Transcript Slide 1

Salford City Council
Treasury Management Presentation to Members
Richard Bason, Regional Director
Sector Treasury Services
December 2009
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Sector Treasury Services Ltd
This presentation has been produced solely for the use of clients of Sector Treasury
Services Ltd. The presentation itself, or any of the information contained therein,
should not be disclosed to any third party without the prior written approval of
Sector Treasury Services Ltd. Strictly private and confidential.
Sector exists to provide its clients with advice on borrowing and investment. We are not
legal experts and we have not obtained legal advice in giving our opinions and
interpretations in this presentation. Clients are advised to seek expert legal advice before
taking action as a result of any advice given in this paper.
Whilst Sector makes every effort to ensure that all the information it provides is accurate
and complete, it does not guarantee the correctness or the due receipt of such information
and will not be held responsible for any errors therein or omissions arising there from. All
information supplied by Sector should only be used as a factor to assist in the making of a
business decision and should not be used as a sole basis for any decision. The Client
should not regard the advice or information as a substitute for the exercise by the Client of
its own judgement.
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Agenda
1.
2.
3.
4.
CIPFA Treasury Management Code
The Prudential Code
Integrated Treasury Management Strategy
Latest Treasury Management Issues to be Considered
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1. CIPFA Treasury Management Code
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Why is a Code needed?
o
Need to maintain high and consistent standards in looking after
public funds and debt across 500 local authorities
o
Total investments @ 31.3.2008 of £30bn+
o
Total debt o/s @ 31.3.2008 £57bn+ (£51bn with PWLB at 31.3.09)
Local authorities are BIG players in the London
financial markets
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The 2001 Code’s “eight purposes”
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o
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To assist in the development and maintenance of firm foundations for T.M.
activities and thereby add to public credibility
To emphasise effective risk management
To encourage the pursuit of best value through the use of performance
measurement
To enable CIPFA members to fulfill their professional and contractual
responsibilities
To facilitate consistent TM policies and practices in the public sector
To enable consistent auditing of TM matters
To further the confidence and understanding of organisations dealing with
public service organisations
To foster debate on the suitability of TM statutory/regulatory regimes
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T.M. Code requires each council to:
1.
Adopt the Code
2.
Create and maintain: •
•
Treasury Management Policy Statement (TMPS)
Treasury Management Practices (TMPs)
3.
Receive specified annual reports (TMSS/MRP Policy/Stewardship
Report)
4.
Delegate responsibility for the treasury management function to specified
parts of the organisation and officers
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Treasury Management Policy Statement
This organisation defines its treasury management
activities as:
“ The management of the authority’s cash flows, its banking,
money market and capital market transactions; the effective
control of the risks associated with those activities; and the
pursuit of optimum performance consistent with those
risks”.
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12 Treasury Management Practices
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TMP 1
Treasury risk management
TMP 2
Best value and performance measurement
TMP 3
Decision - making and analysis
TMP 4
Approved instruments, methods and techniques
TMP 5
Organisation, clarity and segregation of responsibilities &
arrangements
TMP 6
Reporting requirements and management information
arrangements
TMP 7
Budgeting, accounting and audit arrangements
TMP 8
Cash and cash flow management
TMP 9
Anti Money laundering
TMP 10 Staff training and qualifications
TMP 11 Use of external service providers
TMP 12 Corporate governance
dealing
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Annual Council approval of the following:o
Treasury Management Strategy Statement (TMSS) – overall strategy for
borrowing and investing for the year ahead (to be supplemented with a
semi annual report)
o
Annual MRP Statement (from 2008/09)
o
Annual Investment Strategy – determination of which investment
instruments to use (can be combined with TMSS)
o
Annual Report – review of previous financial year (undertake by end of
September 2009)
Members have a key role to play in approving all these treasury
management reports and policies
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2. CIPFA Prudential Code
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The 2004 Prudential Code system
o
New system to control capital expenditure started 1.4.04
o
Allows LA’s, for the first time, to borrow additionally for capital projects
without Government consent provided they can afford to service the debt
without extra Government support
o
What are the most cost effective and beneficial projects to spend capital
resources on?
o
What are the most cost effective ways of financing them?
