 Good morning. Welcome to the fig securities make your cash work harder seminar. It's an introduction to fixed income My name is Elizabeth Moran and with me today is Cameron window who is an associate director of fixed income sales in the Brisbane office And sits just outside of Where I work so we're colleagues Today I'm just run through a bit of housekeeping first on your screen You should see an orange arrow if that's not expanded if you click on that the that's a panel there and it will expand And you can see down that panel. There's a an area for questions So if as we're going through today, you'd like to ask a question just type it in there and we'll try and address it on the way through Okay, so without further ado, let's let's get the presentation rolling Sorry slight technical hit here Okay first slides just a disclaimer this basically says that fig can only offer general advice We can't offer any personal advice now if at the end of the presentation You think that you would like to discuss a portfolio with us will make some portfolio suggestions to you But in no way you obliged to accept those Suggestions you can come back to us and say no I don't like this bond or I want to buy more of this bond So in that way, it's your personal choice about what bonds you purchase We'll have research and a whole lot of information backing up why we think they're good suggestions But it's up to you and to take into your consideration your own circumstances This first slide looks a little bit complicated. I'm going to start with that panel About three quarters of the way down and it's got twenty tens there. That's now So the 2010s is refers to the decade. So at this point people expect to Not work for about 23 years about 23 years before they start to work then they have roughly a 35 year working life and After that working life, you'll see there's a 24 years and 10 years So 24 years is now the expected retirement period for four people and that can be longer Of course depending on how long you live So it can be up to sort of 34 or plus years So what this is saying and what we our research shows is that From the start of the century to now our working life shortened Years ago people started working full-time when they were 12 or 13 and they worked till they died There was no retirement or They just worked until they stopped basically and then as the the century has progressed people have not started work It's taken them longer to start work That we're living longer retirements growing and we need to preserve Capital and income for those retirement years. So that sort of explains that panel there now if we go to the top part of it You'll see there's three stages. So we're looking at asset allocation during our lifespan Now while we're working and we're fairly young We obviously want to grow the assets that we have So we look to have a fairly high allocation to growth assets being shares and property roughly 70% with 35% shares 35% property and 30% fixed income But as we get older We need to transition that portfolio allocation to take into account the growing asset base And the fact that we don't have the time to make up if things go wrong So if during the GFC or when the GFC hits hit I'm sure you knew people that had just retired and they had a lovely big nest egg And all of a sudden it was worth half of what they thought it was so by Transitioning your portfolio allocation to be more defensive and include more fixed income You're actually protecting that capital and protecting your retirement years So the transitional phase really you're moving from that 30% fixed income to in that final post retirement 70% fixed income. So it's it's a moving feast there But we we actually term that period of roughly 10 years before retirement Until about three or four years after a retirement as peak wealth So this is when you have amassed the most assets And this is when you really need to be careful and thinking hard about how you allocate your assets Okay, we'll move to the next slide So David Murray just very recently in fact a couple of months ago said in light of falling interest rates Some conservative investors were considering high-risk options like shares in order to get a better return, which is a mistake Those close to a time it should instead allocate more of their superannuation to fixed income assets like bonds or term deposits Rather than shares or property which come with higher risks The important thing to understand is that as you approach retirement You have to consider very carefully where your asset mix lies because the closer to retirement the more fixed income should be in your portfolio So I think this sort of fits in with our theme today Just discussing portfolio allocation and getting you to think about the fixed income asset asset class and allocating to it And the sorts of protections it can provide to you and your family over the longer term So this is a fairly basic slide and it talks about risk and return. So you see on the The two the two axes on the bottom is risk and the on the Vertical is return. So as you take on more risk, you expect higher returns. It's a key Investment principle. So down the bottom left-hand corner You have term deposits where you have that known income and known maturity date and as you move out that curve You'll see bonds sit next to term deposits in terms of risk and return Then hybrids properties and shares So bonds are very similar to term deposits in that you have a maturity date and you have a known income But you are lending your money to corporations. They can also be banks and governments But they have set terms to maturity and you have known income. So in that way, we say bonds are the next best Investment to term deposits as we move out that risk spectrum the hybrid Sector there with hybrids. You don't know of the maturity date of most hybrids They have a call date, which is the first opportunity the company or the bank can repay you But the final maturity date can be extended and can be quite a long time I think the recent crown notes had a 60-year final maturity date Also with hybrids your income can be foregone. There's a term in most hybrids. That's non cumulative That means the company or the bank can decide not to pay income and there's no drastic repercussions for for the company if you compare that to bonds if the The company that issues the bonds doesn't pay your income That's then an event of default and there are serious repercussions for for the for the company Moving out again on that risk spectrum. We have properties Of course properties are great have been great investments for many Australians. The problem with properties Is the liquidity of them? It's not easy. They're not easy to sell They can take a while to sell you may have to drop your price to achieve a sale There are other issues, but liquidity is the main one there and going right out top of the risk spectrum Are shares, but you you're taking on more risk, but also with these Investments you do expect higher returns. So you expect higher risk and higher return with shares So corporate bonds their drivers have changed. Why are investors attracted to bonds? because there's a big range of Risk and return in bonds you have very low risk government bonds for example moving right out to high risk Corporates so that sort of return Bracket at the moment is from about two and a half percent for Government bonds right out to sort of eight percent plus I've even seen ten percent just recently in corporate bonds, but of course that that goes over a wide risk spectrum but What you can do is look for bonds slightly higher risk than your term deposits and In a higher income They are less risk than hybrids and shares as we've just talked about that risk return spectrum Bonds are great for diversification There's lots of big International companies that issue bonds in Australian dollars. So those companies aren't listed on the ASX You can invest in those companies and improve the diversification of your portfolio Also, there's Australian ventures that aren't listed on the ASX. We have some infrastructure assets