Key Statistics - article, January/February 1999, p7
This article discusses the concept and measurement of portfolio investment, the impact of data source improvements, quality issues and future developments.
New Zealand's international portfolio investment1
The 1980s and 1990s have seen a significant growth in the international flows of portfolio investment. This is primarily due to financial deregulation in many countries and technological developments. Changes in international financial markets opened up new possibilities for raising capital, investing for speculative gains and hedging risk. This stimulated a wide range of participants to enter or increase their involvement in these markets.
Measurement of this activity is difficult for Balance of Payments (BOP) compilers because of the complex and fluid nature of these investments. However, over the last seven years major quality improvements have been made to the portfolio investment component within New Zealand's BOP and International Investment Position (IIP)2 statistics.
This article discusses the concept and measurement of portfolio investment, the impact of data source improvements, quality issues and future developments associated with Statistics New Zealand's (SNZ) collection of these statistics.
Concept and measure
Portfolio investment consists of long-term debt securities (eg bonds and debentures, with an original contractual maturity of more than one year) and corporate equities, that are not classified under direct investment or reserves in the BOP and IIP statistics. New Zealand's holdings of portfolio investments (New Zealand portfolio investment abroad) are its assets, and conversely, non-residents' holdings of portfolio investments, (foreign portfolio investment in New Zealand) are liabilities of New Zealand.
Portfolio investment in equity capital is generally considered more passive or speculative in nature than direct investment in equity capital. This is because the portfolio investor has virtually no ability to influence either the managerial decision-making of the investment enterprise, or the return on that investment. These investors are therefore more concerned with the safety of their capital and the return they will obtain from their investment.
Within New Zealand's BOP and IIP statistics3 a New Zealand resident's equity ownership of less than 25 percent in a non-resident company is classified as portfolio investment abroad. On the liabilities side, if less than 25 percent of the total issued capital of a New Zealand resident company is collectively owned by non-residents, then the overseas investors are classified as portfolio investors in New Zealand.
Table 1 indicates the composition of New Zealand's portfolio investment flows (BOP) for the year ended March 1998 and stock position (IIP) at 31 March 1998. A time series of the IIP stock positions and reasons for the changes is discussed later in this article.
New Zealand's BOP current account deficit is largely financed by borrowing from overseas, thus New Zealand's portfolio liabilities (foreign portfolio investment in New Zealand) are traditionally much greater than its portfolio assets (New Zealand portfolio investment abroad). New Zealand organisations issuing debt securities to non-residents is the main source of this borrowing.
Investments in foreign corporate equities by New Zealand organisations account for the largest portion of New Zealand's portfolio investment areas.
Current data sources
Portfolio investment data comes from:
- the Reserve Bank of New Zealand's (RBNZ) Monthly Return of New Zealand Interest Bearing Securities Held for Non-Residents
- the RBNZ's quarterly Managed Funds Survey
- SNZ's BOP Annual Capital Accounts Survey.
Figure 1 below illustrates the contribution of each of these data sources to the portfolio investment data at 31 March 1998.
At 31 March 1998, the RBNZ's Monthly Return of New Zealand Interest Bearing Securities Held for Non-Residents data made up approximately 85 percent of total foreign portfolio investment in New Zealand. This data represents non-resident holdings of debt securities (for example government stock and treasury bills) issued domestically by the New Zealand government and other New Zealand organisations.
Domestically issued debt securities that have been bought by non-residents and are the subject of repurchase agreements (repos) are also included. A repo occurs when a holder of securities sells them to an investor with an agreement to repurchase them at an agreed date and price. Repos are a means of generating liquidity for the security holder, who effectively retains ownership of the underlying asset, while at the same time incurring a liability to the investor.
The RBNZ's Managed Funds Survey is the major data source for New Zealand portfolio investment abroad. At 31 March 1998 it contributed approximately 85 percent to the investment assets total. This survey collects data relating to the international investment activity of New Zealand fund managers and the value of New Zealand funds managed by some Australian fund managers.
SNZ's Annual Capital Accounts Survey also provides data to both foreign portfolio investment in New Zealand and New Zealand portfolio investment abroad. This survey collects data on a range of investment activity. For the year ended March 1998, this was a census of approximately 6,000 respondents, of whom 233 enterprises contributed to the portfolio investment data.
