Government bonds arrive for retail investors

Legislation passed through parliament yesterday that followed through on a promise by “the world’s greatest treasurer” Wayne Swan that Government bonds will be listed for the retail market (I nearly said the ASX but now we have to be generic as we have Chi-X as well). the Treasurer took his time getting the legislation together but now we have it in place.

We have not had a developed retail bond market in this country and the need had been suggested frequently but with low interest rates worldwide in the 2000s nobody was in a rush to promote it beyond the discussion stage. For a decaede the banks found it easier to borrow cheaply overseas and the surplus experienced by previous governments saw them reducing debt rather than developing the market. The typical Australian investor was not interested either as the year on year growth in share values compounded by the addition of franked dividends made a poor case for bonds

Then, you guessed it, the GFC came along and the tables turned, market volatility became the norm, growth disappeared, risk became a dirty word and sources of overseas finance disappeared for some time before reappearing but with a much higher spread from new issues. Investors, especially the new growing SMSF sector, scurried towards “The Guarantee”. The amount of cash raised as result of  the chase for certainty of return cannot be under-estimated, even as rates dropped.

The opportunity to invest in government debt, both federal, state and the securitised debt of our major blue-chip companies would, you would think, be an attractive asset allocation for risk shy investors including SMSF trustees.

But take a look at the current yields on Australian Government Bonds, which you can see in the table below, and it is clear that they are struggling to get over 3.12% for the 10 year and lower still for shorter durations.

Australian Government Bonds

COUPON

MATURITY

PRICE/YIELD

1-Year

5.500

12/15/2013

103.09 / 2.64

2-Year

4.500

10/21/2014

103.68 / 2.56

3-Year

4.750

10/21/2015

106.20 / 2.56

4-Year

4.750

06/15/2016

107.49 / 2.56

5-Year

4.250

07/21/2017

107.05 / 2.65

6-Year

5.500

01/21/2018

113.48 / 2.71

7-Year

5.250

03/15/2019

114.29 / 2.78

8-Year

5.750

05/15/2021

120.83 / 2.97

9-Year

5.750

07/15/2022

122.50 / 3.05

10-Year

5.500

04/21/2023

121.10 / 3.12

15-Year

4.750

04/21/2027

115.12 / 3.42

 

One of the reasons for this is that our Government Bonds are in high demand from overseas governments and pension funds which, under their operating rules, must hold a high percentage of AAA securities. Guess what? There aren’t so many of those around any more, so at the moment over 80% of our Government Bonds are owned by overseas institutions. This high demand has driven down the yields significantly.

Currently it is the corporate issues that are being sought after by retail investors with credit spreads far above those available prior to the GFC and with a risk premium high enough in comparison to Term Deposit Rates and Government Bonds to be attractive. Every issue I have seen this year has been substantially over subscribed, even the ones I would not touch.

Then there are term deposits themselves which still yield 4.75%+ with a government guarantee for 5 years and are thus more or less the same as the sovereign anyway.

So, although it is good news in the long-term for the retail investment community that we will be able to access what will effectively be an investment that can be considered a “risk free” solution, I do not expect a rush to acquire the first issues as the net return after inflation of the government bond sector is simply unattractive.

Liam Shorte is the SMSF expert adviser at Macro Investor. Don’t miss his current series on the principles of good SMSF management. A free 21 day trial is available.

Comments

  1. HnH Just a question of mechanics (sorry to be ignorant!)…are we making it easier for overseas funds to buy the bonds or are we simply making it easier for them to get in and out of them and trade them?
    Does the govt now issue the bonds through the ASX/ChiX or is the issuance and the trading a totally separate issue?

    • No, its making it easier for retail investors – you and me – to buy government bonds, without having to stump up $100,000 and pay the massive fees the RBA charges.

      This is a good thing – we need a mature bond market supported by a large swathe of government bonds, so corporates and other entities can more easily raise debt for financial productivity, instead of relying on IPOs and share issues. This provides more income options for retirees whilst giving businesses easier financing options.

      Not all debt is bad – particularly government debt. Unfortunately both sides of politics have been scared into bejesus by the awful government debt problems in Europe (mostly caused by private debt or over consumption as you know Flawse), and totally ignore our foreign and private debt problem, squabbling over our paltry Federal government debt levels….

