Susan Edmunds.
Bank interest rates are so low that investors look to the survivors of the dark times, writes
Do you recoil when you hear the words ‘‘finance company’’? Picture retirees losing their life savings or houses being put up for mortgagee sale?
Between 2006 and 2012, 67 finance companies collapsed in New Zealand, wiping out more than $3 billion in savings from as many as 200,000 people.
As one fell over after another, many investors swore off putting their money anywhere but the bank – or under the mattress – ever again. But a core group of finance companies survived and money is still being deposited with them, particularly as low interest rates force investors to look elsewhere for better returns than banks can offer.
Reserve Bank data shows there is now just over $2.5 billion invested in deposit-taking finance companies in New Zealand currency by New Zealanders, and a total of $14.8b across non-banks, savings institutions and finance companies.
That compares with $332.5b deposited with banks.
Finance companies still operating include Geneva Finance, General Finance, Asset Finance, Liberty Financial, Finance Direct, UDC and Fisher & Paykel Finance.
The Medical Assurance Society recently wound up its finance company subsidiary, Medical Securities, citing increased regulatory requirements.
General Finance this month announced a 50-point increase in its deposit rates across the board.
Director James Lockie said that was designed to increase interest from depositors, to help manage the boom in demand from borrowers seen over the past two months. He said a rush of loan applications had been sparked by the Reserve Bank’s new loan-tovalue restrictions limiting lending to property investors.
Investors can get rates as high as 4.75 per cent for a year and 6.1 per cent for five years. That compares with about 3.25 per cent for a year at the major banks.
Mark Collins, chief executive of Liberty in New Zealand, said modern finance companies were a legitimate alternative to term deposits for investors.
His organisation now has just over $17 million under management, a figure that has grown 100 per cent since June 2015.
‘‘The key is to understand the risk rating. You are taking an increased risk. We are rated a BBB-, which is investment grade, but we are one of the few.’’
General Finance, Gold Band Finance and the Bible Society are not rated. UDC is the highest-rated finance company, with an AArating.
One of the criticisms of the finance companies before the global financial crisis was that investors were not adequately compensated for the risk they were taking.
Collins said that had been addressed. ‘‘You used to look in the paper and it would be full of ads promising 13 per cent return but they were largely junk bonds.
‘‘The sector now has very clear risk and return ratios. The legislation requires you to be open about the risk investors are taking and the level of defaults.’’
Financial adviser Simon Hassan said finance companies played an important role for borrowers and investors.
‘‘They meet the needs of borrowers not quite ‘safe’ enough for the banks, and unwilling or unable to access equity funding.
‘‘I would like to think the issues of the sector in the past have gone. The players left are fairly stable.’’ Mark Collins of Liberty Financial
‘‘And they suit investors looking for higher returns than they can get from bank term deposits and safer bonds, but unwilling to face the volatility of share markets,’’ he said.
But he would not usually recommend them to his clients.
‘‘The trouble with risky interest-bearing investments is that there is only one side to the risk – ‘downside’,’’ Hassan said.
‘‘So a term deposit with a risky offeror either pays interest and returns your capital at maturity as promised – or not.
‘‘There’s no way an investor can ever get more than this.’’
He would usually advise clients who wanted better return and were willing to take a bit more risk to do so with a mix of shares and property.
‘‘These investments also have ‘upside risk’. Over time the return from a particular investment may be lower – or higher – than an investor expected, and as a result, ‘waiting it out’ is usually a good option when returns disappoint – as over time they are likely to revert to the expected.
‘‘While 5.75 per year before tax for a three-year deposit is attractive – and more than 2 per cent per annum higher than what you’d get from a term deposit with safer offers like options such as UDC or Rabobank – the extra risk needs to be considered by prospective investors.
‘‘Investors should also be aware that Australasian shares are currently paying out income streams averaging over 5 per cent, after tax, in the case of NZ shares, and that share investors benefit from ‘upside’ risk as well as having to accept ‘downside’ risk.’’
David Tripe, an associate professor of economics and finance at Massey University, said he did not expect finance companies to return to favour with investors.
Over time they would become more like finance firms in the rest of the world, which sourced their money from financial markets and banks rather than direct from retail investors, he said.
The emergence of peer-to-peer options might take a cut of the money that would otherwise be deposited with finance companies, although they, too, often relied on institutional funding.
There are now four peer-to-peer operators in the market, offering higher returns again than the finance companies, but higher risk. In a peer-to-peer situation, investors wear the losses for individual loans that go wrong.
A finance company will pay out the promised returns on its deposits and wear the losses, so long as it has the capital to do so.
Lockie said it was likely finance companies were losing some deposits to peer-to-peer platforms. But he said those investors had the potential to come ‘‘unstuck’’ if default rates rose.
He said finance companies would do more checking of borrowers than a platform – and were used to weeding out borrowers who lied or left out important information.
Finance Direct managing director Wayne Croad started peer-to-peer platform Lending Crowd. ‘‘As long as the risk mitigation is strong, peer-to-peer is a good option,’’ he said.
Investors would have to look at the disclosure statements and information available about each type of investment and assess for themselves what they were comfortable with.
Collins said one of the biggest challenges for the sector was getting its message out to consumers and shaking off the negative connotations of the past decade.
‘‘I would like to think the issues of the sector in the past have gone. The players left are fairly stable.’’