Bill Dalton

There is no doubt that the worlds financial system is under serious threat right now.  And there is no doubt that – just as day follows night – good times will follow bad.

One thing has become very obvious over recent weeks.  The American system of unfettered, unregulated capitalism simply doesn’t work.

Take the housing market for instance.  After the 1929 crash, most states changed the rules for borrowing.  What they said was that if someone borrowed money secured over their house and they defaulted, the bank could only seize the house.  They couldn’t pursue the individual.  The assumption was that if a homeowner defaulted on his mortgage, then his credit rating would be so bad that no-one would lend to him.

Of course, in recent times the system has fallen down.  Because first line lenders were not going to hold the mortgage, they were just going to flick it on, they didn’t care who they lent to.  So these people who had simply walked away from a previous mortgage were eagerly lent to by greedy mortgage brokers.

Hence the sub-prime mortgage saga which triggered this crisis.

Bush, Bernanke and Paulson are all rushing around with clever solutions.  They are presenting themselves as the saviours – the clever guys with all the answers.

Make no mistake – this crisis has happened on their watch.  Sure its origins may go back a long way – but the Bush administration has been in charge for 8 years.  They must carry a huge burden of responsibility.

Many people believe that in some way, this crisis is caused by the Share market.  We hear commentators blaming the crisis on Wall Street and people assume that Wall Street is the stock exchange.

Stock Exchanges around the world reflect the strength of an economy and the companies in that economy.  They are an indicator of strength or weakness not the direct cause.

So where to from here?  There is no question that the totally free market capitalist system will be replaced.  Just as the Berlin Wall coming down was a momentous occasion in politics this crisis is a momentous occasion in economics.

We will see a new system evolve – one with checks and balances and one where wealth will relate to real assets not speculative profits.

At long last the American people, from the pauper to the President, have admitted there are very serious faults in their financial system.

I have long marvelled at the average American citizens ability to remain totally unaware of what was happening in the financial world. I suppose when you get out of bed – go to work – have breakfast at the roach-coach – stop off at Denny’s for your evening meal – then go home and watch the baseball channel or the car racing channel or the porno channel, it is inevitable that important events would pass you by.

Well let me assure you – everybody in America is now aware of the serious problems facing the financial system. For the first time in my experience, travelling in the USA, I saw the average American becoming aware of the big picture.

On previous trips to the States, when they found out what I did for a living, people would say “I’m not involved in the money and investment market.” I would say then, what are you doing about providing for retirement?” and they would say they had a 401K account or some other super scheme. They simply never related their retirement schemes with the financial market.

Now all Americans realise that last week, the financial system in their country was on the verge of a catastrophic collapse. The world as they knew it, was no more. Their lives were changed forever.

Share prices were crumbling, the banking system was collapsing, and the country’s wealth was disappearing before their eyes.

The government had to, at last, act and they did. Bush announced a bail-out package that will cost the American taxpayers upwards of a trillion dollars

This essential package prevented the collapse of the financial system but it will not solve all of America’s problems. Rather, it will spread today’s problems over generations to come.

The stories of greed and stupidity by executives earning millions of dollars per year are simply amazing. Some unbelievable. My only hope is that the pendulum doesn’t swing too far. That we don’t see everyone going to ground and money not changing hands. Then we really will be in trouble.

In the meantime for investors, it’s a case of sitting tight, riding out the storm, and seeking good advice from experienced professionals with a sound track record.

I am often asked the question – what has caused the meltdown in the Finance Company Sector in New Zealand – and the answer is simple. It’s greed.

It all began in the USA with the sub-prime crisis. Greedy lenders lending far too much to poor borrowers. Greedy borrowers borrowing far more than they could hope to repay. So the dramas began in the banking and mortgage sector in the States and the effects spread throughout the world.

In New Zealand we had greedy owners and directors of finance companies who raised money from the public and then lent it to developers – many of whom were related parties – in an appallingly cavalier manner.

