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The thrill of bonds

Article

A good look at the actual risks of these allegedly low-risk instruments is enough to get the adrenaline pumping

PUBLICATION: FINANCIAL MAIL | WRITER: STEPHEN CRANSTON | DATE: 21/09/2017

The highlight of the BDFM Investment Summit last week in Johannesburg was the talk on bonds. It may seem an unlikely topic to get the adrenaline pumping but it was delivered by Andrew Canter’s Futuregrowth.

Canter was the first person to make bonds interesting to me, when there was just a smattering of nongovernment bonds from Transnet and Eskom.

This was when Eskom was still considered a well-run business, proving to many that state enterprises could be efficient.

A year ago Canter stopped making loans to all major state-owned enterprises, or buying their bonds. The lack of support from Futuregrowth’s controlling company, Old Mutual, was frankly disgraceful.

Futuregrowth spelt out what it was thinking — and who can doubt it in this era of state capture, where SOEs’ reputations have sunk to even lower depths?

Canter did not speak at our conference but his stand-in, Olga Constantatos, did. She is called the credit and equity process manager, so does most of the heavy lifting at the shop.

I had not realised the extent to which the rules of the debt market were so much more lax than those of equities, even though both are part of the JSE. Constantatos says a listed company would never be allowed to function for six months without a board, yet this was the situation at Umgeni Water, with R1.5bn of bonds held by institutions on behalf of hardworking savers. There is very little transparency in the corporate governance of the parastatals. Constantatos wonders how only three of the seven directors of the Development Bank of Southern Africa chosen by its appointments committee ended up on the board.

Payment delayed

Bondholders have little power to negotiate when bonds are restructured. They were barely consulted when PPC, instead of paying back its maturing loans, put off the payment for a further three months with an insulting 0.25% increase in the coupon. In theory the rating agencies should be there to flag problems.

There is still a perception that bonds are less risky investments. Yet there is an important difference. When equities do well the upside is unlimited, though equity prices can still fall to zero.

Bonds can also go down to zero or very little — look at First Strut, African Bank or Edcon. The market for large government bonds is highly liquid, but the rest of the market is anything but.

Futuregrowth, as the largest manager of bonds in SA, and particularly of nonsovereign bonds, wisely used its muscle to get appropriate information from bond issuers such as Sanral, the Land Bank, Transnet and the Industrial Development Corp. The Land Bank isn’t used to giving details about its lending criteria and its risk profiles — things that Standard Bank or Nedbank would routinely discuss with their shareholders.

Futuregrowth can’t vote with its feet and sell all its parastatal bonds: it has R30bn invested. It would have to sell at a big discount. But it could not go on taking up stock, especially with often a very modest additional yield on sovereigns. I have often heard that the corporate/parastatal bond market is incorrectly priced and far from efficient.

It may get real only when there have been more failures. Many parastatals, if they were listed equities, would have collapsed. But they live in a land of make-believe.

There are also reports of R17.4bn of "mislaid" money at Transnet.

Imagine how Futuregrowth must feel hearing this, not long after it pledged R1.5bn for new locomotives.