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Objectives of the Prudential Code
TO ENSURE THAT:o
Capital expenditure plans are affordable (implications for council tax)
o
External borrowing and other long term liabilities are within prudent
and sustainable levels (cost of interest etc)
o
Treasury management decisions are taken in accordance with good
practice
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Key controls under the Prudential Code
Operational Boundary
o Total external debt – the most likely level – NOT worst case
Authorised Limit
o Total external debt – the maximum permitted level i.e. “sufficient to allow
for unusual cash movements”
Capital Financing Requirement – the “Acid Test”
o The underlying need to borrow i.e. the amount of capital expenditure which
has not yet been charged to ratepayers or financed from grant etc
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Setting of Prudential Indicators
o
o
o
Every local authority must set Prudential Indicators (affordability and
prudence)
For 3 years forward (minimum)
Taking into account:₋ Capital receipts, grants, revenue contributions etc
₋ Revenue impact of capital expenditure – short & long term
₋ Interest payable on borrowing and receivable on investments
₋ Alternative means of financing capital expenditure or acquiring the
use of capital assets
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Prudential Code summary
o
o
o
o
There is virtually no limit on how much an authority can spend on
capital expenditure if by so doing it can generate financial savings on
its current level of revenue expenditure which pay for the additional
financing costs.
A LA now has the freedom to choose the most cost effective method
of financing the acquisition / use of capital assets.
It can now focus on whole life costs of capital assets rather than short
term capital restrictions
Asset management and best value are now key policies
It is for MEMBERS to approve the parameters within which
treasury management is to take place
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3. Integrated Treasury Management Strategy
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Investing
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Key principles for investing under investment guidance
o
o
All investments split into two categories ‘Specified’ and ‘Non-Specified’
SLY - three key principles: Security: the top priority: specified investments will include bodies
or investment schemes with a ‘high credit rating’ (not defined)
 Liquidity also key to prudent investment
 Yield: optimum return - still need to “seek the highest rate of return
consistent with proper levels of risk”
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Specified Investments - principles
o
o
o
o
o
High security and high liquidity - under 1 year to maturity
Institutions or investment schemes with a high credit rating
Do not score as capital expenditure (or capital receipts when mature /
sold)
Require minimal procedural formalities (para 20)
Justification of use of each class of instrument NOT required in the
Annual Investment Strategy
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Specified Investments (example)
Term deposits with: o
Highly credit rated banks and building societies
o
Local authorities
o
UK government - Debt Management Agency Deposit Facility (DMADF)
o
Money market funds
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Non-Specified Investments - principles
o
o
o
o
o
Investments in excess of 1 year to maturity
Investments with non credit rated institutions will be ‘non-specified’ e.g.
most building societies
Use of each class of non specified investment will need to be justified
in the Annual Investment Strategy
No Government intention to discourage local authorities from using
non-specified investments
Some investment classes score as capital expenditure
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Non-Specified Investments - instruments
o
Deposits with unrated deposit takers e.g. most building societies
BUYING PAPER INSTRUMENTS: o Bonds issued by Multi Lateral Development Banks (MLDBs) (- Euro
Sterling)
o Corporate Bonds
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Annual Investment Strategy
o
o
o
o
o
o
o
o
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To be approved by the full council (or nearest equivalent if that does
not exist)
Before the start of the financial year
It is to set out HOW the authority will manage its investments
And how it will give priority to security
And to liquidity – setting maturity limits
How ‘high credit rating’ is to be defined
Which investment instruments are specified investments i.e. may be
used with little formality
Whether / which non specified investments may be prudently used
How interest rate risk is to be managed - expectations for movements
in interest rates and the authority’s strategy for investments
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What are credit ratings?
o
They are opinions issued by professional organisations of an entity’s
ability to punctually service and repay debt obligations
o
Ratings provide international capital markets with a globally
consistent framework for comparing the credit quality of institutions
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Fitch rating agency ratings
o
Long-term rating – ability to promptly pay all obligations for periods in
excess of 13 months. Range from AAA to D (default)
o
Short-term rating - ability to promptly pay all obligations for periods
less than 13 months. Range F1+ to D (default)
o
Individual rating – assessment of the strength of a bank to withstand
difficulties without any support. Range from A to F (failed).
o
Support rating – ability and propensity of a parent or state to provide
support should a bank get into difficulty. Range from 1 to 5.
