Banks offer better returns through callable deposits

PUBLISHED : Sunday, 20 April, 2003, 12:00am
UPDATED : Sunday, 20 April, 2003, 12:00am

Several Hong Kong banks are launching callable certificates of deposit (CDS) that provide higher interest rates than time deposits and savings accounts but lower risk than equities.

Callable CDs are debt instruments issued by banks for fixed periods in the same way that corporations issue bonds.

'Many investors have been desperate for investment tools that can provide them with a high level of security and stability,' said Paul Au Chi-on, International Bank of Asia (IBA) vice-president and head of marketing and sales, treasury. 'Last year several consumer banks, including us, spotted this need and launched a series of callable CDs.'

The products were also luring customers who kept their money in time deposits and would be satisfied with a modest return as long as it was stable and risk-free.

Callable CDs normally offer a fixed rate of return over a two to six-year period, on condition the issuers - the banks - possess the right to cancel the deposit should the market interest rate fall lower than the pre-set return rate even before the CD matures. They can also extend the deposit for another term if the reverse happens. Either way, investor gains are limited and bank risk well covered.

Mr Au said from a financial management point of view, callable CD investors were not entirely without risk. Besides the unlikely event the issuer might go into default, there were reinvestment risks and opportunity cost risks.

On the reinvestment side, the issuer could cancel the deposit because of a low market interest rate and investors might not be able to find another investment opportunity with the same return and risk combination. The opportunity cost risk was that the money was tied up for several years and investors could not divert funds to more profitable investments should the investment outlook improve.

IBA's first callable CD was issued last May with a HK$50,000 denomination. It had a four-year maturity period during which investors could receive a 4.25 per cent annual return after the first year and 4.85 per cent in subsequent years - significantly higher than interest rates on savings accounts and Hong Kong dollar fixed deposits. After the first year, the bank could exercise the call option and redeem the CD at any time with a 30-day written notice. A 0.15 per cent subscription fee was charged.

Other banks have launched similar products with slightly different features. HSBC last week unveiled two new callable CD tranches giving the bank the right to extend the maturity for another three years after the first three years. Interest rates range from 1.8 per cent to 3.5 per cent per year for an investment term of four to six years. Fees are 0.15 per cent of the principal.

'Banks are offering CDs with different interest rates, maturities, and currencies to let investors choose the ones that suit their own portfolio,' Mr Au said.

An independent financial adviser was concerned some investors might be so engrossed with the high return that they would neglect the risk factors.

Bruce Chong Hon-fai, director of independent financial advisory firm Patterson Financial, said: 'There might be a large number of disputes between clients and banks if the banks really do exercise their right to extend the maturity in two to three years' time.'