Warrants give investors a head start

By MARK FRYER

In these conservative times, with fixed-interest all the rage, any new sharemarket investment has a certain novelty value.

Doubly so when it involves borrowing to invest - an idea that still strikes fear into the hearts of New Zealanders with memories of 1987.

In this case the new investment is a series of "endowment warrants" being promoted by Australian-based financial services group Challenger International.

Warrants are essentially a way of buying shares on hire purchase - pay part of the price now, the rest later.

Challenger's warrants offer the chance to buy shares in the big four Australian banks - investors can choose from ANZ, Commonwealth Bank of Australia, National Australia Bank and Westpac.

At present, the four banks' share prices range from $A15.25 (Westpac) to $A31.72 (National Australia).

If you invest in Challenger's warrants, you pay only half that price up front. Effectively, Challenger buys shares on your behalf, and lends you the rest of the money.

The investor then has the right - but not the obligation - to buy the actual shares, by making a final payment any time between now and when the warrants expire in February 2012.

That final payment can vary. It grows as interest costs are added on, and is reduced by any dividends the bank shares pay.

At the end you can either make the final payment and receive the shares, or let Challenger sell them and pay you the proceeds, after deducting whatever is left to pay.

If the bank's dividends are healthy enough, there may be nothing to pay.

On the other hand, if the shares are worth less than the amount still outstanding at the closing date, the warrants simply expire; you don't have to pay any more but you don't get any shares and will have lost all your initial investment.

Since the warrants will be listed on the Australian Stock Exchange, investors can also sell them at any time.

The attraction lies in what the investment business calls "leverage". In other words, it's the chance to earn the return on, say, $5000 of shares with an investment of $2500.

If the bank's share price rises strongly enough, the return on your initial investment will be much stronger than it would be if you'd simply bought shares.

On the other hand, this sort of financial engineering also amplifies risk.

The main risk is that you could lose some or all of your money. If you bought actual bank shares on the other hand, a total loss would be extremely unlikely.

The actual return on the warrants will depend not only on the performance of the individual bank shares but also the future direction of interest rates. The exchange rate will also affect your final returns.

Who are they for? Well, probably not for beginning investors whose main goal is to build a diversified portfolio.

Leveraged investments such as these are for those who want to earn the maximum return and are prepared to accept more risk to get it.

Challenger's offer is open until next September, or until all the warrants are sold.

The minimum investment is $1500 in any one bank.

Challenger International