Market News 15 July 2024

David Colman writes:

On 10 July, the Reserve Bank of New Zealand (RBNZ) kept the Overnight Cash Rate (OCR) at 5.50%. However, it seems to have a hand on the scissors required to cut this rate.

The RBNZ is busy sharpening these scissors due to signs that the Consumer Price Index (CPI), used to measure inflation, is approaching the RBNZ’s target range of 1% to 3%.

Inflation pressures appear to be easing, suggesting that the RBNZ's monetary policy has been effective in curbing the rate at which prices rise.

Some New Zealanders have benefited from higher interest rates on their savings, while others have struggled since the OCR began rising from 0.25% in October 2021 to its current 5.50%.

The OCR had remained at 0.25% since March 2020, when COVID-19 concerns peaked, and there was a potential for an unprecedented 0% or negative OCR.

In November 2021, the national median house price peaked at $925,000 (Auckland's median reached $1,300,000). Today, the national median is closer to $770,000, and Auckland’s median is just over $1,000,000.

Higher house prices in late 2021 led many homebuyers to take on significant debt. Mortgages that were affordable at less than 3% p.a. are now challenging at rates of 7% p.a. or higher.

These homeowners and others with substantial debts face higher rates and insurance costs, likely tightening budgets and affecting consumer spending.

Migration peaked in October 2023 with an annual gain of 136,000, but the net migration gain for the year ended May 2024 was 82,800. This trend is driven by data that shows a greater number of adventurous Kiwis are seeking employment overseas and perhaps there are fewer global citizens seeing New Zealand as more desirable than other countries.

Company liquidations have increased in the year to date and unemployment has crept higher to 4.3% by the end of March 2024. This figure is still low by historic measures but is up from 3.4% for the same period the year before.

The New Zealand Central Bank is not alone in considering rate cuts as measurements of consumer prices, rising unemployment and other economic factors are indicating that inflation has eased in other countries as well.

Federal Reserve Chair Jerome Powell describes the US labour market as strong and more balanced but no longer over heated.

There is a risk that US unemployment rises before inflation falls to the 2% target and that the timing of policy settings adjustments may be too little, too late to avoid undesirable economic weakness.

This is a very similar scenario that the RBNZ faces.

Inflation data will primarily dictate what action central banks take and the data for now is pointing towards settings staying the same with potentially a cut before the end of the year.

The next US Federal Open Market Committee (FOMC) meetings are scheduled for 30-31 July, but a rate cut is not anticipated soon.

The next NZ Monetary Policy Committee update is on 14 August. However, the quarterly inflation data to be released on 17 July may be a key indicator of the RBNZ’s next move.

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Recent bond issues have traded at a premium upon listing, continuing a trend seen this year. All new bond issues in 2024 are currently trading at premiums, offering lower yields than the coupon rates.

We have been told many times over the last year that central banks are expected to cut rates. Although this has not come to pass yet, I warn investors that interest rates for new issues in the months ahead might be lower than comparable issues released earlier in the year.

To expect higher interest rates for comparable fixed interest investments than earlier in the year is looking unrealistic.

Underlying rates, such as swap rates, which are added to a margin in the calculation of interest rates for new issues, have slid significantly of late. Expectations of further easing appear to be influencing what returns investors, anticipating lower interest rates, will accept.

Mercury Energy recently issued bonds (MCY070) which included a margin of 2.0% and a 5-year swap rate of 4.42% resulting in an interest rate of 6.42% for the first 5 years of the bondswhen the offer closed on 27 June. 

Swap rates have slipped to 4.20% since the rate for the bonds was set and the first day of trading in MCY070 bonds on Friday 12 July saw the bonds trade at a yield as low as 5.88% (pricing the bonds at approximately $10,230 per 10,000). 

The one-year swap rate, which is more susceptible to OCR policy, as part of short-term interest rate expectations, has fallen to a hair above 5.0%, a level not seen in 18 months. All NZ swap rates are below 2023 peaks. For context, the one-year swap rate reached a high of 6.04% in May 2023 with all other swap rate durations peaking in October/November 2023.