And of course we had greedy financial planners who poured millions of dollars of client’s money into these disreputable, bound to fail finance companies. Bridgecorp didn’t have any trouble raising funds from some advisers when they were offering two and three times normal brokerage. I would have thought such ridiculous levels of brokerage would have rung alarm bells.

So greed created an environment which resulted in these poorly run finance companies failing.

The problem we now face is that the investing public has decided that all finance companies are poison and that of course is not true.

Companies like South Canterbury Finance have been around since 1926 and they have been an essential part of commerce – financing plant and equipment, property, aircraft, vehicles and participating in New Zealand’s growth.

The sad part of the meltdown in the Finance Company Sector apart of course from the thousands of individual loss stories, is that now, even very good companies are suffering.

Companies like Strategic Finance, that has one of the best teams of personnel in the country, have suffered due to the lack of confidence in the sector. Because of the failure of other companies re-investment rates that were around 70% have dropped to 10% and that is unsustainable.

But Strategic highlights the difference between them and the shonky lot like Bridgecorp and Blue Chip. No hiding the Porsche or other assets from the investors for Strategic. The management team have put up $22m of their own funds and is negotiating a restructure plan that will see all investors protected for both income and capital.

Frankly I’m not sorry to see the Petricevics of this world biting the dust. I’m just sad that he and his cohorts have hurt so many people and damaged a good sound industry.

Related Links

Somerset Smith Partner’s disclosure-statement. (PDF 1.1mb)

Several times a day I have the same question put to me. Is it time to climb back into the share market? And frankly there is no yes/no answer.

When share markets are high, we often suggest that investors take a profit. That doesn’t mean you sell all your good stocks that have done well. It means that selling a few off the top locks in some profit – reduces the average cost of the remaining shares you hold in that company and better protects you if there should be a downturn. It may be that it makes sense to take a profit on a certain stock on several occasions.

When stocks are well down – like right now - investors seem to think they have to either stay right away or climb back into the market in a big way. They are ignoring the very sensible process of dollar cost averaging.

Dollar cost averaging happens when an investor decides how much he or she wants to invest in a certain company, then moves towards that goal with a series of purchases.

Say for example XYZ Ltd was currently trading at $5 – an all time low. An investor may decide to buy say 3,000 shares. In these uncertain times it makes sense to buy say 1,000 shares right now and two parcels of 1,000 at later dates.

In that way – if the price continues to fall the investor has the opportunity to average their price down and if the price moves upwards they have bought one third of their proposed holding at the bottom of the market.

So it’s not a case of all in or all out – it’s a case of taking a sensible approach.

Right now the financial market place is the most difficult I have known in 30 years in the industry. But difficulty means volatility and volatility means opportunity.

In the secondary fixed interest market there are securities in good companies trading on yields up to 20% - such is the lack of confidence in that sector.

The share market has fallen right across the board and yet some of those companies are performing well and have good prospects.

As one commentator so aptly put it – Buying last year was like buying in the days before Christmas, buying today is like buying in the Boxing Day sales.

Related Links

Somerset Smith Partner’s disclosure-statement. (PDF 1.1mb)

I have always said that my generation is the lucky generation.  Lucky because we haven’t known war or depression – both very strong influences in our parents’ lives.

But I’m beginning to re-think this “lucky” tag.  The communities our parents lived in, from my observation, seemed to be much nicer communities.  Murders were so infrequent they made headline news for days.  Certainly they didn’t have to cope with communities that contained the insidious gangs we now have to put up with.

We used to think that these appalling gangs, financed and fuelled by P, were confined to the big cities – largely South Auckland.  Now right here in Hawkes Bay we have them gate crashing parties and chopping and bashing people up with machetes and iron bars.  What is our society becoming and where to from here?

I’m sure our parents didn’t have to cope with the topsy turvy situation we find our financial sector in today.

Over the last couple of years we have seen a number of pretty rumpty financial companies fall over and I’m sure that poorly run companies have always collapsed.

But now with the so-called benefit of instant communications, we are starting to see sound, well run companies striking difficulties.  The problem is confidence or more specifically the lack of it.

Under the new continuous disclosure rules – finance companies have to report regularly the state of their finances.  Now you might think that’s a good idea but it can cause problems.

