Funding & Investing

Reviewing short-term investments

Published: Mar 2017
Various financial charts

Currently in the process of being implemented, Basel III has considerable implications for banks – and, by extension, for their corporate customers. In light of the changes, treasurers need to have a clear understanding of how the new regulation may affect their bank deposits, and whether alternative investment vehicles might be worthy of investigation. As such, treasurers should assess whether any changes are needed to their short-term investment instruments and policies.

Deciding where to invest short-term cash is one of the core responsibilities of the corporate treasury. In recent years, however, this task has become considerably more challenging. Whereas short-term investments used to be placed on the basis of a company’s requirements for security, liquidity and yield, more recently the low interest rate environment has meant that companies can expect little yield from their short-term investments. At the same time, regulatory changes aimed primarily at financial institutions – such as Basel III – are having a knock-on effect for corporations around the world as banks re-evaluate the value of different types of corporate deposit.

While Basel III is aimed at the financial services industry, the new regulation also has considerable implications for corporate treasurers. “Basel III is a financial services industry event with material rippling effects to corporates,” comments Mario Tombazzi, Group Product Management Head, Liquidity Management and Account Services, Global Transaction Services, DBS Bank. He points out that Basel III requires banks “to adopt industry-wide measures to improve capital adequacy, reduce liquidity risk and enhance liquid asset quality and funding structure.”

For corporate customers, the implications of Basel III include increased lending costs as banks face a higher cost of capital and funding. Meanwhile, the operational deposit framework means that certain types of deposit are becoming more attractive to banks than others. An important distinction is made between operational deposits – ie deposits which are used for daily operations, such as cash management, securities settlement and payment remittance – and non-operational deposits, such as surplus cash, which may be more likely to be withdrawn in the event of a liquidity crisis.

For banks, the implications of this distinction are considerable. “Basel III liquidity and capital norms will make it increasingly complex for corporates and often un-economical for banks to accept deposits that are not directly tied to operating business flows from clients,” comments Gourang Shah, Head of Treasury Services Solutions for Asia Pacific at J.P. Morgan.

Treasurers/CFOs then need to be able to think how they invest to be able to manage the yields on investments, as regulations require banks to assess stability and quality of deposits as well under the new norms.

Harjeet Kohli, CFO, Bharti Enterprises

Ong Shiwei, Global Head, Cash Liquidity Management Products, Transaction Banking at Standard Chartered, notes that Basel III has dramatically changed the way banks view deposits, adding that one of the biggest components is the Liquidity Coverage Ratio (LCR) framework which lays out how deposits should be valued by banks. “Operational deposits from corporates are the new liquid gold to all banks, whereas we hear that some banks are simply shying away from deposits that do not meet their definition of “operational” or tenor requirements to be qualified as LCR friendly,” Ong adds.

Philippe Jaccard, Head of Liquidity & Balance Sheet Management, Transaction Banking at ANZ expands on the difference between the different types of deposit: “Banks value more retail and corporate operating account deposits because of their greater risk-weighted-asset (RWA) funding value and they may pay a premium for them,” he says. “Meanwhile, deposits from other financial institutions and short-term fixed deposits have lower funding value.”

Jaccard points out that this type of cash can no longer be used to fund RWA. As a result, “It creates excess cash invested in very short-term instruments that attracts an expensive capital allocation, or is left with central banks at very low yield. Sometimes it even has a negative yield, hence why these products are no longer as attractive to banks and may even carry a discount.”

Where companies’ operational deposits are concerned, Basel III has prompted some banks to develop solutions specifically aimed at these types of deposit. Ong says that with this new focus, banks are actively providing more value-added solutions to improve companies’ visibility and control of their operational balances, as well as comprehensive treasury advisory services on their end-to-end cash management. At the same time, however, the evolving liquidity climate presents corporations with a number of challenges when it comes to the area of short-term investments.

Challenges for corporations

While Basel III is aimed at banks rather than corporations, the new regulation does have consequences for companies around the world – and treasurers need to understand the implications for their businesses. According to Ong, “The biggest challenge for corporate treasurers is probably the uncertainty, which is still the case for the implications on certain bank offerings such as notional pooling.” Indeed, there has been some discussion about whether notional pooling will continue to be a viable solution under Basel III.

