Investment Road-Test: DB Access/Berkshire Hathaway

June 9th, 2010  |  Posted in Investments

By Tony Rumble

June 7, 2010

This article is reproduced with the permission of

Hats off to Deutsche Bank for such a simple and attractive investment.

It’s relatively easy to invest when things are going really well (buy shares) or when things are bad (buy bonds). But investment strategy is challenged when markets fluctuate: investors feel the need to be exposed to the growth opportunities of the sharemarket, but simultaneously have nagging doubts that they should be more defensive.

With this is in mind I note that Deutsche Bank has issued an innovative new investment offering exposure to shares in Warren Buffett’s Berkshire Hathaway at a cost of only 20¢ for every $1 exposure.

This product can be the foundation of some innovative strategies, combining a low cost outlay and the ability to blend with term deposits to give a balanced exposure to risky and defensive assets.

In my opinion this is one of the best new products seen since the global financial crisis (GFC) and makes some of the more highly structured investments doing the rounds this year look positively silly in comparison, especially when compared to others based on Berkshire-Hathaway.

The Deutsche Bank investment is issued under the brand name “Access Certificates” and in this case the underlying investments are the B class shares issued by Berkshire Hathaway. The Deutsche Bank product has a three-year term and also can pay a distribution of up to 9% payable on July 9, 2011, and July 9, 2012; these distributions are payable if the underlying Berkshire shares rise in value after the issue date of the Access Certificates, which is scheduled to be July 9, 2010.

The Access Certificates use option technology to hedge the exposure to the Berkshire shares. Despite the hysteria about derivatives and their link to the GFC, when used sensibly and in respect to sound investment quality assets, options like this offer strong potential benefits. For a start, they deliver leverage: in this case, investors in the Access Certificates will obtain $1 face value exposure to the Berkshire shares for an initial outlay of between 19.75¢ to 20.75¢ (the final price is set on issue date and is capped at 20.75¢ per $1, any residual application money is used to purchase additional units).

The application price also buys the opportunity to get the annual distributions referred to above, the purchase price of the Access Certificates would have been even lower. The value of the annual distributions paid is deducted from the final value paid to investors on maturity of the Access Certificates, so it’s like an annual profit lock in.

The actual level of exposure to Berkshire shares is varied during the term of the investment based on the volatility experienced by Berkshire shares in the period. This risk control method is rapidly increasing its presence in the Australian market, and is used by a market participants such as Standard & Poor’s, which now manages a range of indices based on this approach.

Although first-time investors may feel it is complex to understand, its concept is very simple: actual level of exposure to the underlying asset is increased or decreased depending on volatility – meaning that investment risk is reduced when markets are falling, and increased when markets are rising.

How much exposure is in place is determined with reference to a target volatility level; in this case exposure of 100% will be in place when measured volatility on Berkshire shares is at its long-term average level of 19%. If volatility falls below that, exposure can be increased to 200%, and as volatility
increases, exposure is wound back potentially below 100% (and in high volatility periods, exposure is reduced to 0).

This approach can be shown to add value compared to an outright investment in the underlying shares, especially when markets are volatile (reducing exposure in such periods has the effect of limiting loss compared to the shares themselves).

Which brings us back to the opening comments in today’s Investment Road Test: this type of leveraged investment offers ideal strategies for investors wanting to obtain exposure to the sharemarket at the same time as taking a defensive stance. Investors can implement a blended strategy by using 20¢ to obtain $1 exposure to Berkshire shares for a three-year term, and could place 80¢ into a three-year term deposit earning rates above 6% pa.

Think of this as a “cash and carry” strategy, allowing investors to get the best of both worlds; ideal for the current uncertain times.

It’s a constant theme of this column to criticise highly structured investments that embed call options into capital protected products, and then which can only be purchased with an accompanying loan that is mandatorily provided by the issuer.

These dress up the underlying investment as something more than it really is; the “loan” is used to fund the protection mechanism inside the product, and the “interest” is just a payment for the cost of the call option. Apart from being tax-aggressive, these transactions pile layer upon layer of unnecessary structuring – adding fees at each step.

When simple and clean investment like DB Access Certificates are available, it’s a wonder that any investor would succumb to the slick marketing that surrounds the highly structured and tax aggressive alternative. Hats off to Deutsche Bank for delivering such a simple and attractive investment.

By Tony Rumble

Tony Rumble is the founder of the ASX-listed products course LPAC Online. He provides asset consulting and financial product services with Alpha Invest but does not receive any benefit in relation to the product reviewed.

Find out more about this Berkshire Hathaway Investment

Investment Rumble Rating

The score: 4 stars

0.5 Ease of understanding/transparency
0.5 Fees
1.0 Performance/durability/volatility/relevance of underlying asset
1.0 Regulatory profile/risks
1.0 Innovation

 

 

 

 

 

Important Information

This article article is reproduced with the permission of Eureka Report. The author has no association with Freeman Fox and while information is given in good faith and is believed to be reliable and accurate, Freeman Fox gives no warranty as to the reliability of accuracy of the information, nor accepts responsibility for any errors or omissions of third parties. Opinions expressed are subject to change.

This article is provided as general information only and does not take into account your investment objectives, financial situation, or needs. Before making an investment decision you should consider the appropriateness of the advice having regard to these matters, obtain a copy of and consider the Growth Plus: Berkshire Hathaway Inc Certificates Product Disclosure Statement ("PDS") which can be obtained on this website. If you require assistance in relation to your personal investment situation please contact a representative of Freeman Fox on 1800 000 369.