Lessons from RBOHA

It has been a bumpy ride for these investors. Many lessons have been learnt. In a world of low yields and interest rates, they will face one remaining question of how best to put their principal back to work to generate income.

In September 2007, Rabobank issued a security into the New Zealand retail bond market, with the identifier RBOHA. With interest rates still high before the GFC (Global Financial Crisis) struck, demand was strong and the security widely held. While investors were treating the instrument like a fixed interest security, it had been designed to be treated by bank regulators as a potential source of capital. Effectively, it was a hybrid security. Notably, RBOHA had two key features that would shape the experience of investors holding the security over the following 10 years.

Two key features

The first was that the coupon on the security was reset every year at the one-year swap rate, plus a modest 0.76%. At first, this was part of the appeal, as the Official Cash Rate (OCR) was at its peak of 8.25%, and the first coupon was set at 9.482%. However, within 18 months, the GFC was in full swing and the Official Cash Rate was at 2.5%, resulting in coupons through the life of the security closer to 4%. With interest rates cut to new lows in 2016, the most recent coupon on RBOHA was set at a meagre 2.882%. Put simply, investors had been directly exposed to interest rate risk, and felt the brunt of global interest rates falling to levels that were unanticipated before the GFC.

Table 1.  RBOHA Coupons