      • TP – I never had a problem investing amounts smaller than $100,000 though having to send off a paper cheque via physical post did seem to be ridiculous in this day and age.

      • Thanks Prince I was just trying to clarify mechanics and your answer well supplied that for me.

        We’ll continue the discussion of the worthiness of new Govt debt under more relevant and less general headings.

        P.S. I do get very very tired of Lib/NP politicians ranting on about Govt debt! It’s the minor problem as you well point out!
        I might have to get off my ass pay a membership and go see if I can change things. Every time I’ve tried it’s a most disillusioning experience!

        • Yes yes yes … but … our govt debt level will no longer be a “minor problem” when (not if) our private sector debts (ie, banks) get bailed out. cf Ireland.

          Our disgraceful politicians bicker over our public debt levels for the wrong reasons. That’s all.

          • “Our disgraceful politicians bicker over our public debt levels for the wrong reasons. That’s all.”

            Exactly right Opinion8red.

            I wouldn’t be worried about our current level of government debt IF (and only if) we didn’t have such massive levels of private debt. I’ll bet that at least some of that private debt with be “socialised” at some stage during the next ten years.

    • No worries Flawse, as the newbie I have to earn my stripes!

      Price has hit the nail on the head. We need a developed retail bond market here in australia where people can invest in low to high risk debt as suits their own particluar needs. This is currently availbale to the HNW segment but soon it will be develop and become the norm for retail investors too.

      As Prince said we need to ensure Governments are careful with debt but do not shun it as we want infrastructure and amenities and Public Private Partnerships are not the only answer as for National & State significant projects we may prefer the funding to be 100% government led.

  2. The illustration accompanying this article reminds me of everything that is wrong with the world of finance today. Rule Number One – “I promise to pay…” not longer applies. Sorry to hijack this article with red mist.

    • The term ‘clutching at straws’ should be applied here.

      An excerpt from our friends in USA courtesy of Paul C. Roberts who always has something interesting to say:

      “Lower interest rates raise the value of the debt instruments on the banks’ balance sheets. By depriving American savers of a real interest rate on their savings, Bernanke makes the busted banks look solvent.

      On September 13, Federal Reserve Chairman Ben “Helicopter” Bernanke announced Quantitative Easing 3. Bernanke said that the recovery is weak and needs more Fed stimulus. He said the Fed will purchase $40 billion of mortgage bonds per month in order to drive interest rates further below the rate of inflation and help to sell more houses.

      But how do you sell houses to households who are getting by with 1967-68 levels of real income and who have absolutely no job security? Their company can be taken over and offshored tomorrow or they can be replaced by foreign workers on H-1B visas. Housing prices have dropped, but not to 1967-68 levels.”

      The question we need to ask ourselves in Australia, just what is our purchasing power in Australia with supposedly high wages?

      My answer is sweet F…all.

      Cheers and have a nice day folks.

      • Two great points.

        1. All this (right from the very start) is about protecting bank balance sheets. A liquidity crisis from falling asset values is considered to horrible to consider. So the wealthy asset owning speculators get protected and the income earning punters get the usual ‘your lucky to have a job mate’.

        2. In Australia any purchasing power we have from our high wages is immediately soaked up with higher personal debt for residential. It is illusory.

        What surprises me, is that in a truly cynical world, the bond holders (the most powerful financial players) would have been happy to let asset prices collapse as asset price deflation makes them rich. Is there a gap forming between the now politically powerful banking sector and the previously powerful bond merchants?

      • Thanks for that, Great comments Tea Merchant, agree 100%.

        BB’s job has and always will be to first and foremost make his Masters (the Owners of the Fed) whole. And every Administration knows this is the Fed’s overarching priority ie maintaining the primacy of those favoured Banks.

        The Fed’s role since 2008 is to provide life support to the NY Banks and the US Banking system. Expanding it’s balance sheet has been the primary tool for this. The hope has been that during that period the private sector would see demand coming back and credit expansion would return to normal and with it Bank prosperity. It hasn’t. Consequently, I see the S&P as currently being in dreamland.

        • Consequently, I see the S&P as currently being in dreamland.

          It's only that high because bond yields are so ridiculously low.