like Darrymple Bay Coal Terminal That isn't listed on the ASX, but is an attractive diversification for your portfolios And finally just a quick mention that you can also buy foreign currency bonds which a lot of big Australian companies will issue bonds in Great British Pounds or Euros or US dollars or Canadian dollars. So if you have Businesses or funds sitting in one of those countries earning very low rate of return Foreign currency bonds might be something that you might consider Bonds actually protect your capital and that's one of the attractions of the asset class When a bond is first issued and that means when people first invest in the bond it then starts to trade in the secondary market It's big wholesale secondary market. It's not the listed ASX market, but that means You can buy and sell Bonds and the price will go up and down off the bonds But whatever happens to the price over the course or the life of the bond Typically at maturity you would expect to be returned that initial face value of the bond So most bonds are issued with a hundred dollars face value at first issue that price of them will go up and down over time And then at maturity you'll be repaid your hundred dollars just assuming the company continues to operate So that's a definite positive and a big feature of the asset class and why a lot of people will choose to invest in fixed income Bonds are now available in much smaller parcels than they used to be they used to be only available in $500,000 parcels and largely then were only accessible to big wholesale or institutional investors But FIG has made bonds available from just $10,000 per bond So you could invest the minimum of $50,000 and have five bonds in your portfolio But why are companies issuing bonds? A number of reasons I think one of the main ones is that during the GFC Companies that only had one banker were put under pressure to repay debt or reduce their overdrafts And they recognize that they need to diversify their sources of funding It's not just as we want to diversify our investments Diversifying their sources of funding helps protect them if anything goes wrong or another major event hits Also with bonds they can extend the length of loans With New Basel III requirements coming in APRA is requiring the banks to hold more capital against loans So it's more expensive for them and the longer they have the terms of the loans the more capital they have to allocate So with a bond they can extend the length of their borrowing Companies can extend the length of their borrowing as well Cam how are we going? Have we got any questions? Not as yet that I can see, carry on Okay great, please if you have any questions just type them into us and we'll answer them as we go along Okay, this is another graph that's widely used in the financial markets And again it's risk and return but we're talking about standard deviation So the risk of the return not being what you expect it to be So there's a very low risk with term deposits that the return isn't what you expect it to be But bonds with their range of risk returns For a slightly higher risk you can increase your return It's more efficient without taking on a much higher risk as in shares So it's just that you're taking on slightly more risk but getting a much higher return Your increments higher than going right the way out on the curve So a bit of a snapshot about corporate bonds You'll see quite a lot of familiar names, brand logos there All of those companies issue Australian dollar bonds So NAB, all the major banks and the regional banks issue bonds, Suncorp Also foreign, big foreign banks, Morgan Stanley, GE Capital which also qualifies as a bank They all issue bonds in Australian dollars But you'll see also there some very familiar domestic corporations Telstra, Woolworths, Origin, Sydney Airport, they issue bonds And there's a little logo there, AXA which is large French insurer, personal life insurer They have Australian dollar denominator bonds as well But what is a bond? A bond is just a loan from you to the company They're borrowing your money and because it's a loan They're obliged to pay you interest income and return the capital at maturity So that's a really important that it's a legal obligation The corporate or the global bond market is roughly double the size of the global equity markets And big issuers of course are governments, US government, Australian government They are big issues on the global market But there are many, many corporations that raise funds through bonds in that global marketplace Now investors in USA and Europe allocate much more to bond investments than we do here in Australia And on average they would allocate over 20% of their portfolio to bonds Again it's that comfort in terms of knowing when you'll get your income And that your capital will be returned at maturity That they're the two main reasons that people invest in bonds As well as the diversification argument as well In Australia, self-managed super funds hold on average less than 1% in bonds Much lower, we think in part that's because they're harder to access They've been harder to access in the past But that now with FIG making bonds available from just that $10,000 mark And we've also seen a few bonds listed on the ASX People are starting to understand that there is this other asset class that they should investigate How do bonds differ from shares? As I mentioned earlier, bonds are just alone from you to the company You then act as the banker, so you're lending your money And in exchange you will get that income Now there's three types of bonds which I'll go to in a minute But the fixed rate bonds pay half yearly income And the floating rate bonds and the inflation link bonds pay quarterly So you're getting a much more regular payment than you would with say An annual term deposit where you just get payment at maturity This actually allows you to use that money sooner And to reinvest and compound your returns Now the bonds are guaranteed by the company unless they go into wind up So there's the low risk, they're typically low risk And the shares are higher risk in that you are the owner of the company You take a part ownership in the company And we all can appreciate that the bankers get paid before the owners In the event that something goes wrong But in terms of shares, you buy the shares with the expectation that they will grow The dividend will grow and the share price will grow And that's how you're going to make your money So your expectations are slightly different to bonds Because as a bond investor what you want to make sure is that the company Is still going to be around at the time the bond matures So what you do or what you need to do if you're investing in bonds is ask yourself Is this company still going to be around when the bond matures And I like to call that the survivability of the company Are you confident that the company is going to survive So it's survivability of bonds versus the expectation of growth in shares And I think that's actually an easier, like bonds are an easier equation to work out You know a lot of companies have long histories And you've seen them go through cycles You know that they can maneuver or last the distance if you like So I think that survivability question is an easier question than the growth And we've seen just in recent days some of the shares hammered by the market Woolworths comes to mind with its latest announcement to cut staff With shares again there is no guarantee of a dividend or payment or return of capital You have to sell to get your money back And I'm not sure if you remember but during the GFC All of the major banks cut their dividends NAB and CBA cut by about 12.5% but ANZ I think cut by about 25% Macquarie Bank if you had those shares they cut by whopping 46% their dividend So there is no guarantee of dividend income Moving along unless we've got any questions There are a few questions filtering through now so I might take some time Give Liz a break and answer some of these The first question here from Kenneth is asking what are the implications towards bonds