Taking Stock 20 February 2025

INVESTORS with sensibly diversified personal portfolios will probably own shares in listed banks.

ANZ, NAB, CBA, Westpac and Heartland are all listed on accessible stock exchanges and at least some of these are in most of the portfolios our clients own.

They provide useful and reliable dividends and in time tend to grow in value, though Heartland’s recently-advised higher write-off provision has deferred any growth for a year or so.

The banks seem to be adept at quitting any lending to sectors that are clearly risky and are extremely good at minimising bad debts, Heartland’s announcement being an exception.

Historically they have all made mistakes, with Westpac and the BNZ the most egregious examples, the BNZ, in an era of boardroom lunches of pheasant and port, destroying itself with spectacularly stupid lending in Australia and to NZ corporate clowns, in the years before the 1987 market collapse.

Westpac has had two obvious major errors, the first an error of judgement in abandoning its reliable pharmacy clients, the second much more expensive, leading to enormous write-offs in billions, from a naïve blind rush into commercial and property development lending in the early 2000s, in pursuit of extravagant margins.

In one deal it erred childishly by lending more than a hundred million to developers on leasehold land at Albany. It then compounded its error by writing off the whole of its loan in a panic, rather than waiting the few years that expired before the land value was amply restored, as Albany grew.

Ah well, boys will be boys.

Having reminded readers of banking fallibility, I revert to my opening stanza that banks are generally good at differentiating dog manure from wholesome food. They certainly do not need any government or any law dictating to them those areas in which the banks should lend.

Dressing up such law as targetting “wokeness” is inane. Banks are never “woke”. They want to make every dollar they can, with maximum return for minimal risk, resulting in the maintenance of excessive salaries and unjustifiable bonuses.

If I owned a bank my mindset would be the same, in focussing on lending where risk and return were compatible.

As an example, I would lend to a gold miner if there were ample analysis assuring me that the miner could repay me as promised. If I disliked the risks in mining I would not lend.

I would be careful not to break any laws when lending. For example, when lending to a pharmaceutical importer I would take extra care to ensure the importer was not involved in the illegal drug world.

The current NZ First bill that it is hoping will be drawn from the hat believes that NZ can heavily fine or jail bank lenders who decommission loans on account of “wokeness”.

I wonder if the clowns that drafted this bill have ever considered how easy it is for a bank to justify any new lending policy without ever discussing someone’s definition of “wokeness”.

All it would need was its board to instruct its executives to focus more on one sector at the cost of another, the board assessing the better risk for return. 

Does any government, perhaps other than in China, Russia, Myanmar or North Korea, believe it can determine board lending policy? 

And there is one other reality to consider.

If BNZ drops off its lending to petrol stations all other bankers would look at their exposure and decide whether their bank had room to take over the loan (very probably at a higher margin).

The concept of “fining woke banks” is based on political childishness, perhaps vote-seeking.

We do not need governments dictating the private sector’s moneylending decisions.

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THE US banks illustrate neatly their autonomy over lending policies.

For a short while, the banks experimented with the idea of selecting staff, not on the basis of excellence and suitability for the task, but on the basis of race, gender, or personal lifestyle preferences. They also experimented with four-day working weeks and gave licence to staff to work from home.

Many of the larger banks have now declared these experiments were, in the words of one bank executive, “a fraud”.

They have responded by ending the experiment. They did not need Trump to guide them.

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ROBOTICS, artificial intelligence, healthcare and, in general, technology, are the growth sectors that every investor has enjoyed in recent years.

Some companies in those sectors have grown in value by multiples of hundreds, as the world turns to technology to solve its problems (decarbonisation), reduce cost, increase productivity, and increase longevity.

More motivated by reliable income, older investors, certainly in New Zealand, have sought income from the electricity, banking and telecom sectors.

All of this makes sense. Income matters more than growth, for many.

But other new strategies reflect a major change, as any reader may surmise.

Omitted from their solution is the sector that for decades has dominated wealth creation in NZ, a sector that provided reliable income with almost certain additional growth, thanks to inevitable inflation.

I refer of course to the property sector, which for more than four decades dominated investment strategies, with such extravagant, inflation-based gains, that even the most transparently incompetent people were assured of at least some gains.

If one reflects on the 1960s and 70s, one recalls how the likes of Brierley sought to take over companies whose land and buildings were used inefficiently, and thus had hidden potential, sometimes at immense multiples.

Brierley was never a clever company owner. He never illustrated skills in governance or execution (and should never have been made chairman of the BNZ).

He was clever at recognising "sleeping” assets, particularly land being used inefficiently, and was an unrepentant opportunist, a trader without constraints.

So for decades he and many other pretenders were feted by the media and politicians as business giants with special skills in adding value. Shareholders loved the gains. Takeover victims loathed the one-dimensional approach.

By the early 1980s, we had a range of Brierley lookalikes, most of whom were charlatans. There were at least a dozen property-based companies listed on the NZX, many priced as though water could be turned into a fine merlot.

It feels like dark comedy to look back on the era where trading properties was discussed in the same paragraph as building businesses.

The hardest question to have answered today is when all of this magic was finally revealed to hide the many examples of absurdity.

