At the most recent review of the official cash rate (OCR) on October 28, the Reserve Bank Governor, Dr Bollard, kept it at 3%.
Back in March, the OCR review suggested under the conditions at that time the OCR would be around 4%-5% by mid 2011.
However, at the October statement, the governor said: "Domestically, recent data has turned out weaker than projected.
Continued household caution has seen consumer spending and housing market activity remain muted, and many firms have become less optimistic about their future prospects.
However, continued high export prices, along with reconstruction and repairs in Canterbury, will support activity over the coming year."
I interpret this to mean that the OCR is likely to remain at 3% for the rest of this year and more than likely until at least the end of the second quarter in 2011.
This means the expected rise in interest rates as suggested in March is unlikely for at least nine months and more likely 12.
There is a large secondary fixed-interest market operating in New Zealand that many investors do not understand.
The initial interest rate when issued is the coupon but the market determines the yield.
In the bond market, there are various levels of risk.
Government bonds have the least risk with a Standard and Poors rating of AAA.
The major banks have ratings of AA while corporates usually have ratings of around BBB.
Many corporates are not rated as they do not want to pay the high cost of getting and maintaining a rating.
Bonds and notes from companies such as Fletchers, TrustPower and Infratil do not have ratings.
Yields on five-year bonds with ratings such as BBB and those unrated are around 7.5%-8.5% whereas five-year government bond yields are 4.6% and major banks around 6% for five-year periods.
At a recent meeting, David Speight, of Direct Broking Ltd, suggested investors now have to weigh up the opportunity of investing longer term in fixed-interest bonds and capital notes given that any rise in the OCR could be as much as 12 months away.
For example, there are bonds being offered by corporates where the interest rate will be fixed at 7.25% or 7.35% until mid 2016.
If an investor delays for 12 months, then they would expect to then invest in a bond with an interest rate of at least 8.1% at that time to get the equivalent return to mid-2016.
It is noticeable the banks are being very aggressive in wishing to secure as much deposit money as possible.
Many investors with funds from the recent South Canterbury Finance repayment are being urged to retain their deposits with them.
One of the major advantages in investing in bonds and capital notes is the ability to sell at any time on the secondary market.
Also, even though an investor has purchased a lump sum, it is not mandatory to sell all at once. Depending on the initial minimum amount (usually $5000), any amount above this can be sold. Bank deposits usually incur a penalty for early redemption.
There is an opportunity risk in that if you invest for too long a period in a bond, then you miss the opportunity to receive a higher yield.
If the yields exceed the coupon level, selling can lead to a capital loss.
The majority of personal investors would normally hold a bond to maturity as the income stream is usually assured at a fixed rate for the term.
Peter Smith is a certified financial planner and is the principal of Peter Smith Financial Services, Dunedin.
Email: finance@petersmith.co.nz A free disclosure statement is available on request.