When interest rates are increasing It really depends upon the type of bond that you're invested in And I know that Liz will cover off on those different types But how a fixed rate bond behaves to interest rate movements is different To how a floating rate bond or inflationally bond might work So we will come across that but there are different types of bonds That will perform differently in different rate environments Paul asks about risk to FIG So if you're investing through FIG is there risk Do you have any exposure to FIG or is it merely to the credit provider themselves And the answer that is you have no risk to FIG FIG is a licensed custodian and we're licensed by ASIC Our sub custodian is JP Morgan who is also our bank So in the event that FIG sees to exist for some ungodly reason Your bonds would be in safe custody with JP Morgan and not be impacted whatsoever Robert asks about what percentage of portfolio would we suggest for retiree and bonds I think Liz will come to that but I think what we can say is that over time The percentage that should be in defensive assets like bonds should increase over time Particularly if you're no longer working, if you're retired You can't afford to replace losses of capital Your capital really is what is going to generate your income Without that you lose your ability to derive an income So I would have thought in retirement stage that fixed income Being bonds and cash should be upwards of 50% Back to you Liz for now Thanks Cam, it's good to get some questions coming through Please feel free to ask some more This next slide, Qantas bonds versus shares So in recent years Qantas shares really haven't done very well And reached a low of less than a dollar, not that long ago They've done better recently as the company started to turn around And indicate back to reasonable level of profits But there's a number of things with Qantas bonds which we have liked Since they were first issued The number one thing is that we thought that Qantas would survive We really didn't imagine that Qantas wouldn't be around At the maturity dates of the Qantas bonds There's a number of reasons we thought that it would survive The first was that it had a large amount of cash on its balance sheet Now I appreciate with a large company that that can disappear quite quickly But that did add comfort to us that Qantas was a survivor It also has quite a few assets that are unencumbered There is no debt on those assets of course being the planes It's issued US dollar denominated bonds So that's a much bigger market and it's been a fairly regular issue there So US investors understand Qantas and are happy to invest in it So we think Qantas if it needed to could go back to the US And raise further funds by issuing US dollar bonds Now Qantas has three bonds available There's a 2020 which has a yield to maturity of around 4.7% That's available to retail investors There's also two others, a 2021 and a 2022 And these are slightly different So you can appreciate the longer the term of a bond the more risk there is So the 2020 is the lowest risk one And then the 2021 is then the next risk one And the 2022 is the highest risk one And you should be being paid more for taking on more risk But the 2021 and the 2022 bonds have this clause Where if Qantas' credit rating was downgraded The coupon or the interest paid to you would increase So they're different to that 2020 bond that doesn't have that clause Now the rates available on those bonds are around 5 to 5.5% And the 2022 bond has just become available to retail investors The 2021 bond will become available to retail investors in the next month or two So with that we think Qantas is a survivor We're comfortable investing in Qantas bonds with the shares The story over the last number of years hasn't been so positive or assured In fact Qantas hasn't paid a dividend for the last five years So if you had invested in the shares for income It would not have done what you'd hoped for it to do Of course the share price if you'd invested at that low point of under a dollar And it's now approaching $4 you'd be pretty happy I guess the point to highlight here is just that bonds provide that known income And return of capital maturity and shares just do not have that certainty A couple of bond facts that we think are worth highlighting And there's quite a few more than this but these are the main ones So the Australian dollar bond market is worth approximately a trillion dollars It's made up of a number of different companies or entities that issue bonds The largest is the Commonwealth government which has about $360 billion of bonds on issue Then we have all the state governments and territories issue bonds And then so do corporations and foreign institutions Now this market or that one trillion dollar market The vast majority is traded in the OTC or the over the counter market It's not traded through the ASX The ASX has a very small percentage that it trades So really to tap this market you need to find a broker such as Vic Now bonds can be sold prior to maturity You don't have to hold them for the length until maturity date We have some very long dated bonds out to say 2035 You know 20 year type horizons which a lot of our investors go Well actually I wouldn't buy that because I don't think I'm going to be here That doesn't matter, bonds are generally easy to sell But they're quite easy to transition as well So if you're thinking about your estate they're fairly easy to transition There is also an opportunity for capital gain or loss with bonds So once they're issued and they start trading in the secondary market The price will go up and down So you can buy at a low price and sell at a high Which is over and above the income you expect to earn on the bond A good example here is Stocklin Stocklin issued a bond quite some time ago when interest rates were high It was a fixed rate bond and the interest when it was first issued was 8.25% So Stocklin cannot, they must pay that 8.25% until maturity That's the contract it made with the market at that point So the only way that that bond or the changing interest rate market Can be reflected in that bond is for the price of that bond to change So that fixed rate bond issued at $100 is now worth about $122 or $3 If you wanted to buy that Stocklin fixed rate bond Now you'd only ever get $100 back But in terms of how you should think about the bond You're getting more of your return along the way through that higher coupon or interest payment And at the end you get your $100 back So the yield to maturity incorporates two things there It incorporates the income but also the price that you paid for the bond And the expected price you get or the $100 you get at maturity Now if you need to sell prior to maturity that's when you could incur a loss Or equally if the company went into a wind up or defaulted on its assets And it started to have to sell its assets that's when there's the chance of a loss But this is quite a low risk event and in fact in the investment grade world If you like investment grade, Australian dollar denominated bonds Only three have ever defaulted They are HIH, Pazminco and Babcock and Brown International So it's been quite a long time since that last investment grade default And finally the global practice suggests that superannuation portfolio should contain Between 40 to 50% of bonds and should increase over time A few years ago the OECD did a study of 29 countries pension fund allocations Their portfolio allocations So you can imagine this was a very large study and incorporated pension funds From all 29 countries So what the study found was that Australians had the highest allocation to shares And the lowest allocation to bonds And we think that's really because most people don't understand the benefits that bonds bring to your portfolio What is also interesting is that Australian portfolios had the highest allocation to cash And that's because Australians have thought of cash as their defensive assets They haven't incorporated bonds into their defensive way of thinking Now the 29 countries, the average allocation