The large investment broker UBS is circulating its top clients, offering to lend them money take up NAB term deposits.
As long as rates stay as they are UBS clients will make a virtually no risk return of 12.4 per cent per annum. As NAB gets flooded with this money it may be forced to reduce the term deposits rates offered by its internet subsidiary, UBank.
Effectively what is happening is that UBS is using the low overseas rates to arbitrage Australian term deposit rates. NAB and other local banks are bidding for local term deposits to lessen their dependence on the overseas wholesale rate. NAB, through its internet banking arm, went further than anyone else and offers the highest rates of the majors in term deposits of one year's duration or less.
But at the moment wholesale money is available at much lower rates than Australian term deposit rates. If the UBS move gathers momentum it will have major repercussions on Australian term deposit rates and the Australian bank move to lessen dependence on overseas borrowing.
The best way to explain what is happening is to quote from the UBS letter to clients:
”For a limited time only, UBS is pleased to offer to approved applicants, a six-month fixed rate loan at an indicative interest rate of 4.42 per cent per annum. The sole purpose of the loan will be to facilitate an investment in a specific six-month term deposit issued by NAB.
"The loan interest rate is competitive due to the low volatility of term deposits and their ranking in a bank’s capital structure, combined with UBS’ appetite to lend for this period.
"By borrowing at a maximum lending value of 92.50 per cent of the term deposit amount, you effectively have exposure to more than 12 times your original investment.
"The interest you collect on the term deposit is greater than the interest payable on the loan (both of which are paid at maturity). This positive difference provides you with an enhanced return on your original investment."
An example (based on indicative rates outlined above) follows:
– Mr Smith has $100,000 capital to invest in this opportunity. He then borrows another $1,233,333 (i.e. the maximum lending value of 92.5 per cent) to give a total amount of $1,333,333 invested in the NAB six-month term deposit.
– Mr Smith receives interest of $33,467 (5.02 per cent per annum on $1,333,333 NAB term deposit for six months).
– Mr Smith pays interest of $27,257 (4.42 per cent per annum on a $1,233,333 UBS fixed rate loan for six months).
– Mr Smith keeps the difference of $6,210, which equates to a 12.4 per cent per annum return on the $100,000 original investment.
"The UBS fixed rate loan interest rate is indicative and is subject to change during the subscription period (20 to 31 August 2012). However once we confirm your investment in this opportunity the rate will stay fixed for the life of the loan.
"The NAB term deposit and the UBS fixed rate loan are strictly limited in size and may be exhausted at any time. You are not guaranteed an allocation.
"This offer is open to wholesale investors only."
While it might be limited to UBS investors at this stage, NAB should get ready for an avalanche.