Ian Rooth: Forward start loans, rate risk and planning for the future

While the Public Works Loan Board remains the first port of call for financing for many local authorities, there are alternatives that can lock-in future borrowing costs and help tackle interest rate risk.

As with many councils, the majority of Barnsley Metropolitan Borough Council’s (BMBC) borrowing is sourced from the Public Works Loan Board (PWLB).

While this source of funding is both simple and relatively cheap, we have found it to be quite limited. As such we are looking to diversify our approach — one of the more attractive options being the forward start loan, which the PWLB does not currently offer.

During 2017, BMBC worked with Ashmore Financial Limited in reviewing our treasury management strategy. Whilst our strategy defined our overall approach, it did not go into great detail in respect of:

• The precise timing of our future borrowing requirements;
• Our future interest rate risk exposure, based on such borrowing requirements (i.e. how much our financing costs could increase, or decrease, based on interest rate movements).

Ashmore’s analysis crystallised this risk and helped us to consider the financial impact of potential interest rate moves.

Armed with this information we then started to look at how we could mitigate this risk. Given that our service budgets are being run so tightly, and that any unexpected increase in borrowing costs could have an adverse impact on these budgets, we wanted to know whether there was anything that we could do which would give us certainty of cost in respect of this future borrowing requirement?

Along with Ashmore, we considered three alternative courses of action:

• Do nothing: However, as rates appear to be on the rise (witnessed by the MPC vote on 2nd August), and in light of our considerable exposure to interest rate risk, we believe we need to be pro-active in the current environment;
• Borrow immediately from PWLB: This provides the certainty we need however would involve a significant cost of carry;
• ‘Lock-in’ some of our future financing costs through forward start loans, thereby reducing uncertainty for the council and minimising the risk of higher interest rates in future. This option still takes advantage of the current low interest rate environment in the interim.

Working with Ashmore we identified the potential to lock in the cost of future borrowing from Deutsche Pfandbriefbank at rates which were cost effective when compared against both PWLB and the forecasts that are being made by our treasury advisors and most economists.

Whilst the process and documentation is more demanding than that of PWLB, we felt that it was worth proceeding down this route in order to protect our budgets and provide the certainty that the council was looking to achieve.

Having fixed the first loan in late 2017, the process for the second loan which we secured in June (and which we will drawdown in 2019) was somewhat easier. We are now actively looking at similar opportunities with different lenders where Ashmore have established relationships.

Whilst we completely understand that forward start loans may not work for every council, we have found the process and working with Ashmore  and Deutsche Pfandbriefbank to be relatively straightforward. It has also given Barnsley much-needed certainty in our budgeting process.

It is something that we will continue to consider and which we are more than happy to discuss with other councils who are concerned about the impact of a rise in interest rates.

Ian Rooth is head of financial services at Barnsley Metropolitan Borough Council.