to bonds from all countries to pension funds was 53% Big, big difference And that's mainly because pension funds, a lot of international pension funds Have defined benefit conditions where they must guarantee a certain payment to those investors in those superannuation funds So the company takes the risk, not the individual Whereas in Australia it's very much the individual takes the risk and not the company So then the company or the superannuation providers, their best way to attract new investors is to advertise their high returns When often high returns mean greater volatility and less surety So a big, big difference there, superannuation funds, globally those pension funds have a much bigger allocation to bonds And that's because they have that known income and the known return of capital And that then allows them a better chance of providing for those investors when they retire Here's a little tip for you Talk generally that we think investors should think about owning their age in bonds So if you're 70 for example, we'd suggest a 70% allocation And of course if you're much younger, if you're 30 or 40, you have time to make up any losses You're trying to grow your asset base, you would take on a bigger allocation to growth assets and a lower allocation to defensive assets I have seen a few instances where young people have made a lot of money early on in their careers And I'm thinking here of sports people, they've made lots of money playing AFL or rugby league or tennis And they're not expected to have the sort of length of career and the income over their lives that the rest of us do So in those instances we have investors who are young and who do invest quite substantial proportions of their allocation in bonds Okay, here we go, here's the three types of bonds that Cam was talking about before The first is a fixed rate bond and I was talking to you earlier about Stocklin That's a good example, so fixed rate bonds, that Stocklin bond pays interest of 8.25% per annum But that interest is paid half yearly so it's for every $100, it's $4, $12, and $12.5 So you have that certainty of that income and you can plan around that Fantastic for retirees and anyone wanting to build a cash flow So fixed rate bonds, as I mentioned, their prices go up and down quite a bit depending on economic conditions So high interest rates are a great time to buy fixed rate bonds, lock in that return And then as interest rates come down, as we've seen over the last few years, the prices of the bonds rise And the return available to investors in the secondary market, it comes down Now there's a number of other reasons why you would still buy fixed rate bonds at the low point in the cycle Which I think we're getting very close to now, but that is that they're completely certain, that income's certain And also it typically is higher than fixed rate, sorry, floating rate bonds of equivalent sort of maturity dates So you have that certainty for longer, there are strategies around buying fixed rate bonds in low rate markets Of course, interest rates still might be cut, so depending on your view, you would buy fixed rate bonds I think you would always have an allocation to them, but in recent years we'd advocated high allocation to fixed rate bonds I think if you were an existing investor in bonds, you might start to think about reweighting your portfolio towards more floating rate bonds If you think interest rates are at the low point So floating rate bonds work in almost the opposite way to fix rate bonds If you think of a boat on the ocean and the tides, the floating rate bonds, the income you earn will go up and down with the economic environment So it goes up and down and it's set to a variable benchmark So the interest on bonds and when they're first, when they're very first marketed or issued, there's a rate, they're quoted as a rate over the benchmark So it's normally bank bill swap rate, which is variable, plus a fixed rate margin So if you had a bond issued a few years ago at BBSW plus 3% and BBSW at that time was 5%, your income for the coming quarter So it's calculated on the very first day the bonds issued, they take BBSW plus the margin and that rate then is applied to the coming quarter When that interest for that quarter is paid, they then take the BBSW or the benchmark rate on that next date and apply the same margin So if interest rates or BBSW had come down over the quarter from 5% to 4%, then the interest for the coming quarter would be 4% plus the 3%, but then of course you have to do the quarterly calculation so it's not an annual payment that's divided by 4 So those floating rate bonds, because the interest income is always adjusting to what the market's expectations are of interest rates The bond prices don't move as much, they're much more stable So that's part of the benefit of those bonds, if you think you might want to sell prior to maturity, typically the prices are more stable But on the other hand if interest rates come off, you can make big gains on the fixed rate bonds And lastly inflation link bonds, these are very interesting and I think really where if you're new to bonds this is where you should first look because they're the only security that offers 100% hedge against inflation So they work similarly to the floating rate bond in that they're marked to a benchmark and that benchmarks the consumer price index But on the other hand they also have a fixed interest or fixed income component, so a bit like a fixed rate bond as well I'll talk about two main types here, the first is the capital index bond So these bonds, if you remember I said most bonds are issued with $100 face value These inflation link bonds are also issued with $100 face value But each quarter the value of inflation is added to that face value So if we had an inflation link bond was issued a year ago at $100 and inflation over the last year had been 3% The value of that bond, the face value of that bond would have risen to $103 So that if that company had to repay you tomorrow they would owe you $103 and not $100 So that's how they work We have Sydney Airport issue two of these bonds, a 2020 and a 2030 And the 2020 bond, the capital value of that now, Cam do you know what that is? Of the Sydney 30? Yes Sydney 30 Capital value is around $123 Okay, so that's if Sydney Airport had to repay you tomorrow that's the amount that you would earn The benefit of these bonds is that fixed income on top of the fixed interest payment on top of that adjustment for inflation Is paid on the growing face value So if you have a set 3% margin at when it's $100 you're getting a $3 return If that $100 grows to be the $123 that 3% interest is then calculated on the higher face value of the bond I'm hoping that makes sense If it doesn't please type in the question and we'll have another go at explaining it The second inflationing bond is called an index annuity bond And again these work completely differently to the capital index bond You would invest a lump sum up front into these companies entities into the bonds And then the company then returns you quarterly principal and interest So it's returning your principal over the life of the bond So principal and interest they're great for cash flow if you're in retirement And you're happy to use some of that capital to live So a good example here is the Melbourne Convention Centre They have one of these index annuity bonds And it's very long term maturity of 2033 And I looked at one just recently and you know you get very attractive cash flow Principal and interest over the quarterly over the term right to maturity So you have that certainty, there's a base rate calculation there And inflation is added to that base rate calculation If you want more information we can certainly send it out to you Okay, here is the most important diagram of the presentation I think It's a simplified bank capital structure What it shows is the priority of payments should a bank go into a wind up or a liquidation So you can see it's sort of like rungs on a ladder The top rung is the lowest risk investment and it is repaid first So you