As investors seek out safe places to park their money from the fallout of the financial meltdown, Australia can be seen as the shining star to have survived the global crisis.
Traditionally, people seek safety for their cash in banks through fixed term deposits, some even seeking the safety of government or corporate bonds.
A relatively new type of income security is becoming popular in Australia and that is the Hybrid security. Given the strength of the Australian banking system investors should definitely be looking at these income securities over the traditional holdings in cash, fixed interest and bonds.
Hybrid securities are essentially a method used by larger companies to raise capital. Unlike corporate and government bonds they also have the characteristics of preference shares, hence why they are called 'hybrids'.
The securities are issued with a 'face value' and $100 is not uncommon. The more popular ones come with a 'floating' or 'fixed' interest rate. The 'floating' rate is predetermined as a margin on top of a standard index like the 90 day Bank Bill Rate. The securities will have a maturity date typically about 5 - 7 years from their issue date; however investors are able to trade them in the same manner as ordinary shares. They could also benefit from potential capital gains on the market value of the securities without the risks associated with a non-guaranteed face value share.
Income is paid quarterly or other regular basis and most come with the benefit of franking credits. If the investor holds them to maturity they will receive the 'face value' and given a choice to convert to cash or ordinary shares of the underlying company and quite often with a discount. For example, the company may offer the investor $101 of ordinary shares for each $100 security held. Many companies will also offer a new security for the investor to roll into.
While the income paid is not guaranteed and quite often dependant on the company paying a dividend to its ordinary shareholders, the holders of hybrid securities will rank ahead of ordinary shareholders in the same way as preference shareholders. The implications of a company not paying an ordinary dividend would be detrimental to the company and avoided at all costs.
This is where the attraction of hybrid securities comes in and why investors should look at hybrid securities issued by any of the major Australian banks. The four major banks in Australia are part of the 'four pillars' policy which basically means the federal government will not allow any of these banks to merge with each other. On top of that, at the onset of the global financial crisis, the government provided a guarantee on all bank deposits to all investors. Global Finance has also ranked the four major Australian banks in the Worlds 50 Most Safest Banks.
The returns from Hybrid securities are also superior to what investors can get for cash, fixed interest or bonds. This has been created by the public's awareness for better financial education and their perception of credit risk as they now demand a greater margin for corporate debt than what existed prior to the global financial crisis. The Australian banks have not been immune to this but when taking into consideration their local and global strength and government guarantee on deposits, then Hybrid securities are an attractive alternative that all investors should consider.