costs for manufacturing and transport will plummet.
The current environment is a reminder of how day to day movements in market are totally irrelevant to long term investment planning. We continue to urge people to look through the short term noise. At Providence we have been running 15-20% cash weightings , increased exposure to alternative funds that benefit from higher volatility and been running a short AUD exposure for international equities. This strategy has been successful in dampening volatility and protecting the capital value of investment portfolios.
The key now is having the confidence to deploy that patient capital once value emerges…..as long as we have faith in the global central banks!
Platinum Asset Management is one of our preferred fund managers having invested in the Platinum International Fund for the past 15years and recently adding the Platinum European Fund to clients’ portfolios.
Platinum has recently announced a new Listed Investment Company (LIC) that will invest in Asian (ex Japan) equities. While we are ongoing supporters of Platinum and their various funds and continue to explore the potential for Asian (ex Japan) investment opportunities, we are not recommending participation in this opportunity.
Providence has an ongoing stance against the structure of LIC’s, predominantly regarding the issue of options alongside the initial equity investment.
LIC’s issue options to appease investors regarding the issue price being above the net asset value (NAV) of the fund. Generally, the price is above the NAV given the transaction costs associated with listing an LIC; for example, listing fees and distribution fees paid to brokers.
While these options do have an inherent value, investors are forced into holding the right to buy the fund at some date in the future. In other words, a $10,000 investment in the LIC is accompanied with the right to buy an additional $10,000 worth of shares at some time in the future at the issue price. While this is marketed as a positive, our view is outlined below:
With that in mind, it is our view that the structure of LIC’s with associated options limits your investment upside but also leaves you entirely exposed to the downside.
When investing in LIC’s we recommend waiting until these products are listed and look to invest at or below the NAV once the options have been exercised or expired, or, at or below a fully diluted calculation of NAV.
We caution clients with regard to the number of new LIC investments coming to market and suggest looking at it from the investment managers perspective. The free option from the managers perspective will increase their assets under management and therefore the ongoing fees that they earn from that vehicle. While this is a positive incentive for the manager to perform, as pointed out previously investors do not get to participate entirely in this performance.
A recent article in the Australian Financial Review discusses Forza’s recent acquisition of 420 George St, Brisbane. Providence was a cornerstone investor in the equity raising to fund the acquisition.
We were attracted to the value add potential of the property given its high vacancy rate and the purchase price below the replacement cost. We believe Forza is well placed to execute on the re-leasing and turnaround of this property.
Providence has recently been advocating the need to be opportunistic and look beyond the headline yields in the property space, with true value add, a focus on potential and partnerships with the right managers likely to be the drivers of performance in the short to medium term.
We are pleased to have been able to provide this opportunity to clients.
About this Report As part of our ongoing commitment to being a trusted partner for our clients, Providence reviews a number of products each month, searching for investment opportunities that fit our clients’ individual requirements. Being an independent company, each opportunity is assessed solely on its merits regarding risk and return. True to Providence’s promise of transparency and independent analysis, each month we share the basis of our decisions with our clients in this Monthly Activity Report.
National Australia Bank offered a 2:25 retail entitlement offer to raise $5.5bn to put NAB in a strong capital position arising from regulatory change, including the Financial System Inquiry and the separation of NAB’s UK banks. The offer was for new NAB shares at $28.50, which represents a significant discount of 17.5% at the time of offer. We believe this represented a compelling discount for existing shareholders, we have participated in full on behalf of Providence clients.
BHP recently demerged a number of its businesses that it now deems non-core. These businesses included alumina, aluminium, coal, manganese, nickel, silver, lead and zinc. The demerger involved issuing 1 security in South 32 for each security held in BHP Billiton. As a result, the current holding in portfolios of both South 32 and BHP Billiton when combined, is equivalent to holding BHP Billiton pre the demerger. We believe the separation of these two businesses is positive for both companies making shareholder returns and improving efficiency their key targets. Furthermore, the assets of South 32 will no longer have to compete for capital with the major producing assets in the BHP portfolio, namely Iron Ore, Copper and Petroleum. As such, capital required to improve efficiency and/or make acquisitions is likely to be more readily available for the new entity.
We received a 1:5 retail entitlement offer from Century Australia, to raise $11.5m, which would be used for further investments consistent with their strategy of investing in undervalued Australian companies. The offer would provide existing shareholders new CYA shares at $0.846 per share, versus April-15 NTA of $1.01, over a 16% discount to NTA backing. We believe this represented a compelling discount for existing shareholders, and have participated in full.
Bank of Queensland recently offered a $150m capital note offer, through an over the counter convertible note. The product offered an indicative margin of 435 bps over 6 month BBSW, an optional exchange date of May 2020, mandatory conversion May 2022, along with the now normal capital trigger event and non viability trigger event risks. We have declined in this offer as the structure being OTC would restrict clients to large $500,000 wholesale amounts, the size of the offer being small and potentially lack of secondary market liquidity versus ASX listed issues.
Westpac recently announced their 2015 interim results which included an interim dividend of 93c per share, increasing 3% on the 2014 interim dividend. While Westpacs capital ratios remain strong, there is some regulatory uncertainty over future capital requirements. As a result, the bank has indicated its intention to lift capital levels. As part of the process, the Westpac Board has decided to apply a 1.5% discount to the market price of shares issued under a dividend reinvestment offer. We have declined on the Westpac offer given the marginal 1.5% discount, particularly after the recent NAB entitlement offer we have accepted on behalf of our clients.