can imagine if assets are sold the receivers that have income or cash They pay out first that top rung And that top rung must be completely repaid before the next rungs were paid And so on and so on till you get to the very lowest rung the shares Where the opposite is also true So as losses are encountered the shareholders are in the first loss position So as a shareholder you are taking the highest risk in the capital structure I'm just going to click here and show you where the bonds sit So bonds sit at three positions in the capital structure They sit at the very highest level, the senior secured debt or covered bonds As they're known for banks So with a bank covered bond they set aside 8% of their mortgage loan pool And those mortgages secure the bonds If anything happens to the bank those investors are paid out of that security And they're repaid first, no one else can touch that mortgage loan pool We come down to term deposits, they're a very low risk investment And there is the government guarantee but that does sit outside the bank's own capital structure And term deposits have that maturity date and the certainty of income But there is no defined security if you like There's no mortgage pool or there's no property or whatever it is securing those term deposits So we're coming down the capital structure now and we're taking on more risk So the next level is senior unsecured debt or senior bonds They sit just under term deposits in the capital structure for banks They are generally low risk investments Typically for banks, banks issue senior debt for 5 years And it can be fixed or floating or inflation linked And you have certain income payment dates so you have that certainty and you have maturity date Albeit there is no defined security as such like there is with the senior secured bonds Coming down the structure a little bit more we get to the subordinated debt or subordinated bonds These typically have longer terms to final maturity So with the banks it's out to 10 years is the final maturity date So the risk there is that as there's longer terms to maturity there's more uncertainty You're not so certain of the banks or the company's position You're taking on more risk and you are paid more, you should be being paid more But with subordinated debt in the past with banks they've had a call date Which means at a certain date, typically after 5 years The bank can repay those bond investors It's not obliged to but it can And the senior banks in Australia have always paid after that 5 year first call On that subordinated debt Not all the banks globally have And the risk there that they take is that the market next time they want to come to the market The market says well we don't trust that you're going to pay us at the first opportunity And you have to pay us more to issue that debt New bank subordinated debt has what's called a non viability cause As do the hybrids that sit underneath So at APRA's discretion who is the regulator APRA can say well I think you guys are non viable And under that cause subordinated debt and hybrids both convert to shares So they convert to shares to top up capital and support the more senior investors in the structure So they want this bank to survive So they're supporting the bond holders and the term deposit investors And the secured bond holders, their positions So there is that cause where here you're starting to look at risk and return Am I being paid the question you should always ask is Am I being paid enough for the risk I'm undertaking If we move down to hybrids, hybrids have of course the call date similar to subordinated debt But we've seen up until very recently the banks have been extending that call date out to That first call date out to about eight years Which again they're asking investors to take on more of the risk And most of the hybrids now if they're not called You know within their call structure they become perpetual Which means for you to get your money back you have to sell them And then you then take on the risk of what the market price is for those investments So hybrids have much longer terms or perpetual status in terms of maturity They also the banks now can not pay income without any serious consequences So they can actually forgo income to investors So while hybrids bank hybrids are often sold as good income propositions And I think you know mostly that they are because their higher risk structures And can be converted to shares you're taking on more risk much more of a share like risk Without the upside that the shares might have in terms of higher prices and higher dividends One other thing with hybrids they have another conversion to shares clause And it's called capital trigger So if the banks capital falls below 5.125% then hybrids automatically convert to shares One of the things with that sort of structure is that there are no guidelines about how it would transpire We haven't seen it happen before in Australia where there's that conversion So if for any reason APRA defined a bank as being non-viable Or the bank hit the capital trigger clause And we do think the capital trigger clause would happen first The value of the shares then would be plummeting We don't know how long it would take for them to convert your hybrids into shares And when you would then have the opportunity to sell So the shareholders may in fact have a higher position in the structure If the worst were to happen Now we've seen just this year really hybrids have underperformed And I think that's the market realising the risk involved in them And demanding higher returns So investors have sold out of listed hybrids I think probably in largely favour of the shares that have done much better in recent months Just one other button I'm going to click here and you'll see it comes up What's fixed income? Fixed income is a large part of the capital structure So it's all the bonds and hybrid and term deposits So at FIG we do have a term deposit brokerage business And where we get term deposit rates from about 60 institutions every day So if you're a term deposit investor it's always worth getting a quote from us And I found just recently I had a friend who wanted to get a quote from us He was banking with ANZ and we got a 25.25% higher return for him He went back to ANZ, they then have matched that Which you know it's not surprising but it's worth shopping around for term deposits Hybrids while we don't like the new style hybrids We do sell some older style hybrids that don't have those conversion clauses in them So there are still some interesting investments there I guess in summing up this slide it's worth thinking about the risk and the return in your portfolio Do you have enough of a range of investments? A lot of investors will only have term deposit and shares And will miss out on those other rungs in the ladder Where they can either take some of the risk off the table in terms of their share portfolio And invest in bonds or they can get higher returns and term deposits by investing in bonds Okay this is how the capital structure translates in the market We've purposely looked at a volatile high risk stress event, the GFC You won't be surprised to hear And we've invested $100 in three securities The Senior Bank bonds, Commonwealth Bank, Pearls, a hybrid and a CBA equity What we've done is we've added back to each of those lines the income And the dividend franking if applicable Well certainly is applicable to the shares or the equity and the hybrid So the green line there is a major bank senior accumulation index So we've actually combined trading of all the major banks to give a smooth line over a long period Because you remember I said that senior bank bonds typically are only for five years To get it to show you over this period we needed to have a longer accumulation index if you like Which is using all the four banks senior bonds But you can see it's gently upward sloping, it's very consistent There aren't any surprises In fact you might see a slight rise in the line around March 09 That's because investors were selling down higher risk securities And investing in