These changes have introduced some discontinuities in the series which can be seen graphically in Figures 2 and 3. Changes in the level of investment between two points in time are attributed to BOP capital transactions (investment flows) and other changes. These other changes include price and exchange rate changes and the effects of data source improvements.
Factors such as the removal of legal restrictions on foreign investments and technological communications advances, have led to a wider range of investors and intermediaries being active in international capital markets. As such, the type of transactors has widened from predominantly New Zealand banks and corporates (whose own activities have broadened over recent years), to other significant financial intermediaries, eg fund managers, brokers and nominees. Similarily the extent to which private individuals are investing overseas is increasing.
The largest area of known undercoverage relates to transactions and holdings of New Zealand portfolio equity securities by non-residents when these are held via a New Zealand nominee.5 As the equity securities are held in the name of a New Zealand nominee the New Zealand company may not report this in the Annual Capital Accounts Survey, unless they themselves have information about the residency of the ultimate holder of the equity security. This undercoverage, which affects the BOP and IIP foreign portfolio investment in New Zealand: corporate equities components, is considered less of a problem since the extension of the foreign investor tax credit regime to foreign investors in 1994. This has assisted in the identification of non-resident shareholders in New Zealand companies.
Conceptually, portfolio investment data should be valued on a market value basis. Some respondents report on the basis of historic book values, which introduces data measurement inaccuracies. The value of a debt security, for example, can change significantly from when it was first issued, particularly during periods of interest rate variability.
Another data measurement issue is the implicit inclusion of exchange rate and price change effects within some of the portfolio investment transactions data. These effects should technically be excluded, but in practice this does not always occur. This is particularly so when the portfolio transactions data is derived by taking the net stock position rather than specifically collecting flow data.
These data quality problems are common to many other BOP compilers. At the global level there have been significant imbalances, with total portfolio investment liabilities far outweighing total portfolio investment assets. Conceptually, the two should match at the global level with total assets equalling total liabilities.
The International Monetary Fund (IMF) has been concerned about these imbalances and their associated impact on the investment income component of the BOP current account. It therefore initiated a Co-ordinated Portfolio Investment Survey as at 31 December 1997. Some forty of its member countries, including New Zealand, participated. When the results become available bilateral comparisons of some data will be possible which should improve international portfolio investment data quality.
New Zealand's BOP statistics are currently compiled using principles laid down in the fourth edition of the IMF's Balance of Payments Manual. In 1993 the IMF issued the fifth edition of the manual (BPM5) which introduced a number of changes to BOP statistics, reflecting new economic and financial developments.
By June 2001 SNZ will be compiling and publishing New Zealand's BOP and IIP statistics on the basis of BPM5. This will include the publication of full quarterly capital account statistics.
Major changes that will impact upon portfolio investment data are:
- the move to a less than 10 percent equity ownership criteria as the basis for defining portfolio investment (New Zealand currently uses a less than 25 percent threshold)
- the inclusion of short-term capital flows (money market instruments) under portfolio investment
- more comprehensive quarterly portfolio investment statistics, eg quarterly data on corporate equities, including those held via New Zealand nominees.
The collection of financial derivatives data could also affect New Zealand's portfolio investment statistics. International statistical agreement is still to be reached on the classification of financial derivatives, and there is now some uncertainty whether these instruments are to be incorporated under portfolio investment in BPM5.
In addition, SNZ will be working to resolve the data measurement and undercoverage problems outlined in the Quality issues section.
These changes will be implemented in several stages through the Balance of Payments Developmental Fifth Edition Series.6 Every effort will be made to ensure that the impact of these methodological changes are identifiable, and the effects of discontinuities on the series are minimised.
1 This article was prepared by Cindy Shanks of the Balance of Payments Division of Statistics New Zealand.
2 The BOP measures a country's economic transactions (flows) with non-residents for a given period of time. The IIP measures, at a particular point in time, the stock (or level) of a country's international financial assets and liabilities.
3 SNZ currently compiles these statistics on the basis of the fourth edition of the International Monetary Fund's BOP Manual.
4 Official sector transactions comprise those of the Reserve Bank of New Zealand, Treasury and all other government departments.
5 Note that the RBNZ's Monthly Return of New Zealand Interest Bearing Securities Held for Non-Residents does not currently collect data on non-residents holdings of New Zealand equity securities via resident nominees. Its focus is on debt securities.
6 A copy of this series, first released in July 1998, is available upon request to SNZ.
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