  3. It is an excellent proposal and long overdue.

    As for the concern re the current low yields due to cheap overseas money and central banks diversifying, the solution is simple, create a class of securities that can only be held by domestic retail investors.

    That will mean yields will better reflect domestic economic conditions and what is required to attract local investment.

    Time to reduce our dependence on the printed money of foreigners and the financial repression of developing world savers by their mercantalist govts.

    • Pfh007

      Surely if they did as you suggest the Government would end up paying more for borrowing from local investors – imagine the oppositions reponse about wasting taxpayers funds!

      • True, some pollie would need to ‘dig deep’ and explain the many downsides of depending on foreigners excessively investment financing rather than developing domestic habits of saving and investment.

        The idea that a wealthy developed country like Australia ‘must’ depend on investment decisions and capital of others rather than be an investing nation is one item of received ‘wisdom’ that ought to be put out to pasture.

        It might be a very good wakeup call to see just how much an Australian Government has to ‘pay’ the locals to get them to’invest’ voluntarily in the country.

        http://www.youtube.com/watch?v=rQdajpl2TXk

      • “imagine the oppositions reponse about wasting taxpayers funds!”

        Are we protecting the Labor oligarchs here or are we discussing what is right and wrong and how it might be implemented?

        We are, more or less, as one in here that the A$ needs to be pulled down. Most of us recognise, to a greater or lesser extent, that the main problem is capital flows and of those capital flows the specualtive flows resulting from foreign CB printing is the worst of the problems. So surely Pfh’s proposal merits a better response.

        Pfh As per one of my posts after I had a duh! moment I think that rate is about the same as people PAY on their mortgages. Our ‘saving’ at the moment is not savings so much as paying off the mortgage debt…fair indicator I’d have thought?

        • Yes – 5 – 7% if inflation is about 2.5% seems about right.

          A spread of at least 3% is probably bare minimum to encourage savings when fear is not driving attitudes.

  4. Those rates are not all that different from long term US govt bonds. That’s probably by design, to stop too much money seeking a home in the AUD.

      • It is actually then low number of issues by the Aussie Government that is stemming the flow of investment which is now in part being diverted to our Blue chips.

        Which still look like incredible bargains by comparison, even taking into account a bigger than usual risk factor. Yields of 6% fully franked are hard to ignore.

  5. Is foreign demand for australian T-bond drying up and is that the reason they’re on offer for the general public ?

    • No the demand from overseas is strong and infact more and more countries are jumping in and using Australian bonds as part of their portfolio strategy.

  6. I presume retail investors will be able to access via wrap accounts as well.
    When will they be available on the market

    • Yes Jack as they will be listed you can expect your Wrap account to be offerring them as soon as available. Be aware that at 3.12% for a 10 year bond that after paying the Wrap platform fee you may be lucky to see 2.5%

      • Paying 0.45% in total but yeah better off at present with term deposits which have no fees whereas bonds will be charged the same as shares and will pay $292 plus 0.09 for the privilige.. when you take the 15% on earnings into account I will be lucky to clear 2.2%
        Cant see value in a 10 year bond.

        • I’m kinda in agreement with this – the best money from bonds has probably already been made, and down-side risk is starting to mount.

          Unless you were a really gloomy deflationista bonds are looking a bit shaky?

          Cash in Aus in government backed – not a bad rate for a guaranteed product.

          • “Unless you were a really gloomy deflationista bonds are looking a bit shaky?”

            I do tend to agree aj, but the continued drop in US government bonds has surprised me. Maybe our government debt will head the same way? Either way, I just sold my 10yr bonds for a handy 35% capital gain.

  7. Retail bonds coming on the market just at the time when many are starting to get very edgy about a bond bubble.

    There might be some fingers burned here.

  8. You gotta love the market

    Everyone wants AUD GB’s AFTER the yield has fallen from 6% to 3%

    Bubbles Bubbles everywhere and the smart money looking for liquidity to off-load and dupe the retail SMSF’s

    When will the small end of town ever wake up?

  9. PETER_W

    To be fair the governement had indicated a wish to put this system in place while rates were pretty high 2 years ago.

    There is also no shortage of overseas buyers in this sector so it is not as if it is a over supply issue.