lower risk protective investments like senior bank bonds If we go to the mid blue line that's the hybrid And you can see it's a little bit more volatile And at the low point March 09 you would have lost about 30% of your capital value If you were a full seller at that point The hybrid then recovers still quite a little bit of volatility Interestingly it's never caught the senior bank bonds over that period And the last line is the shares, the CBA shares the equity in the dark blue And you'll see quite a lot more volatility which is exactly what you would expect In a stressed market The $100 at the low point that capital value you would have lost about 55% of your capital value Quite a hit to those retirees or those just about to retire in the GFC The share then recovers and almost hits the bond or catches the bond in about April 2010 It actually takes around about five years in early 2013 for it to overtake the senior bank bonds in terms of total return So a couple of things here, I think the big one is volatility of high risk investments And that you need to invest in a range of risk and return assets to protect yourself So had you had Commonwealth Bank senior bonds over that period You could have sold them if you needed the money and waited for the recovery in your shares If you didn't, if you weren't, you didn't have that capacity You might have been a full seller at the bottom of the market The other thing I like to point out here is that I've been an analyst for many years And when I look at the Commonwealth Bank on the ASX To me that is the lowest risk company So this is what happened to the lowest risk company You can imagine some of the single or miners or the mining services companies or development companies The volatility is much greater Do we have any questions, Cam, at this point before I move on? Yes, we do, Liz. I can answer a couple of questions now So a question that often comes up has been asked by Laura Laura asks what the difference between a retail and a wholesale investor This is a delineation which is part of the Corporations Act So it's legislation that we need to follow here in Australia Each investor needs to be defined as either retail or wholesale There are different levels of disclosure depending upon the type of investor that you are deemed The basic split is based on assets So as per the Corporations Act, if you are in control of net assets of $2.5 million or above Then that defines you as a wholesale investor If you don't have $2.5 million net assets or control $2.5 million in assets You are a retail investor So there is another way to meet that test and that's also through income So if you were earning $250,000 per annum for the last two years gross Then you also classify as a wholesale investor The key differences when investing, as I said, there are different levels of disclosure There are some bonds which are restricted to wholesale investors only And credit rating information from the credit rating agencies like Standard & Poor's and Moody's Is also restricted only to wholesale investors So there are a few differences there And that's something that your accountant will be familiar with and can help you to arrange Kenneth also asks about bond volatility and recent bond sell-off Or what causes a bond sell-off or what causes bonds to rally And really the answer to that is future expectations of yields or interest rates And economic growth So that is largely driven by government bond yields So of late what we've seen is a rise in expectations out of the US And so what we've seen is US treasuries or those government bond yields The yields go up and as yields go up bond prices go down It's an inverse relationship so that's flowed on a little bit through here So it's really a change in future forecasts around what's going to happen with interest rates That would change the present value of bonds Okay Liz? Great thanks Cam Okay this next slide is not one of figs It's actually UBS slide and it's the Composite Bond Index And it compares to the ASX 200 accumulation index So again these two indices are adding back interest income But this graph is a much longer period so it starts in September 1989 Unfortunately it finishes in September 13 The index it was UBS but UBS sold this index to Bloomberg So it doesn't continue beyond there But I think it still has a few lessons for us if you like So the UBS Composite Bond Index which is made up of about 70% government bonds And about 30% corporate bonds is the light blue line here And you can see it's very consistent, upward sloping Really not too many peaks or troughs It does interestingly outperform S&P or the ASX 200 accumulation index And that period was a period of high inflation and high interest rates And so government bonds then when they were issued and they were fixed And offering high rates they outperformed shares over that longer period If we look at the darker blue line which is the ASX 200 accumulation index You can see the volatility here So September 02 is perhaps a recent low if you like And then there's a steep trajectory up So it goes from under 3,000 points up to 8,000 points Lovely high If you bought at the low and sold at the high congratulations I haven't met too many people that have but I do know some And then of course you get the trough after that peak in about late 2008 It goes up again and then it's down and up and down and up Over the long period here the return on the ASX 200 accumulation index is 10.14% Over the UBS composite bond index it's 9.58 or something like that So the difference over sort of the 24 years of this graph Is around about a half a percent difference in the return If we go back to that capital structure diagram And we look at where the bonds sit and where the shares sit And the risks you're taking this isn't actually what you would expect over such a long period So that leads me to ask you what's your risk appetite I think this picture's really funny I would never eat this hamburger with all that cheese But her eyes are popping out she's clearly going to enjoy herself I think people are attracted naturally attracted by high returns But it's really important to own a range of assets to protect yourself In a distress market or a decline or a downturn if there's a downturn So I like to say to people what's your risk appetite What sorts of volatility are you prepared to endure Higher risk definitely means an increased chance of loss And that volatility in prices So you want to protect yourself at the bottom You don't want to ever be a force seller And that's why you would own a range of investments in your portfolio Lastly I really like this diagram as well of the surfer on the broken surfboard I don't know how they've got that I'm sure there's some smart technology that they use anyway But the point here being if you lose capital at the wrong point It can wipe out your future earnings If you are just about to retire you have a lovely nest egg And there's a big event and you lose half your capital I know people that were forced to continue working Or if they'd already retire they really didn't have the sort of future retirement that they'd planned to have So on that basis I'm now going to hand over to Cam Who's going to talk you through a bit more about the processes And give you some tips on some of the bonds that we like at the moment So thanks Cam Thank you Liz So just a little bit about myself and my role here at FIG as it compares to Liz's So my role is as associate director in the fixed income sales team And what that means is that primarily on the relationship manager Looking after private investors and helping investors to Helping to educate investors about how to add value to their portfolio through bonds Setting up portfolios and the ongoing maintenance of their portfolios Bonds do change their value throughout the term and they're liquid instruments So there are opportunities to sell one bond and buy another And de-risk and or improve your position And that's something that I help private investors A large majority of whom are running self-made super funds That's what I do on a daily basis