Transcription of Finance News Network with 5 Financial, Head of Wealth Management, Jason Petersen Carolyn Herbert: Hello I’m Carolyn Herbert from the Finance News Network and joining me from integrated financial services provider, 5 Financial to talk about instalment warrants and how they can build wealth is Head of Wealth Management, Jason Petersen. Jason, welcome.
Jason Petersen: Thank you Carolyn, pleasure to be here.
Carolyn Herbert: Can you start by telling us a bit about your business?
Jason Petersen: We’re an integrated financial services business offering holistic advise across a range of structures, strategies and products, through superannuation and non-superannuation, along with taxation advice and all about giving clients clarity and certainty on their financial future.
Carolyn Herbert: In what situation would you suggest to your clients to consider instalment warrants, as part of their portfolio?
Jason Petersen: So we’ve got the young accumulators that are starting out, don’t have a lot of assets, but want to get exposure to growth assets. And instalment warrants are a great effective way of doing that. Secondly, we’ve got clients with substantial assets all tied up in growth assets. And what we want to do is diversify away from the growth assets, give them a bit more protection.
We can use the instalment warrants to do that and get the same level of exposure to growth assets, but meanwhile having a fair chunk of their assets in defensive assets as well. And then we’ve got the superannuation accumulators, where we can use the instalment warrants to create franking credits and dividends, to create a longer-term income stream for them.
Carolyn Herbert: How do you go about explaining instalment warrants to your clients?
Jason Petersen: Pretty simple, it’s actually borrowing to invest in shares using a level of protection or insurance against your loan, as well.
Carolyn Herbert: Instalment warrants are often compared to margin loans. Do you think this is a fair comparison?
Jason Petersen: In some ways yes, because you’re effectively borrowing to invest, which is a margin loan. Secondly, you’ve got the exposure to both the growth in the underlying assets and the dividends and franking credits. On the other hand no, there’s no credit checks for instalment warrants. There’re also no margin calls, which is really important, a key issue with margin loans. And more importantly, instalment warrants are non-recall, so they can be used in self-managed super funds.
Carolyn Herbert: Why is the non-recall spectre so important then?
Jason Petersen: There’s been a lot of talk about borrowing within superannuation. And the legislators, quite rightfully, are concerned about people taking on too much risk, by borrowing too much money inside of superannuation, obviously exposing their assets to the risk of a major correction. With limited recourse borrowing, the only recourse the lender has to the borrower is to the asset they actually borrow against. So it provides a greater level of protection for the superannuation investor.
Carolyn Herbert: Are a lot of people surprised you can use warrants and self-managed super funds?
Jason Petersen: No not at all, because it’s providing its limited recourse, the fund and the fund mandate accommodates that warrant investment strategy. There’s not a problem with doing that. A large part of the warrant investing in our practise is actually through superannuation, and is used in a reasonably conservative manner.
Carolyn Herbert: What is it about instalments that make them so attractive?
Jason Petersen: Firstly, you get the ability to gain exposure to growth assets, ideally through conservative borrowing. We get an increased level of franking credits and dividends, and that’s very tax effective outcome for the funds. You can have protection, so you can insure the loan essentially. So you don’t have to, as we mentioned earlier, that would be recourse borrowing. In our practise, of particular importance, we create long-term income strategies for clients, through high level of dividends and high level of franking credits.
Carolyn Herbert: How long do your clients typically hold them for?
Jason Petersen: We hold them until expiry of the warrant and we particularly use self-funding instalment warrants in our practise, where the dividends go to pay off the loan over time.
Carolyn Herbert: Have you got any examples of that?
Jason Petersen: Probably a really good example off the back of the GFC was Commonwealth Bank self-funding instalments. So essentially Commonwealth Bank was trading at the end of the GFC, at about $30 a share. So say for example, a client went to buy 10,000 Commonwealth Bank shares worth $300,000; they only had to contribute $150,000. Now over the next five years, the dividends of the Commonwealth Bank paid off that $150,000 loan.
If we look today that client with those 10,000 Commonwealth Bank shares is getting a dividend stream of $60,000 a year, including franking credits. And that’s a really good example where there’s no loan still sitting against the Commonwealth Bank shares.
Carolyn Herbert: On the other side of the coin though, what should investors be watching out for?
Jason Petersen: A number of things. In the first instance, instalments are essentially; you’ve got to have a positive view on what you’re actually investing in, the underlying investment. That becomes the number one priority. Secondly is liquidity, making sure that whatever you’re buying as an instalment, you’re looking at the stock and making sure that’s liquid, so you can actually get in and out of it.
The level of dividends is really important, to ensure that, particularly using self-funding instalments that overtime, the loan is actually going to get paid down.The interest rate is important as well and all the other costs associated with the instalments, there are costs in there. And obviously the interest rate risk. If interest rates go up over time, it’s going to be a lot harder to pay that loan down. So you end up with a bigger loan than what you started with.
Carolyn Herbert: What about trading, is buying instalments like buying shares?
Jason Petersen: It is actually and essentially, you’re buying them through the exchange like you do underlying shares. And the key test here is really making sure that you’ve got liquidity in the underlying stock. If you’ve got liquidity in the underlying stock, you’re going to have liquidity in the actual warrants. That’s quite simple and all registered through CHESS as well.
Carolyn Herbert: Jason, do you have any final thoughts for those who are thinking about giving instalment warrants a go?
Jason Petersen: Certainly, in the first instance do your homework and make sure it really suits your goals and objectives. Be mindful of the level of gearing, because there’s a broad range of gearing you can have and be aware of the risk. As with any investment, look at diversification; so don’t just buy one particular stock obviously.
Read the product disclosure statement, there’s a lot of information in there that tells you a lot more about what’s really going on behind the scenes. When they’re used appropriately they’re a fantastic tool, don’t be afraid to give it a go. And if you need to, seek advice for it.
Carolyn Herbert: Jason Petersen thanks for you insights into instalment warrants.
Jason Petersen: Thanks very much Carolyn, appreciate it.
Ends
