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Topics covered

•Legal / regulatory

framework

•Treasury Management

Code

•Prudential Code

•Financial Markets

• Investment Strategy

•Debt ManagementPresented by

David ChefneuxAssociate Director,Sector

An Introduction to Treasury Management

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Treasury Management – as per CIPFA TM Code of Practice

The management of the organisation’s:-

• Investments

• Cash flows

• Banking

• Money market and capital market transactions

Effective control of risks associated with those activities

Pursuit of optimum performance consistent with those risk

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Local Government Acts

Local Government (Scotland) Act 1975

• Power to borrow

• Allowable sources

• May lend to another authority

• Loans Fund

• Power to establish funds

Local Government in Scotland Act 2003

• S.35 Capital expenditure limits

• S.36 Imposition of capital expenditure limits (have regard to Prudential Code under S.S.I. 2004 No.29)

• S.40 Power to invest money in accordance with regulations by ministers

Local Government Investments (Scotland) Regulations 2010

• Authorities may only invest with the consent of Scottish ministers

• Must have regard to TM Code & Prudential Code

• Consent of Scottish Ministers for local authorities to invest money

• Must comply with conditions set out in this circular

• Investment properties included in LA portfolio of investments

• Any loan to third party is an investment – except loans to another authority forming part of the Common Good under s.40 2003 Act

• Have regard to TM Code of Practice and Prudential Code

• Only make investments defined as permitted investments

• Identify which investments permitted in the coming financial year

• Limits for amount that may be invested in each type of permitted investment

• State objective of each type of investment

Finance Circular 5/2010 (1)

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Finance Circular 5/2010 (2)

• Identify risks for each type of investment

• Annual Investment Strategy for each year –approved by full board or Council before the start of each financial year

• Recommend Investment strategy part of wider TM strategy

• Max value and period for investments

• Must not borrow more in advance of needs to make a profit

• Policy for borrowing in advance of need and justification for any taken

• Annual Investment Report within 6 months of end of year

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CIPFA Treasury Management Code

Why?

•High profile losses of investments with banks

that defaulted in 1990s

•Breakdown of confidence between City financial institutions and local authorities

•Inappropriate increase in risk exposure

•Maintain high and consistent standards in looking after public funds and debt

•Large cash balances held by local authorities and new investment instruments

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CIPFA Treasury Management Code – three key principles

1. Formal and comprehensive objectives, policies, practices, strategies, & reporting arrangements for effective management and control of TM activities

2. Control of risk: security, liquidity, yield

3. Value for money within context of effective risk management

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CIPFA Treasury Management Code – Clause 1Treasury Management Practices

• Working documents for officers

• How policies and objectives in the Treasury Management Policy Statement will be achieved

• How it will manage and control those activities

• Do not have to be formally approved by Council but subject to scrutiny

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CIPFA Treasury Management Code – Treasury Management Practices

TMP1 - Treasury risk management

TMP2 - Performance measurement

TMP3 - Decision making and analysis

TMP4 – Approved instruments, methods and techniques

TMP5 – Organisation, clarity and segregation of responsibilities and dealing arrangements

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CIPFA Treasury Management Code – Treasury Management Practices

TMP6 – Reporting requirements and management information arrangements

TMP7 – Budgeting, accounting and audit arrangements

TMP8 – Cash and cash flow management

TMP9 – Money laundering

TMP10 – Training & qualifications

TMP11 – Use of external service providers

TMP12 – Corporate governance

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CIPFA Treasury Management Code – Clause 2: Reporting requirements

Before the start of the yearAnnual strategy and plan

Mid-year (minimum) Mid-year review

After year end Annual report

To go to full Council – can be scrutinised by committee beforehandAlso regular monitoring reports to executive and scrutiny committee

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Prudential Code: Objectives

Achieved by:

•Strategic planning – service priorities and objectives

•Asset management planning – whole of life costs

•Option appraisal – individual projects

•Practicality – is plan achievable and realistic?

Affordable capital expenditure plans

External borrowing and liabilities within prudent and sustainable

levels

TM decisions in accordance with good practice

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Prudential Code: Indicators

•To be set before start of year

•Reviewed at end of year

•Revised as required – following correct process

•Set for the coming year and following 2 years

•Approved by same process as budget

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Prudential Indicators – within the Prudential Code

Indicator Estimate Actual

Adoption of TM Code and guidance notes

Ratio of financing costs to net revenue stream Incremental impact of capital expenditure decisions on the council tax (& housing Capital Expenditure Capital Financing Requirement (CFR) Net borrowing and the CFR Authorised limit (Statutory limit) Operational boundary Actual external debt

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Financial Markets

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What drives the Financial Markets/Interest rates?