Treasurers should also assess the impact of the new regulations on their existing bank relationships. “The first challenge to corporate treasurers is to understand how their key bank relationships are impacted by the adoption of the Basel III requirements in the locations where they manage their liquidity pools from,” says Tombazzi. “Regional and global banks with extensive small business and retail customer bases have a solid and Basel III efficient funding base, which allows them to reduce some of the impacts to corporates.” By now, Tombazzi says that the dialogue with banks should have armed treasurers with a pretty good understanding of the banking landscape – and that corporations need to be as proactive as their banks in order to understand these dynamics.

Basel III

Building on the measures introduced by Basel I in 1988 and Basel II in 1999, Basel III was developed following the financial crisis of 2007-2008.

Developed by the Basel Committee on Banking Supervision, Basel III is a set of measures which are intended to make the banking sector more robust. According to the Bank for International Settlements, the goals of these measures are to:

  • Improve the banking sector’s ability to absorb shocks arising from financial and economic stress, whatever the source.
  • Improve risk management and governance.
  • Strengthen banks’ transparency and disclosures.

Basel III’s requirements include minimum capital requirements and a minimum leverage ratio. Where liquidity is concerned, Basel III includes the Liquidity Coverage Ratio (LCR), which is intended to make sure that banks have enough assets to cover cash outflows over 30 days. Meanwhile, the Net Stable Funding Ratio (NSFR) requires banks to hold a minimum level of stable funding over a one year horizon.

In addition, Tombazzi notes that since non-operational deposits carry less value than in the past, there will be periods of excess liquidity in the market which banks will not be able to intermediate effectively. “Corporations might not be able to achieve expected returns on short dated tenors, or may experience challenges to allocate deposits in accordance with internal policies (counterparty risk, concentration thresholds, etc),” he says.

Harjeet Kohli, CFO of Bharti Enterprises, notes that as banks adapt to Basel III, it is increasingly important for organisations to assess – or reassess – their liquidity and cash flow solutions, as well as the durability of these solutions and their ability to project surpluses accurately. “Treasurers/CFOs then need to be able to think how they invest to be able to manage the yields on investments, as regulations require banks to assess stability and quality of deposits as well under the new norms,” he adds.

On the other hand, Jaccard argues that the impact of Basel III actually simplifies the work of corporate treasurers, who no longer need to place short-term fixed deposits in order to maximise cash yield and balance investment counterparty risk. “The focus can be on the counterparty risk of the operating banks,” he explains. “If the operating bank can operate sweeps across multiple banks, the entire process of managing counterparty risk can be further automated.”

Weighing up the alternatives

Given the yield pressure placed by Basel III on wholesale deposits, treasurers may wish to consider other investment vehicles for their short-term cash. However, for companies in Asia this may be something of a challenge. “In Asia there are very few alternatives,” Jaccard points out. “Bank deposits are the overwhelming choice of companies.”

Ong adds that while bank deposits are still favoured by treasurers, “for strategic cash that may not qualify as operational deposit, corporate treasurers are having open discussions with their partner banks for term deposits of 31 days (or longer), or automated solutions to proportion their strategic cash in MMFs.”

An investment policy is unlikely to be updated very frequently – but market changes may prompt treasurers to revisit their policies to make sure that they remain relevant both for the company’s needs and for the prevailing market conditions.

In some cases, there may be opportunities for companies to explore other short-term investment products such as money market funds (MMFs) and high-rated short-term debt. “Alternative instruments exist today, both on- and off-balance sheet, from a bank’s perspective,” says Tombazzi. “These include notice deposits, notice accounts and flexible term deposits (on-balance sheet) and liquidity/money market funds and fixed income securities (off-balance sheet).” He adds that while take up of these alternatives is low at this stage, “they are increasing in popularity and we expect the demand to increase materially starting from this year.”

Indeed, the use of money market funds is becoming more widespread in Asia. Money market funds are relatively new to the region in comparison to the more established industry in the US and Europe. However, Asia’s MMFs have grown considerably over the last year: China’s MMFs now represent 12.6% of the global market according to ICI data.

MMF regulation

Bank deposits are not the only short-term investment vehicle to be affected by regulatory change: money market funds are also undergoing a period of considerable change in the US and Europe. During the financial crisis, the Reserve Primary Fund ‘broke the buck’, meaning that its Net Asset Value (NAV) fell below US$1. An investor run ensued and the fund collapsed. The MMF industry has subsequently been the focus of increased regulatory scrutiny, paving the way for significant changes.