Many depositors will have noticed that major banks’ term deposit rates have fallen. I expect these rates will continue to fall, particularly for shorter terms, as we move closer to the RBNZ cutting the OCR.

An OCR cut should not indicate that interest rates will fall off a cliff but rather that they might soften.

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Synlait Milk (SML) shareholders voted emphatically on Thursday to approve Bright Dairy’s shareholder loan.

Bright Dairy owns 39.01% of Synlait shares and provided a loan of $130 million to be used to repay bank debt due on 15 July.

A2 Milk Company (ATM) which owns 19% of SML shares informed the market on the morning of the day of the vote that it would vote in favour of the loan.

By the end of the day 99.59% of the votes cast were in favour of Bright Dairy’s proposal.

Synlait chair George Adams thanked shareholders for an outcome that kept a potential liquidation at bay. He described the loan as the first step in resetting Synlait’s balance sheet.

The board now plans an equity capital raising, which, when announced, will further test shareholders’ resolve and provide a measure of their financial commitment to one of the more dramatic companies this year.

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Infratil (IFT) capped off its recent capital raising with the non-underwritten retail offer closing oversubscribed.

The company received enormous shareholder support with applications from over 37,500 eligible shareholders totalling over $420 million.

IFT elected to accept an additional $125 million in oversubscriptions due to the high level of participation increasing the total raised from the retail offer from $150 million to $275 million.

The total amount raised through the equity raising including both the placement and the retail offer was $1.275 billion which is an impressive sum.

Also impressive was that the share price remained in the vicinity of $11.00 throughout the capital raising process which could be seen as evidence that shareholders buying new shares still see value over and above current levels.

Eligible shareholders that bought shares through the capital raising at $10.15 appear destined to be sitting on a profit per new share when new shares are allotted tomorrow (16 July 2024).

IFT’s market value has reached new heights with its market capitalisation (the value of IFT shares on issue multiplied by the IFT share price) now exceeding $10 billion for the first time.

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New Talisman Gold Mines (NTL) last week became a contender for the record of the most rights issues for a New Zealand listed company.

NTL’s latest rights issue, under the code ‘NTLRG,’ is yet another effort by the company to raise additional capital with the goal of finally becoming a producing gold mine.

Rights issues are a valid way for companies to raise capital but multiple issues of new shares over many years will tend to test shareholder’s patience and longstanding NTL shareholders have seen no measurable gains for many years. NTL shares are down over 68% over the last 5 years (adjusting for a 1:10 consolidation in February 2023).

The NTL chair, Samantha Sharif, openly admits that the previous $980,000 capital raising in February 2023, that was intended to be the last amount of funding required before achieving production, is now inadequate.

NTL seemed to blame the need for yet another capital raising on the time it took to obtain an Access Arrangement from the Department of Conservation (DOC). NTL describe the yearlong DOC process as a delay, but perhaps the company simply underestimated how long regulatory approvals can take and how much capital it actually needed.

If the company can raise the funds it seeks, can successfully piece together the necessary plant, equipment and staff, and is then lucky enough to extract gold in commercial quantities, it may benefit from both a government that appears enthusiastic regarding the mining sector, and from historically high gold prices.

Gold last traded above US$2,400 (up 23% in the last year).

The company warns (echoing its previous capital raising) that if the capital raising is unsuccessful, it has limited options left. It also highlights the risks associated with taking the mine into production, making the project highly speculative.

Fortunes have been made and lost in the pursuit of Midas’s favourite metal.

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Travel

Our advisors will be in the following locations on the dates below.  Please contact us if you wish to make an appointment:

19 July – Wairarapa – Fraser Hunter

24 July – Christchurch – Fraser Hunter

25 July – Ashburton (AM) – Fraser Hunter

25 July – Timaru (PM) – Fraser Hunter

26 July – Timaru – Fraser Hunter

25 July – Auckland (Ellerslie) – Edward Lee

26 July – Auckland (Albany) – Edward Lee

Chris Lee & Partners Limited