The credit crisis - observations from the local market

We are witnessing one of the most dramatic events in financial history. The seriousness and speed at which these events are unfolding is unprecedented. Note the following: Fed bail out of Fannie May and Freddie Mac; the bankruptcy of 148-year-old US investment bank Lehman Brothers; the takeover of Merril Lynch by Bank of America; the rescue of American Insurance Group, one of the largest insurance players in its field; the forced merger between HBOS and Lloyds; Morgan Stanley and Goldman Sachs - the last two US investment banks - convert to commercial banks; Fed proposed $700 billion TARP (troubled asset relief programme); and Washington Mutual forced into 'rescue' by JP Morgan.

This list reads like the Hall of Fame of the financial world and indicates that the linkage between various financial institutions is now seriously entrenched, such that the contagion effect from one institution to another is frightening. Much has been written on the root cause of the problem. Certainly, fingers are not pointing at a single event, more a chain of events, sometimes unfortunate. These include the easy availability of money which has led to leverage on a scale never seen before (this led to real estate bubbles in the UK and the US - house prices in both these areas have now fallen by up to 25 per cent and still counting); lack of regulation - the free capitalist approach where regulators allowed the banking market to regulate itself; the excessive use of complex mortgage-backed securities; and the consumer living well beyond his means and accessing the free availability of 'soft' loans to finance his lifestyle, perhaps backed by the ill-founded belief in the unshakable value of his house.

The impact has meant that slowly but surely the Fed is nationalising the US financial system. Should the $700 billion rescue facility be approved, the financial system will breathe a heavy sigh of relief, but the big question is whether this will be enough. The risks to both the financial system and the economies of the world remain high. It is interesting to note that so far there has been little contagion into European banks, yet it is these banks that are holding much of the toxic waste and that remain highly leveraged. This turmoil has no doubt created significant opportunities for the brave. The big question is: Do you risk putting money into the market at this junction? Against this backdrop, HSBC Bank Malta has just successfully concluded a €30 million 10-year corporate bond issue at a yield of 5.9 per cent. The response to this issue was staggering, to say the least, and reflects HSBC's very strong franchise in Malta. The bond on offer was, and is, by far the best in terms of its risk return profile. The fact that is even more staggering is that the opportunities available on foreign markets are much more attractive, yet the Maltese investor does not look towards these markets.

Let me give some background. While HSBC Malta was issuing its bond on the local market, its parent company's bonds, that is, HSBC Holding plc, were offering better yields to the investor. Take these issues for comparative purposes: 5.375% HSBC Holdings plc 20.12.2012 (Price: €97 per 100 nom; Yield to Maturity - 6.20%); 6.250% HSBC Holdings plc 19.03.2018 (Price: €97 per 100 nom; Yield to Maturity - 6.65%).

Both these issues offer better rates of return to investors and both bonds are rated A+, whereas there is no rating for HSBC Bank Malta plc. Additionally, bond markets overseas are extremely liquid (meaning it is easy to buy or sell these bonds at any point in time) whereas the local bond market is unfortunately still very illiquid and it is difficult to buy or sell bonds on the local market at will.

Set against this, one must point out that it is normally cheaper to buy into local bond issues and there is a clear advantage of being able to buy into a business that you can see and touch. But any investment decision should also take into account the extra yield and safety of the issue you are buying. Nobody is doubting the strength of the HSBC Malta franchise, but even more so there is no doubt that HSBC Holdings plc is by far the stronger of the two entities and is much better positioned to weather a storm than HSBC Malta.

To my mind, the reality lies in the willingness of investors to think logically through their decision-making process. Having an investment that is closer to home, implies it is safer. This is a great myth. I would hope, with time, that investors realise the folly of this line of thought - not through any demise of a local investment, I hasten to add. The introduction of the euro into our financial system allows for better transparency when comparing investments across borders. This should also lead to better pricing of instruments, be they equity or debt, when compared to overseas.

The HSBC Malta bond was a step in the right direction on this front since the pricing of this bond was indeed made by reference to recognised benchmarks. On the other hand, it seems clear that investors are still not prepared to utilise the new found transparency, brought about by the euro to their benefit. This is sad since it implies that neither are we maximising our return on our investments, nor are we managing our risk efficiently.

It is our obligation to open investors' eyes to the opportunities that are available to them in order that they can diversify their risks and improve their returns. One also hopes that other issuers that come to the market will also price their instruments to take into account opportunities available on the international markets.

dcurmi@curmiandpartners.com