International data / events

Key UK data / events

Inflation Target (2.0%)

Monetary Policy Committee (MPC)

Bank Rate (0.5%)

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What affects Money Market Yields?

High

Low

Short Term Rates:

Overnight1 month2 months

3 months

4 months6 months9 months12 months

Supply / Demand

Expectation of the Bank Rate

Forecast of the future direction of Bank Rate

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What affects Gilt (Bond) yields?

Low

Expectation of Bank Rate

Combination of Bank Rate expectations and Inflation

• Inflation expectations

• Government’s policy and future funding requirements

• Institutional demand (e.g. Pension Fund liability matching req)

1 year2 years3 years4 years5 years

5-10 years

10-20 years20-30 years30-40 years40-50 years

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Bank of England Forecasts

February 2012

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Interest Rates on 10-year Government Bonds (%)

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Sovereign Bond Yield (10 Year Benchmark)

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Investment Strategy

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Types of risk

Remember • Security

• Liquidity

• Yield

• Counterparty

• Market / interest rate

• Liquidity

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Counterparty Risk

• Credit ratings – Bank and Sovereign

• Credit Default Swaps

• Equities

• Market Rates

• Market analysis and information

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Credit Ratings

What is a credit rating?

• Independent assessment of an organisation

• Likelihood of getting money back

• Statement of opinion

• Risk associated with investments in a counterparty

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Credit Ratings

Who provides credit ratings?

• Fitch

• Moody’s

• Standard & Poor’s (S&P)

Who uses credit ratings

• Local authorities

• Other non-financial institutions

• Financial institutions

• Professional bodies

• Central banks

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Credit Ratings

Credit rating categories

• Short term (Fitch, Moody’s, S&P)

• Long term (Fitch, Moody’s, S&P)

• Viability (Fitch) / Financial Strength (Moody’s)

• Support (Fitch)

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Credit Ratings

Investment Grade (Short term, Long term)• Fitch: F3, BBB• Moody’s: P-3, Baa• S&P: A-3, BBB

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Credit Ratings

Rating Outlook

• Positive

• Stable

• Negative

Rating Watch

• Positive

• Negative

Rating change indicators

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Credit Default Swaps (CDS)

Description

• Market indicator of risk associated with a counterparty

How can they be used?

• Part of Annual Investment Strategy

• Day-to-day decision making

Considerations

• Speculation

• Trends

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Counterparty Risk Summary

Credit ratings are an opinion, no guarantee

Assess all information available

• Ratings

• Rating Outlooks / Watches

• CDS

• Equities

Get a number of quotes

• Market rates

• Evaluate relative “value” of investment rate

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Risk Management Considerations

SecurityManage counterparty risk

LiquidityCheck your liquidity requirements

Yield Set realistic target rates and understand the relative risk associated with each investment

If in doubt, ask!

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Investment Instruments

• DMADF (Debt Management Agency Deposit Facility)

• Treasury Bills

• Money Market Funds

• Government Liquidity Funds

• Fixed Term Deposits

• Call/Notice Accounts

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Diversification

Spread of risk - ‘not having all your eggs in

one basket’Interest rate views

Counterparty exposure and limits

Asset classes

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Debt Management

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Potential Sources of Funding

On Balance Sheet Fixed VariablePWLB Public Works Loans Board Y Y

EIB European Investment Bank Y Y

Market Y Y

Stock issues Y Y

Local bonds Y Y

Overdraft

Internal (capital receipts & revenue balances)

Y Y

Leasing (finance leases) Y Y

Private Finance Initiative (PFI) Y Y

Off Balance Sheet

Leasing (operating) Y Y

Other Methods of Financing

Government & EC Capital Grants

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Borrowing from PWLB

PWLB rates are set twice dailyThey lend up to:

• 10 years variable rate (Maturity & EIP only) for 1, 3 or 6 month rollovers

• 50 years fixed rate

Minimum period of a new loan is 1 year (Maturity debt) and 2 years for Annuity and EIP debt

Fixed rates are based on a margin above Gilt yields (per Section 5 of the National Loans Act 1968)

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External borrowing – other considerations

• Does the Authority have any other debt portfolio objectives?

• Are there urgent short term budgetary pressures to find savings?

• Is the average rate of interest on the existing debt portfolio viewed as being too high? Is it out of line with peer authorities?

• Is the existing maturity profile of the debt skewed in a way that needs remedial action?

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Any Questions?