Was it the moment that no-skill syndicators entered the market in the 1990s, with various crooks and no-hopers paying top dollars for properties, using the funds of hoodwinked retail investors? Veteran investors will not need me to attach the names to the flash-car Harrys who fleeced investors.

Was it in the 2000s and 2010s when the new breed of “fund managers” arrived, syndicating properties and locking up the right to manage the properties, for the sort of fees that had often been hidden in the 1980s?

Was it the arrival of “valuers” who, I wondered, might be setting their fees based on what “valuation” the client required? 

Was it the earthquake rating people who fed the investor expectations, like the valuers charging a fee that one suspected related to the rating desired by the client?

Was it simply decades of extravagant valuations?

I recall a property owner explaining to me that if he owned three similar buildings on High Street each bought for $5 million, and then bought a fourth similar building for $10 million, it would be easy to find a valuer to value all four at $10 million, providing a “profit” that could be extracted by a new, higher loan from unwise money lenders.

The real answer to the question about what stopped the music might be economic reality, initiated by the global response to an epidemic - idiotic monetary policy. 

When the money printing stopped, inflation surging, inevitably interest rates became higher than the yields from rent. Suddenly households thought about nett reliable income and job security, rather than mindless consumption based on credit cards.

Suddenly there was no need for 200 cafes and takeaways and bars in High Street, and 50 retailers of dresses and trousers, and 50 retailers of brown goods and music earphones and electric bicycles.

Little companies found their clients could no longer live on tick.

Public servants could no longer hide in a corner to avoid being noticed.

Suddenly they were noticed and expendable. (Until the retirement Commission, and its like, have been disbanded this process will not have ended.)

As a result of these inevitable consequences of goofy policies, we had to notice that High Street had vacancies, at street level, and in the higher levels of buildings. Rent collection became a problem.

Properties are valued as a multiple of rents received, not a multiple of the rents that are planned to be received. Bankers lend on cash flow. Rents that are not being paid do not get coded as cash flow.

So bankers wanted loan reductions.

Building owners often found the equity they thought they had was no longer real. Few are ever prepared to test the bottom of the market by selling at auction.

Stupid property owners who had over-borrowed and spent their theoretical valuation gains on illiquid toys, Rolls Royces, 50-foot yachts etc, suddenly had unfriendly bankers.

 It has always been a truism that if you pledge an asset to obtain a loan you forfeit control of the asset at the whim of the lender.

We now see all of this untangling in residential property, commercial property, retail property and, though less so, in industrial property. Mortgagee sales and receivers are the norm.

Very few owners have enough wealth to continue with the 60-70% debt levels that worked only for as long as there were no tenancy failures and no big property devaluations.

As an asset class, property works now only for those with enough equity and enough bulletproof tenants to ensure continued, positive cash flow.

Is this change simply cyclical? It is slightly scary to imagine we might have a new order that recognises that rentals must be set sustainably.

I think of the owner of the building in High Street whose client, a restaurant, has been bankrupted. Down the road is another restaurant paying rents with ratchet clauses at a level that is now exceeding an affordable portion of his turnover.

At first opportunity would the surviving restauranteur not visit the owner of the empty space down the road and negotiate an offer of much lower rent, then return to his current landlord with a nice polite ultimatum?

How long before this example will become the norm in many different streets in many cities?

The property sector’s most intelligent and bulletproof participants are those NZX-listed trusts with low debt levels and tenants whose business models remain valid.

Those with government tenants seem safe, providing their debt costs are low, and providing we continue to have politicians and public servants using other people's money without the skills to persuade their landlords into rent reductions.

The modern portfolio of an investor who needs certainty of income is no longer able to apportion to property the levels of those times when ratchet clauses were accepted, and when rental agreements were signed without foresight.

Understanding the location importance is only one issue; getting long-term tenants is another; understanding and foretelling the new era when rentals must be related to nett, reliable tenant revenue is another. There are wise property owners who behave cautiously. There are far more who live for the day, without planning for changes.

You can bet that the banks are highly focused on this changing environment.

It might be the mostly greedy syndicators who are first in line for execution, but you can safely bet the lines awaiting their fate are three, four, five deep and will include those who believe that very low interest rates will bail them out.

As James Lee noted in his Taking Stock article last week, discussing Bitcoin, if an investor cannot understand how price equates with value, there is no obligation or need to invest, until the logical outcome is more obvious.

The property sector is now a component of an income-based portfolio only when the investor has done his due diligence and has worked out which property trusts are managed cautiously and insightfully.

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Thank you to everyone that participated in the ANZ 4.63% 5-year Senior Bond offer.

We have purchased an additional 100k of this bond so if clients would like an allocation please email our office office@chrislee.co.nz .

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FINAL reminder to Santana Minerals investors who hold options (with shares bought pre-March 2024). Exercise them now.  Now!

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Travel

Dargaville – 26 February – David Colman

Kerikeri – 27 February – David Colman

Whangarei – 28 February – David Colman

Wairarapa – 28 February – Fraser Hunter

Napier - Mission Estate - 6 March - Edward LeeNapier - Havelock North - 7 March - Edward LeeChristchurch – 12 March – Johnny Lee

Lower Hutt – 25 March – David Colman

Please contact us if you would like to make an appointment to see any of our advisers.

Chris Lee

Chris Lee & Partners Ltd