ANZ recently announced their 2015 interim results which included an interim dividend of 86c per share, which is in line with their interim dividend last year. Similar to Westpac as above, with regulatory uncertainty over future capital requirements, ANZ have decided to apply a 1.5% discount to the market price of shares issued under a dividend reinvestment offer. We have declined on the ANZ offer given the marginal discount to market price, particularly after the recent NAB entitlement offer we have accepted on behalf of our clients.
Argo has appointed global asset manager Cohen & Steers as portfolio manager for a newly incorporated listed investment company which will invest in global infrastructure securities, seeking to raise $200m attached with a free 1:1 option expiring March 2017. We met with the manager and were positive on the global listed infrastructure strategy and their 12 year track record, however, we dislike the structure of LICs featuring free options which limit the potential upside and dilute shareholders once options are exercised. Our preference is to invest in LIC vehicles when they trade at a large discount to net tangible assets, over the course of the cycle.
We were invited to participate in a $225m Adelaide Bank convertible preference share offer (ASX code: BENPF) which features a margin of 4% above 180 day BBSW, optional conversion in June 2021, mandatory conversion June 2023 and the normal capital trigger event and non viability trigger event risks. We have declined the offer due to the relatively small offer size and our preference towards shorter duration and more liquid capital securities.
We participated in the Australian Industrial REIT (ANI) Initial Public Offering as we were attracted to the defensive characteristics of the portfolio, clarity surrounding future earnings and the low level of gearing. This takeover proposal will materially change the portfolio of assets that investors have exposure and reduces NTA, forecast earnings and forecast distributions while significantly increasing gearing. As such, a number of the defensive characteristics of the original portfolio will be removed and investors will be left with a poorer quality portfolio of assets. Other reasons are laid out in more detail in the Targets Statement issued by ANI which we strongly agree with. Most notable concern is the lower liquidity in takeover stock with limited takeover premium being offered to ANI unitholders for this lower liquidity.
Although attractive from an income only perspective and being comfortable with the manager, we don’t believe there is a lot of value add for this investment being close to fully leased and around market rents. We believe cap rates have compressed to expensive levels at a low point in the interest rate cycle and therefore have declined this offer.
Australia Dairy Farmers is a farm owner and operator to produce fresh milk to the processing sector of the industry. The group intends to progressively aggregate dairy farms in prime dairy producing regions of Victoria. The company recently came to market looking to raise $31m to acquire 6 dairy farms. We have declined the offer given the small issue size and our preference for more liquid placements.
International Justice Fund has been established to rapidly grow into a leading provider of litigation funding. The initial public offering was looking to raise between $37m – $47m to be used for funding litigation. We have declined the offer given the small issue size and our preference for more liquid floats.
We reviewed a direct hotel property opportunity in Cairns looking to raise $12.7m with a strategic view to purchase, refurbish and sell the asset over a 10 year investment period. We have declined on the offer as expected return of 6% pa did not offer enough compensation for the long term investment lockup, the high gearing of 50%, and low performance fee hurdles.
On review of the Federal Budget delivered last month, we believe there is no impact to client portfolios. There are no significant changes to superannuation legislation that will affect client accounts. For small companies with annual turnover up to $2 million, the company tax rate will fall by 1.5% to 28.5% from 1st July 2015. A temporary measure will allow small businesses with turnover below $2 million to get an immediate tax deduction for every asset they acquire that is valued up to $20,000 for tax purposes.
We met with fund manager Richard Quin from Bentham for an update on their Global Income Fund. The fund aims to generate a stable income return by investing in a diversified portfolio of senior secured credit securities. Bond rates globally compressed significantly last year, with most credit managers being positioned for a rising interest environment through short duration positions. We are pleased to see the fund having posted a positive cash-like return over the rolling 12 months, in a scenario which would expect negative returns. The manager remains short duration (expecting interest rates to rise) and currently prefers syndicated and collateralized loans.
EFG Asset Management is a global private banking group offering private banking and asset management services headquartered in Zurich. We have been in discussion with EFG regarding international custody arrangements and access to their funds research team which seeks out active high conviction managers (hedge funds, long short and private equity). We will continue to review this offering on behalf of clients, particularly for those seeking to invest through an offshore platform.
We met with Neil Rogan from Centuria regarding Investment Bonds as a potential complementary structure to superannuation in its current form. Investment Bonds have a maximum tax rate of 30% and are tax free after 10 years on withdrawal. They are suitable for clients that are restricted by maximum superfund contribution limits, for those with a long term investment goal, and can have multiple beneficiaries for estate planning. We are still in discussion stages regarding how it may be implemented and will be reviewing with clients if it may be a suitable investment for their portfolio.
We have recently invested in Forza George Street Fund (Brisbane), but have experienced an early set back with Macquarie Bank revising conditions to the debt facility which had terms making it unacceptable. Since May, the manager has been very busy holding weekly conference calls with a new debt provider and are working through the checklist of the new debt facility conditions. To date, they have been able to satisfy many of the core conditions and are working to get as many of the requirements complete as soon as possible. Additionally, they are currently in heads of agreement with the first prospective tenant; actively pursuing a second leasing opportunity; and have negotiated some short term leases to provide additional short term income whilst repositioning the asset for longer term leases. Providence will continue to monitor the unconditional debt position, and expect this to be completed over the next few weeks.
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Melbourne VIC 3000
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