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Sector’s 2009 credit rating matrix
Sector’s Colour Matrices
Short Term: F1+; Long-Term Rating: AAA, AA+, AA, AAIndividual
Short Term: F1; Long-Term Rating: A+, A
Individual
Support
1
2
3
Support
1
4
2
3
4
3
4
A
A/B
B
B/C
C
C/D
D
A
A/B
B
B/C
C
C/D
D
Up to 3 months
Short Term: F1+; Long-Term Rating: AAIndividual
Short Term: F1+; Long-Term Rating: AAA, AA+, AA
Individual
Support
1
2
A
A/B
B
B/C
C
C/D
D
Up to 1 month
3
4
Support
1
2
A
A/B
B
B/C
C
C/D
D
Up to 6 months
between
1 and 2 years
Up to 1 year
between
1 and 5 yrs
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Investment options in the current economic
environment - risk aversion
Diversification – Use Sovereign Credit Ratings – 15 AAA Rated
countries…for now (UK on negative watch with S&P)
Austria
Canada
France
Germany
Denmark
Finland
Netherlands
Norway
Singapore
Luxembourg
Spain
Sweden
Switzerland
U.K.
U.S.A.
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Investment options in the current economic environment – is risk
aversion just using the UK?
450
400
350
250
200
150
100
50
-0
9
9
01
-N
ov
ct
-0
01
-O
-0
9
01
-S
ep
-0
9
01
-A
ug
9
01
-J
ul
-0
9
un
-0
01
-J
ay
-0
9
01
-M
9
01
-A
pr
-0
09
01
-M
ar
-
01
-F
eb
-0
9
9
an
-0
01
-J
01
-D
ec
-0
8
-0
8
01
-N
ov
8
ct
-0
01
-O
-0
8
0
01
-S
ep
Spread (bps)
300
Date
UK
Germany
France
Italy
Portugal
Spain
Austria
Finland
Belgium
Netherlands
Ireland
Denmark
Norway
Sweden
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Investment conclusions – risk aversion
o
Top down approach to credit quality
o
Move away from sole reliance on credit ratings for individual banks
o
Addition of AAA rated sovereign ratings filter is an aid in placement of
investments
o
Monitoring of Credit Default Swaps spreads helps identify countries or
banks which may be at risk of significant credit rating downgrades
o
If in doubt, do the safest option…use DMADF etc
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Borrowing
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Salford City Council borrowing position
o
o
o
o
Authorised Limit
- 2010 £744m
Operational Boundary
- 2010 £644m
Capital Financing Requirement (underlying need to borrow for capital purposes)
- 2010 £445m total, of which £87m is HRA
Total borrowing
- £458m at 2.97% (average 36 years)
- The current borrowing position reflects the strong balance sheet
of the Council
- The Council is able to minimise net interest payments and reduce credit
risk near-term by continuing to temporarily use its cash surpluses
(reserves, provisions, positive cash flow etc)
FINANCIAL YEAR
2081/82
2079/80
2077/78
2075/76
2073/74
2071/72
2069/70
2067/68
2065/66
2063/64
2061/62
2059/60
2057/58
2055/56
2053/54
2051/52
2049/50
2047/48
2045/46
2043/44
2041/42
2039/40
2037/38
2035/36
2033/34
2031/32
2029/30
2027/28
2025/26
2023/24
2021/22
2019/20
2017/18
2015/16
2013/14
2011/12
2009/10
VALUE OF PRINCIPAL
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Salford City Council - current borrowing position
CURRENT MATURITY PROFILE
£120,000,000
£100,000,000
£80,000,000
MARKET DEBT
£60,000,000
PWLB VARIABLE
PWLB MATURITY
PWLB ANNUITY
PWLB EIP
£40,000,000
£20,000,000
£0
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Salford City Council – issues to consider regarding market
loans
o
o
o
o
o
£298m of the Council’s borrowing is in the shape of market loans
These were/are generally a cheaper borrowing option than the PWLB
alternative but are less flexible
The majority of the Council’s market loans are LOBOs
For the lower rate paid, they provide the lender with the option of having
the loan repaid prematurely on certain dates (call dates). There is no
penalty for this early redemption
The Council has a debt maturity strategy that ensures that over time a
greater proportion of the portfolio will become PWLB loans – providing
more certainty albeit probably at a marginally higher cost (still low overall)
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Basics to be considered in respect of external borrowing
o
How much needs to be borrowed?
