One only needed Frw100,000, to create wealth through the capital market. Robert Mathu writes.
The capital market is a market like any other we see around us. The only distinction is that the name of the products traded, or bought and sold, is commonly referred to as capital. Capital is the fund or money required to finance a business activity or a project. What exactly is traded is the entitlement to the capital.
Since an investment is put in place by capital, the rights, benefits and entitlements arising from the investment are firmly attached to the capital and will always belong to the holders of the capital. Whenever a secondary market transaction takes place there is always a transfer of ownership of the title.
For there to be a market for any product, there has to be buyers and sellers of the products being traded. The capital market brings together those in need of capital to finance their investment projects and those with some surplus funds looking for an opportunity to participate in the potential success of those projects.
he hard truth is that you need a lot of money to create a lot of wealth in the capital market. It is for this reason that capital markets are referred to as long term markets. The good news is that it is possible to make a lot of money and create wealth through the capital market, without necessarily a lot of money in the beginning, BUT, one has to have a strategy and be patient enough to see the outcome of the strategy.
In order to create wealth through the capital market, the golden rule is to accumulate the little savings that one can afford to put aside. Since it is difficult to freely save money in cash, the capital market provides one of the best ways through which an investor can lock away some money into investments in relatively small amounts and units over time.
To illustrate this, the minimum amount that one is required to invest in a Treasury bond issued by the Government today is Frw100,000. This is a comparatively low amount of money compared with the amount of francs that one would require to invest or buy a piece of land or even a residential house with the aim of earning or saving rental income out of the property investment.
The investment of Frw100,000 in a Treasury bond will guarantee an investor some income, at the level of coupon or interest that the particular bond promises to pay the bond holders annually. In this case, a the two-year Treasury bonds currently listed on the Rwanda Over The Counter (OTC) market are both promising to pay an annual interest or coupon rate of 8 per cent until maturity in the year 2010. Interest is paid semi-annually or every six months.
However, the idea here is to save consistently by buying more and more bonds every time one saves some extra funds out of disposable income. It could be after every, one, two, three, or even four months. Remember that the Treasury bonds are also listed on the Rwanda OTC market. This means that whenever one thinks of selling off the bond, a buyer could be found in the secondary market. It is important to note that the liquidity or ability to get the buyer of the bond is not guaranteed but the income is guaranteed as a government debt. This low liquidity of the Treasury bond market is a common feature in new and emerging stock markets.
Back to the wealth accumulation strategy and why one must buy Treasury Bonds in Rwanda as a medium to long term strategy to create wealth through the capital market. To begin with, the benefits of investing in Treasury bonds through the capital market are two-fold. Firstly, from income distribution every six months and secondly, the possibility of a capital gain at any time in the life of the bond.
hen the secondary market prices of the bonds rise either due to the market demand or movements in the general interest rates, the market value of the bonds rise and this can a be a source of profit for investors. The opposite is the case and losses are realized when an investor decides to sell their bonds or shares below where they bought the investments. Investors are usually advised never to sell at a loss since the principle will be paid in full at maturity in the case of bonds.
The same benefits apply to investors in equities or shares. The major source of higher returns on investments in equities compared to bonds is the capital gains. The bonds are fairly safe as risk free investments, given, the Government guarantee on the bonds. However, the income on bonds is fixed. On the other hand, the dividends on shares issued by companies, is variable, as the amount payable is dependent on the profitability of the business and the dividend policies adopted the companies involved.
During profitable years, companies may pay more or increasing dividends and stock market prices rise to reflect investors’ growth expectations. Whenever market prices rise, the wealth of all those who hold the securities of the well performing companies rise and they get richer.
During low profit seasons or when companies are making losses they reduce dividends or stop paying any all together. Market news on poor performance or losses by listed companies will usually lead to drops in the share prices. Price movements are seasonal depending on the dynamic business environment surrounding the specific companies.
Over long periods of time, stock market prices fluctuate but in most cases on an upward trend. Long term investors are able to decide when to cash in their profits and hence lock in their wealth.
The Rwanda OTC market is yet to list any equities. In the near future the Rwanda OTC market will list some of the profitable companies in the economy through IPOs (initial public offers). The minimum amount of investment for equities especially in the secondary market is usually much lower than that for bonds.
The most likely outcome of the event with regard to ability to participate in the upcoming IPOs (initial public offers) is that those who will have started saving early enough through bonds will have some financial resources in place specifically allocated to the capital market. Listed securities are more appealing to commercial banks when it comes to classification of collateral that borrowers use to access financing. Borrowing some loan to buy IPOs is not a bad idea, since this is a forced savings strategy, BUT, borrowing funds to speculate in the stock market is not usually recommended.
ow then does one buy bonds? In the primary market, where the bonds are first issued, the central bank would normally publish an offer document called a prospectus both in the BNR website and the daily newspapers. The prospectus will usually contain all the features of the bond. Some of these features include the interest rates or coupon rate on the bond, the maturity or tenure, important dates and the amount of debt being raised.
To apply for the bonds in the primary market, that is when they are advertised for the first time, one only needs to fill an application form and deliver it directly to the central bank before the closure date. Institutional investors with an account at the BNR can apply directly or through licensed commercial banks and other intermediaries. Alternatively, and more conveniently, they can easily contact one of the Members of the Rwanda OTC market to apply on their behalf. The intermediaries, both commercial banks and members of the OTC market will also guide the investors on investments through the capital markets.
The price of the bond in the primary market is determined at the auction (a discussion of a later date). If as discussed, the investment objective is to accumulate savings through the capital market in order to grow the capacity to effectively grow wealth at a future date by portfolio management, then one should consistently participate in primary auctions without even thinking about selling in the secondary market. One does not have to sell, just keep investing in small quantities in the primary market.
Remember, the primary market prices could be favorable, especially when one is able to buy at discount. Again here, it will depend on the level of subscription or demand for the bonds. When bids or demand is very high, the bonds could fetch premium prices. New bonds in the primary market are usually offered and available on specific periods of time. Once the offer is closed, the same bonds would only be available in the secondary market and only if some of those investors who subscribed at the primary market would be willing to sell.
Robert Mathu is the Executive Director Capital Markets Advisory Council (CMAC)
The views expressed in this and subsequent articles are strictly personal and professional opinion of the author.