So that's the aspect from which I am coming today Now in terms of onto the next slide The question that often comes up and I think has been asked here online today Is how does FIG make money? So FIG buys and sells bonds externally in large parcels Now as a minimum that's normally 500,000 Sometimes that'll be multiple millions of dollars depending upon demand from our investors So because we're buying in such volumes in the institutional market We're going to pay a certain price for those bonds So in the example given on this screen The mark or the price that we might pay might be $99 in the middle there If you then wish to buy some of us Probably in a smaller parcel than what we've bought it We'll charge you $100 And that $1 difference is how FIG makes its money Should you wish to then sell on the other side We might give you $98 This isn't known as the buy-sell spread or the bid-off spread Now those dollar amounts are not an exact science It's actually primarily done in basis points So what we will actually do is buy a bond at a yield of 6% And on-sell at 5.8% And the 20 basis points might be how we make our money So roughly translated it would come out to that sort of level Those costs cover everything to do with FIG Around research, your online capabilities, custody, etc There's no charge on your account until assets are held in custody And then there is a small ongoing fee for the custody service Through JPMorgan This equates down to around 8 basis points per annum Which on $100,000 means about $80 a year And that's just passing on our costs from JPMorgan So you do need to have a custodian in order to hold bonds It doesn't need to be our custodian But any other custodian is going to charge significantly more than that in the market But that's how FIG makes its money There's no other ongoing costs If you were to set up a portfolio today And not want to speak to me for 5 years Then you could do that And the only fee you would have paid would have been the side from the small custody cost The only other fee is that transactional cost when you bought a bond So that's how FIG makes money on what we call the secondary market These are bonds that are trading in the secondary market The other way in which FIG earns money is through new bond issues Or otherwise known as the primary market FIG will seek to put entities or companies in touch with our investors And match a demand on both sides So we will seek to raise money for a particular company And that company might raise a bond for a variety of reasons Particularly with rates being low as they are Many companies looking to refinance existing debt at lower levels than perhaps they've had previously Issuing a bond also gives them greater control over their sources of funding Banks will tend to only lend money to companies for 2 or 3 years Whereas a company can issue a bond and lock in that money for 5 years, 10 years, 15 years Depending upon the term set So wholesale investors have an opportunity to buy into new issues on the primary market In which case that is simply at the issue price of 100 There is no fee for doing that FIG derives a fee from the issuer in that situation So that can be a really great way to enter the market It can be as simple as buy a bond for $100 Get a 7% return for 5 years and get $100 back It can be that easy FIG also administers and brokers term deposits We work with 25 to 40 different authorised deposit taking institutions To provide different levels of term deposits And will provide a daily rate sheet highlighting the best rate from 30 days through to 5 years Point 4 on that slide There's a new addition to FIG and this is called the Managed Income Portfolio Service A bit of a mouthful we call it MIPS That essentially is where FIG will professionally manage that portfolio for you Outside of that, in the standard custodial service You have a say over what is bought and sold And will use our general advice to do so But the control remains with you Managed income portfolio service You're effectively putting an amount of money into that service To have it invested under certain guidelines or within certain mandates And we will manage that for you So as opposed to paying a transactional fee There is an ongoing management fee for that I think it's 0.85% per annum So if you want to have exposure to the fixed income market And still want to have direct ownership This is not a fund You still have direct ownership of your bonds But you want to hand over the responsibility of managing that to the professionals Then you can do so via MIPS Okay, on to the next slide So top picks currently And we've deliberately chosen one of each type of bond You can see we have one fixed rate, one floating rate And one inflation link bond Qantas has been discussed today And it's a wonderful example of how bonds and equities need to be viewed differently So Qantas has a fixed rate bond With just under 7 years remaining on it With a yield to maturity of 5.42 So that actually has a fixed coupon of 7.75% And a yield to maturity of 5.42 So that means that bonds trading Add a premium to its face value But it will give an excellent cash flow Or running yield of around 7% for the next 7 years The floating rate note is from G8 Education That's been a very successful story If anyone might know G8 They're an ASX listed company And doing some great things in that space They have a floating rate note This is quite short Less than 3 years to run It pays back bill swap rate Plus 3.90% So that will move Depending upon what happens at the interest rate So if you are of the view that rates are going to go up Then a floating rate note like this Would look attractive to you Because the income that you derive Will increase as interest rates increase So yield to maturity for less than 3 years Is 5.43 Which is excellent for such a short time frame Lastly, Sydney Airport This is a capital index bond So Liz touched on it earlier This will compound over time with inflation So that rate there of 5.77 That assumes a 2.5% rate of CPI So more accurately what you're getting there is CPI Plus 3.27 So if CPI was to drop to 2 Then that return will be a little lower If CPI was to spike to 3 Then your inflation rate is going to return So for anyone who thinks that That inflation is going to break out over time With all this rate cutting And printing of money around the world If you're heading for an inflation breakout Down the line Then the Sydney Airport bond Would be an excellent way to go To ensure that there's no other inflation Heads like this in the market Cam, I think it's worth just talking there About what happened with inflation in the 80s When it was over 10% for a number of years That bond then would pay income Or equivalent of 13% over time So if you're a retiree You spend more of your money Or income on consumables Which have that inflation component So inflation bonds are very protective For retirees in their portfolio And again as I mentioned earlier I think most investors don't have That inflation hedge And I think it's a good place to start If you're new to bonds and fixed income Yeah certainly The capital index bonds like Sydney Airport And there are others Which these are senior secured bonds These capital index bonds are senior secured They tend to be issued by infrastructure companies So they're very defensive And what they do is give you that That inflation protection And as an example of late If you compare it to say a term deposit Now a three year term deposit Might be giving you 3% If you're lucky Now if you consider that inflation is 2% And particularly if you're in a situation Where you're paying tax on your income Then you're barely bragging even on that level Potentially you could be going backwards So here a bond like Sydney Airport You're going to get an income of over 3% Plus you're getting CPI So you're sort of getting that as a free kick In what is still a very defensive Senior secured asset So I think for anyone who is in cash And worried about the returns There's something like this Is not a huge change in risk For what is a substantial uptick over time Okay The next