o
Over what period of time?
o
Which type of loan is most appropriate (PWLB/market/short-term)?
o
Which maturity duration is most attractive?
o
What is your view of short/medium/long-term interest rates?
o
What are the risks to your forecast?
o
Set a target rate for the loan duration you settle on?
o
Fixed or variable rate borrowing?
o
3 year timeframe but no borrowing in advance of need without explicit member
agreement
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Key treasury management risks at the present time
o
Deepening of pessimism over affordability of gilt issuance by UK
Government causes major sell off of gilts. Long gilt yields rise
o
Post recession inflation causes major sell off of gilts, yields rise
Conversely:
o
Double dip recession causes a ‘flight to quality’ from equities to gilts; long
gilt yields < 4%
o
Government / BoE embarks on additional quantitative easing to drive
bond and gilt prices up, yields down. Short term interest rates remain low
for longer
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Summary of options in respect of an integrated TM strategy
o
Undertake selective new borrowing – favour short to medium dated or
temporary borrowing
o
Consider borrowing LOBOs out of forward dates. This would provide
the Council with the flexibility to lock in a proportion of its borrowing
requirement at current low levels
o
Forward deal structures include loans that run at close to Bank Rate
for the next two to three years if the Council wishes to manage its interest
rate risk
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Basics of debt rescheduling
o
Debt rescheduling is the premature repayment of a loan and its replacement
with another loan of a different duration
o
The decision to restructure is driven by the objectives of actively managing a
loans portfolio to generate interest savings whilst maintaining a prudent debt
maturity profile
o
The driver for the implementation of the strategy is the shape of the yield
curve
o
When a loan is restructured there are two core elements to consider:
- The interest rate differential between repaid and replacement loan
- The discount rate that applies to the residual term of a repaid loan
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Basics of debt rescheduling – premiums and discounts
Discounts
o
If a 25 year loan is running at, say, 4.5% and the repayment discount rate for the residual
term is 5% (this rate will be specified daily), a discount (a credit) of, say, £1m will be
achieved
o
Discounts are written down over 10 years as a maximum for General Fund purposes – so
the £1m discount in our example is written down at £100,000 per annum for 10 years
Premiums
o
If, however, a 25 year loan is running at, say, 5.5% and the repayment discount rate for the
residual term is 5%, a premium (a penalty) of, say, £1m is payable
o
Premiums are written down over either the life of the repaid or replacement loan (the choice
is the Council’s). So assuming we write the premium down over 25 years the charge to
revenue is £40,000 per annum for 25 years
Other considerations
o
There are also some rather complex apportionments of interest and discount/premia that
need to be made between the General Fund and the Housing Revenue Account and
cashflow funding of premiums etc…but we won’t worry about that today!
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And Finally…
4. Latest Treasury Management Issues to be Considered
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CLG Committee report on Local Authority investments
(November 2009) – key conclusions and recommendations
o
o
o
o
o
o
Inappropriate to restrict LA investment options
CIPFA reviewing TM Code of Practice
 To confirm the need for an Audit Committee with specific responsibility for
Treasury Management functions
 To confirm the ability to appoint non elected experts to serve/chair the
Audit Committee
 To confirm the limitations of credit ratings, and their use within the wider
context of financial and economic information and advice
Member training on Treasury Management matters to be a priority
CLG to provide clarification in respect of the appropriate use of credit ratings
In respect of Treasury Management, the Audit Commission, CIPFA and FSA to
clarify their roles as regulatory and advisory bodies
Government to carry out an urgent review of the arrangements for early
repayment of debt to the PWLB
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Questions?