New Year resolution: treasury strategies for 2012

Christmas is over and it’s time for New Year resolutions. Treasury managers will no doubt be resolving to invest their organisation’s surplus cash wisely during 2012. But as we update investment strategies for the forthcoming financial year, what is a wise investment?

Any organisation’s investment strategy will depend on both its own internal circumstances and the external environment. Internal influences will, of course, vary widely between different authorities; the size of the investment balance, how much is needed to finance expenditure in the coming year, the organisation’s risk appetite, the reserves available to fund credit losses or income shortfalls, its attitude to short-term borrowing and overseas investment; the list is endless.

The external influences on an investment strategy are similar for us all. Interest rates, both short and long term, are very low and look likely to remain that way for some time. So investing everything short-term with the hope that rates will rise again soon doesn’t look like much of a winner.  The best bet to manage interest rate risk is to spread fixed rate investments over a range of maturity dates; the steepness of the yield curve ensures that this strategy will be rewarded.

Locking in to fixed term investments can present credit risk problems though, which are best minimised by sticking to the quality end of the credit spectrum.  Five years ago, UK banks were thought to be among the safest borrowers in the world − remember when Lloyds had its AAA rating?  One or two financial crises later, and a government committed to removing the implicit guarantee, and banks are looking more like places to keep short-term cash only.

For safe long-term investments, you really have to look at state owned organisations such as multilateral development banks or government guaranteed issues.  CLG’s proposal to remove restrictions on corporate bond purchases will allow English local authorities to buy guaranteed bonds issued by companies like Network Rail, banks issuing under the credit guarantee scheme and the intermediaries set up to facilitate local authority bonds.

Custody and settlement can be a small problem when holding bonds.  There are a limited number of providers, and costs can be relatively high if you have a small portfolio.  Pension fund authorities have the option to share a custodian, and some intermediaries offer a cheaper service if you trade through them.  In the latter case you need to make sure you have full ownership rights if the intermediary fails − just ask MF Global’s clients about that one.

But for authorities with large portfolios of both borrowing and investments, early debt repayment is a zero credit risk option.  You are effectively investing at the discount rate, and although these are quite low, especially for PWLB loans at the moment, if you don’t expect to need to re-borrow the cash, it could be the wisest investment you’ve ever made.

David Green is the Head of Sterling Consultancy Services, a provider of treasury management advice to local authorities and other not for profit organisations.  This is the writer’s personal opinion and does not constitute investment advice.  It should not be relied upon when making investment decisions.