steps So in terms of logistics around Opening an account and getting trading with FIG Register to receive the wire You may be getting that already That is our weekly e-newsletter It comes out every Wednesday morning Liz and her team work Late into the hours of Tuesday To produce some stimulating reading For you on a Wednesday morning So that's a great way to get up to speed With what's happening in bond markets And to continue your education there Should you wish to open an account There's no cost for opening an account But you cannot buy or sell bonds Until you have an account open With a big like opening a bank account Or a share trading account We've got to verify your identity And the validity of your investing account Once the account is open And that normally takes us less than 24 hours After you've received your forms You are ready to invest And the way to do that Would certainly be to have a chat With someone on the sales desk Like myself from wherever you happen To be around the country They'll be able to help you with getting Your account open and start talking About what sort of bonds you're interested in What are you looking at from your bond portfolio How much you're looking to invest And it really is a back and forth To get the right mix of bonds for you There are 250-odd bonds available And it's all about Getting the right mix for you I guess you would look to have A bit of diversification in terms of Something fixed, something floating Something inflation-linked That will give you protection Across a range of economic environments So that's a good start And then depending upon your view on rates You could weight that one way or another The other sort of final piece of advice I'll give people, if you're starting out in bonds Invest as if you're going to hold to maturity That is the key differential between Investing in a bond and investing in a share You have a known outcome So when you see that, we will say YTM Or yield to maturity That's the end result If you hold it to maturity And that's your known outcome If you're happy with that number Buy the bond, if you're not, don't There will be opportunities to buy And sell throughout the term But you've always got that maturity As a backstop So invest on that basis The trading side of it comes later About FIG FIG, we are the largest fixed income Specialist in Australia Starting in 1998 Here in Brisbane Started by some fixed income professionals Who had worked in fixed income markets Around the world And wanted to grow the market in Australia Where it was significantly underrepresented So we've been working hard Within the legislation And helping to change legislation To open up bonds to private investors Six years ago you could only buy bonds In $500,000 parcels So it was primarily the domain Of investment banks And large superannuation funds So slightly that's changing And everyday investors Are getting more of a shot At what the institutional markets Have been enjoying for decades We now have over 6,500 clients And more joining every month $11 billion under investment So that is comprised Of around $3 billion in bonds And around $8 billion in term deposits So that's across private investors But we also look after a range Of corporates, charities, councils, universities All sorts of different investors Coming through FIG We transact over a billion dollars In bonds a month And we have over a billion dollars In offshore bonds Primarily US dollar market At the moment I think has been the area That people are looking at Liz did touch on foreign currency Foreign currency bonds If you have money in those currencies That's great If you don't We can help with that We're not... We can do Foreign currency through our bank So that you are able to buy bonds In US dollars If you had a feeling that The US dollar would strengthen against the Aussie Then holding US dollar dominated assets Could work to your advantage Because coupons are paid in US dollars And then convert it back into Australian dollars And pay to your account So if the Aussie dollar falls Then the amount you're going to receive is greater Of course the reverse is also true If the Aussie was to ever reach Its highs of what was it Dollar 8 against the US Then your income would fall But that's been quite a successful strategy For some investors over the last 12 to 18 months We're also now able to order online So you can buy and sell bonds online There's a facility to check pricing And buy and sell via our website Once you have an account And as we've touched on We have the new MIPS For managed investment portfolio service Which is the first of its kind Here in Australia That now really concludes The main part of our presentation And I'll just give Cam a minute To catch his breath And check and see if there's Any questions there A couple of things I just want to add There's a lot of information We have for new investors We have a new website for our wire And it's www.thewireatfeed.com.au And we're continually uploading articles And new stories to that website now The email comes out on the Wednesday And summarizes most of the things We've done But that website will enable you To find educational articles Or research on specific companies Or any comments We've made on interest rates There was an excellent article this week About retirement That has been well received So well worth having a look at that website Of course, we do Do webinars fairly regularly And there is a quarterly expert series That we run And the next one of those Is due just next week And that's on tax And Ernest Chang Our Pricewaterhouse tax partner Is coming to deliver that So we do bring external experts Into our business to give information To our clients We do have an awful lot available Cam, is there any last questions That we want to discuss? Quite a lot of words Just one question About foreign currency bonds Versus straight currency and fees There's no difference in fixed fees there I think we'll make money On the buy-sell spread We don't make money on the foreign exchange We're not licensed to get foreign exchange advice Or offering that market That's simply done through our bank They take a few basis points But get excellent exchange rates Through the bank Chris has asked About buying some bonds online once registered Yes, you can Although you will find If it's your first trade It does need to come through a person For verification After that Once you are trading And have bonds in custody Yes, you can buy and sell bonds Via the online facility Chris also asked What's the minimum amount Needed to be deposited Into the figure count And the very simple answer There's nothing You don't need to pay us anything To get started We simply We don't hold any of your money We simply link into Your existing bank account So whoever you bank with now That's fine You can leave your money there When you want to buy a bond We will send you a contract note The same way you would get If you bought a share Telling you that We have bought the bond It's going to settle in three days time And we are going to debit The money from your known account On such and such a date So there is no other money Required over to us We simply You simply give us Authorization on your existing Bank facility And we will pay coupons Directly back into that Bank facility So I think The next step really If you're interested In having a chat Further about your own Situation And how to get started With FIG would be to contact A relationship manager In your local areas That I'm in Brisbane But we have officers In Sydney, Melbourne and Perth Also so Please get in touch With your local office Will be the best way To further proceed Thank you Thanks, Cam I think that just about Rounds it up I want to thank you all For joining us here today If you have any questions We're very accessible As myself and the research team As well If you have any specific questions About companies We have a lot of information Available on our website Thanks very much For joining us today We hope to present To you again soon Or that you'll join us again soon For another webinar But this now concludes