Insight & Analysis

A balancing act: security or yield?

Published: Sep 2019
Stones balancing at beach

Every business strives to maintain a balance in its investment policy between security, liquidity and yield. But a decade on from the financial crisis, and with interest rates remaining largely low, should treasurers start to pay a bit more attention to yield, or are security and liquidity still the order of the day?

It goes without saying that corporate treasurers tend to be somewhat cautious. The memory of the financial crisis of 2008 lives on, and interest rates remain stubbornly low. However, a combination of the low rate environment and the transition to the new European Money Market Fund (MMF) reforms this year has prompted many clients to review their investment policies and make sure they are fit for purpose.

Does yield mean security?

According to the Association of Finance Professionals (AFP), the overall majority of organisations continue to allocate a large share of their short-term investment balances – an average of 74% – in safe and liquid investment vehicles: bank deposits, MMFs and treasury securities. MMFs currently account for 22% of organisations’ short-term investment portfolios, which is slightly higher than the 19% reported in the AFP’s 2018 liquidity survey.

Standard MMFs are starting to see a rise in popularity in such a low interest rate environment. According to Beccy Milchem, Co-Head of EMEA Cash Sales at BlackRock, there has been a significant growth in Ultra Short Bond Funds. Since the start of the year, the investment bank has seen its US$9bn Standard MMF fund range increase its AUM by more than 40%.

“Clients with large strategic cash balances who can afford to give up liquidity, are increasingly looking to outsource tailored separate account solutions to an asset manager to mitigate the low yield environment,” she says.

According to Sarah Boyce, Associate Director – Policy and Technical, at the Association of Corporate Treasurers (ACT), treasurers will always look for as much yield as they can find, but it will all come back to the risk appetite of the organisation. “One of the challenges is that a lot of banks really aren’t interested in taking cash any longer because it simply doesn’t work from their balance sheet perspective,” she says. This, according to Boyce, explains the increase in popularity in MMFs.

However, with Basel III regulations increasing the cost of carrying liquidity, central bank policy is likely to be more accommodative in the near term through lowering interest rates. As such it will make sense for organisations to segment their cash where possible. However, companies should always be mindful of the risks associated with longer durations or credit profiles – and so sound advice will be key.

Without a doubt, the principal drivers for the global economy and markets moving forward will be trade and geopolitical frictions. “This has led us to downgrade our growth outlook further and take a modestly more defensive investing stance,” says Matt Clay, Head of EMEA Cash Portfolio Management at BlackRock. “We expect a significant shift by central banks toward monetary easing to cushion the slowdown, and therefore we expect downside pressure on yields to continue into 2020. This policy pivot should extend the long expansion,and has already triggered easier financial conditions.”

Information like this will be crucial moving forward. Banks have long played a key role in supporting organisations in their cash and short-term investment strategies. However, where they were once subdued, they play a much greater role by providing organisations with critical information on economic indicators and trends. Complementing the advice from banks, treasurers are also likely to look to other financial partners for insight and analysis.

These include, but are not limited to:

  • Investment research from brokers.
  • Money market portals.
  • Credit rating agencies.
  • Data feeds from information sources (eg Bloomberg or Reuters).
  • Custodians.
  • Credit research firms of third parties.

“Treasury teams are continuing to seek our guidance when it comes to the most appropriate levers for generating incremental return,” says Jim Fuell, Managing Director, Head of Global Liquidity Sales International at J.P. Morgan Asset Management. “However, in the current environment, leaning too heavily on any one particular lever has the potential to result in amplified downside risk”.

Sound advice across a number of levels is key.

Moving forwards

In today’s uncertain economic climate, the more information available on investment decisions and policy the better. However, despite this, treasury and finance professionals continue to be apprehensive about drawing-down on their organisations’ short-term cash and investments unless they absolutely have to. As such, liquidity and safety will remain the most important short-term investment objectives for treasurers when it comes to their organisation’s cash.

“We continue to see high cash balances acting as a buffer in the face of market uncertainty,” said Barry F.X. Smith, Chief Operating Officer of State Street Global Advisors Global Institutional Group in the 2019 AFP Liquidity Survey. “Cash management is increasingly being used by investment professionals as part of a broader corporate strategy.”

It is hard to predict if there will be difference in where cash and short-term investments will be a year from now. Geopolitical tensions between America and China, the uncertainty around Brexit and increasing regulations mean that treasurers will continue to face tough decisions.

If treasury feels confident about the economic and political environment, or if the organisation really believes that its cash should be working harder, they may also feel more confident about changing the way they manage their organisations’ cash and short-term investments. However, in the current economic and political climate, security and liquidity will remain the order of the day – for now.

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