Finance companies in melt-down

You wouldn’t know it looking at the NZ blogosphere, but the finance companies are in melt-down.

Yesterday’s news that one of NZ’s high-end companies has suspended its money-lending business while it chases some large debts is very worrying. It is the 23rd company to get into trouble over the past two years. Last week another highly regarded and solid company — older than me — also kicked for touch.

In the wake of so many high profile failures over the past couple of years, reinvestment rates collapsed and banks cancelled credit lines. On the other side, the rapidly worsening property market has seen bad and doubtful debts climb. Now, in a third wave of collapses, “investment grade” companies with property market exposure are going under. (Those not exposed to the property market are fine, though.)

The $2.5 billion lost to investors may not in itself damage the economy. But for many NZers this is a calamity. Having saved through their lives for security and some level of comfort in their retired years, they have been caught by the tsunami of investor uncertainty, a collapse of a magnitude that no-one foresaw. One can only feel for these people facing financial devastation.

What are the politics of this? First, note that government inherited a relatively lightly regulated financial sector. It didn’t work well. Rising pay-outs and litigation points to a lot of dodgy advice in recent years. Some trustees seem to have been associated with a disproportionate number of failures. Management of some companies was incompetent at best.

The right, which has also defended the sale of our banks overseas, might like to consider the observation of Chris Lee (readers of his website must read the disclosure statement) that, “The Australian-owned banks here are naturally defending some problems in Australia. I detect their attitude towards the needs of our problem markets – property development, for example – is less sympathetic by the day.”

Initially, when the problems seemed to be limited to the bottom-end banks, the government’s response was considered and possibly a little tardy, though not in the opinion of many involved at the time. New rules regulating financial advisors were to be introduced slowly and only after consultation.

Last month the government announced that criminal prosecutions against finance companies that have misled investors could be funded from the Securities Commission’s Litigation Fund, helping enforcement and to restore confidence long-term. Budget 2008 included funding to allow registration of financial service providers and set up dispute resolution schemes, and the Securities Commission to undertake a role in the licensing of financial advisers.

Good for the long-term recovery of this important part of the financial sector. In the meantime, thank God for the Cullen fund.

UPDATE: Make that twenty four.

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3 Responses to “Finance companies in melt-down”

  1. MacDoctor Says:

    Good post, JP. Chris Lee’s article was especially insightful. I’m not convinced that regulation is really the issue here. The economy has just has a number of really good years and now is taking a knock – mostly driven by the stupidity and greed of American property investors (although the oil price has not helped). In good years financial institutions often take riskier opportunities to stay competitive. These come back to bite them when the going gets tough. The better run companies will restructure and survive. The poorly run companies will die as we see happening right now.

    They die because they took excessive risks and therein lies the rub. The real issue is that investors often can’t tell what level of risk they are taking. If we need anything in the finance industry, it is a tool to categorize the level of risk that investors are taking. Just a simple scale of A to E would do where E is shark territory and A is retiree heaven. Note the S&P rating is too general – we need a rating on actual investment offerings themselves.

    In the meantime, thank God for the Cullen fund.
    Yeah, thank God it is all invested in arms manufacturing rather than property… 😉

  2. jafapete Says:

    MacDoc,
    I can’t argue with what you say about the Blue Chips and Bridgecorps, and wouldn’t. The problems for me are that (1) there was a lot of dodgy stuff going on (secret commissions, selling associates’ product without disclosure, etc) and (2) it’s got to the point where the cattle have been spooked and are stampeding.

    In respect of the first problem, the Government has now made it easier to pursue the culprits, and there are now a number of settlements and court cases, which is a good thing. But far better to protect the moms and pops from the criminals in the first place, methinks.

    In respect of the second, we will never know whether tighter regulation in the first place may have stopped things getting to tipping point in terms of investor confidence. But a lot of people will lose money now — even if simply in the form of interest forgone while they wait for delayed repayment — who didn’t deserve to lose it. They went for the top end where risks were low.

    We did have a few good gradings of the companies, but when you have a stampede then they become meaningless. Take Chris Lee’s. There’s someone with a conservative approach to risk, a great deal of information, and a sound understanding of how things work. And he graded St Laurence an A minus.

    Stay tuned. This ain’t over yet.

  3. Finance melt-down continues « Jafapete’s Weblog Says:

    […] I noted just last month, the finance sector is in meltdown. Even well run and long-established companies have been caught by an unprecedented pincer of […]

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