The money market fund reforms recently introduced in the US required funds to move away from the previous model whereby investments usually had a constant net asset value (CNAV) of US$1 a share, with certain funds now required to adopt a variable NAV instead. Other changes include the introduction of liquidity fees and redemption gates in certain situations. As a result of the changes, which came into effect in October, the industry has seen outflows of around US$1 trillion over the last year, with many investors moving cash from prime funds to government money funds.

Change is also on its way in Europe, following years of negotiation. In November 2016, an agreement was reached between the European Parliament, Council and Commission on the draft regulation. The proposed rules include the introduction of a new category of funds: Low Volatility NAV (LVNAV) funds. The new rules are not expected to come into effect before the end of 2018.

Reviewing investment policies

When seeking to respond to the challenges brought by Basel III, it is important to have the right policy in place for short-term investments. An investment policy should reflect the company’s investment goals and risk appetite and should set out guidelines covering approved investment instruments and counterparties, as well as currencies and maturity limits for investment instruments.

“A corporate’s short term investment policy is fundamentally about managing risk, including interest rate risk, foreign exchange risk, counterparty risk, liquidity risk, operational risk and more,” says Ong. “In Asia, developing countries have stringent regulations on capital outflow and currency control, liquidity risk stands out even more for regional or global corporate treasurers to take into account when setting investment policies for such restricted countries.”

An investment policy is unlikely to be updated very frequently – but market changes may prompt treasurers to revisit their policies to make sure that they remain relevant both for the company’s needs and for the prevailing market conditions. While companies in Asia continue to favour bank deposits, the challenges brought by Basel III may therefore act as an impetus to revisit existing policies and consider whether alternative investment products might be suitable.

When it comes to choosing or amending an investment policy, there are a number of factors to consider. Jaccard points out that an investment policy should include the following points:

  • Long and short-term credit rating of banks.
  • Tenor and ability to break funds on very short notice.
  • Yield.
  • Underlying liquidity risk if investment is in securities other than bank deposits.
  • Currency transferability and convertibility.
  • Withholding tax.
  • Cash flow forecasting accuracy.
  • Accounting treatment, eg mark-to-market of securities.

In practice, not all treasurers will choose to revisit their investment policies in light of Basel III – and treasurers in Asia may be less likely to do so than treasurers in other regions. Ong says, “We observe that most corporate treasurers are risk averse and not taking drastic steps to change their short-term investment policy or rejig their portfolio mix of safe and liquid investment options.”

When seeking to respond to the challenges brought by Basel III, it is important to have the right policy in place for short-term investments.

Indeed, J.P. Morgan’s Global Liquidity Investment PeerViewSM 2015 study found that while 38% of all respondents were planning to make changes to their investment policies in light of regulatory and interest rate considerations, only 26% of respondents based in Asia Pacific were planning to do so. Similarly, respondents who were planning to reduce their investment in bank deposits were asked if their banks had encouraged them to move non-operating deposits off their balance sheet as a result of Basel III regulations or other factors. This was reported to be the case for 47% of respondents in total, but for only 11% of respondents in Asia Pacific.

Nevertheless, treasurers should take the opportunity to understand how regulatory developments affect their investments – and whether changes to the investment policy could be beneficial. Shah says that companies “should review their investment policy to ensure enough flexibility to allow for alternative investment options for deploying their non-operating cash.” He adds, “This should also drive a closer alignment of cash management and investment policy for companies, as they look to consolidate their cash management flows (ie payments and collection) and liquidity balances with fewer banks with global footprint in order to drive efficiency and optimise investment capacity.”


The climate for short-term investments is certainly challenging. Aside from the implications of Basel III and other regulatory changes, other factors may also prompt treasurers to revisit their investments. According to Ong, these may include volatility in the interest rate environment – “ie USD rate hikes in contrast to the drop in most Asia Pacific currencies and negative yielding European currencies” – as well as the growing trend for countries to adopt a protectionist stance.

While different strategies are available to treasurers looking to overcome the challenges of the new liquidity environment, it is also important to recognise that these may not be foolproof. With the Basel III measures still in the process of being implemented, the full impact of the changes is yet to be fully understood. As Tombazzi points out, this uncertainty “causes differing behaviours from banks in the offering and pricing of similar deposit products, which are not easy to reconcile.”

Treasurers should therefore aim to gain a clear understanding of the current climate for short-term investments, as well as making any necessary adjustments. As Ong concludes, treasurers in Asia “should emphasise monitoring and gaining better visibility of their local currency exposures, and keeping their short-term investment policy agile to adjust to the continuously changing regulatory landscape.”

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