Most companies, at some stage, go through difficulties and in most cases trade through them and regain their strength.  When they have to tell the world they are having difficulties, even small problems seem huge in the eyes of an already nervous investing public.

So often small problems, become big problems because investors know information that in the past they would not have, and naturally take a conservative view.

The problem we have in New Zealand at the moment is a crisis of confidence.

The one thing my parents didn’t have in their day was a Governor of the Reserve Bank who could give some leadership.

In my view that is one thing that hasn’t changed.

A very happy new year to you all – and in many ways it has been a good start to the new year.

The weather has been good, Hawkes Bay has never looked better and the local economy is booming.

The only cloud on the horizon is of course – the financial markets and in particular the share market.

Clearly share market investors have taken a bath in this early part of the year and it would be easy to be pessimistic about the future. But of course – from these levels – the prospects for the share market look better then they have for a long time.

Most of the selling on the New Zealand market – has come from overseas. These overseas institutions have got trouble at home and they have simply decided to sell their Australasian holdings and take their money home – hence the fall in the value of the NZ dollar as well.

They are not selective in what they sell. Look at a stock like Contact Energy. Contact has fallen back almost 30% and yet we ask ourselves – what has changed with this company and the answer is nothing. It has no worse prospects now than it did 3 months ago.

The Fisher & Paykel companies have come back and that defies logic. It was always accepted that it was the exchange rate that was holding back these companies and yet when the exchange rate moved substantially in their favour – the share price went down.

So what’s the cause of all this nonsense?

In two words – George Bush – the fellow is an idiot.

Since taking office in year 2000 America’s national debt has grown 70%. George Bush has presided over an economy that has seen a budget surplus of 2.4% of GDP at the time he came into power, turn into a budget deficit of 3.6% of GDP. That is an amazing turnaround.

Instead of spending money on education and health programmes, Bush has spent half a trillion dollars on a ridiculous war in Iraq.

Up until now it has been widely accepted that Hoover was the worst ever president of the United States – clearly Bush will now assume that mantle.

So the commercial powerhouse of the world has been run by an incompetent cowboy and the whole world suffers.

But it is certainly not all gloom and doom. There are now excellent opportunities for investment both here and in Australia that weren’t there before – and the New Zealand economy – to some extent – has a degree of insulation from America’s woes.

We just need to take positive view and try to ignore the nonsense that is coming out of the States.

What a terrible Christmas it is going to be for those who have lost huge amounts of money in the collapse of 13 finance companies.Hundreds of millions of dollars have gone down the gurgler – and at this stage at least – that’s due to poorly run finance companies – irresponsible advisors who have directed funds to them and individuals who have failed to seek advise from suitably experienced professionals.

Clearly these finance companies have been poorly run. What should happen in a credit squeeze, if a finance company’s books are properly balanced, is that the finance company would simply get smaller. Loans would mature and be repaid to the company – the company would repay debentures to investors – and if further investments were not forthcoming then the company would end up with a smaller book.

Those that have failed here, either had a geared book or, have been inefficient lenders – or both.

Clearly many financial intermediaries are guilty of greed – of putting their interests ahead of their investors. Why did the likes of Bridgecorp receive such huge support from financial planners – especially late in the piece, when the whole industry knew they were in trouble. The only answer – the only answer is that Bridgecorp were paying brokerage at a level about double the industry average. Wouldn’t that tell you something.

Why are some financial planning firms significantly exposed to the likes of Bridgecorp- Provincial – Capital & Merchant and yet firms such as my own – Somerset Smith Partners – has never placed one cent in any one of the 13 finance companies that have collapsed.

Clearly some firms do their homework and work in their client’s best interests – some are more mercenary.

And finally there are those individuals who have been sucked in by the fancy advertising campaigns, and have managed to make a mess of things all on their own.

Why have these people not sought advice from reputable professionals. It costs them nothing – brokerage is paid by the company – why have they simply blazed on, on their own?

There are still some very good soundly run finance companies out there – good advisors know which ones they are.