LONDON BOROUGH OF NEWHAM
thCABINET COMMITTEE - 18 March 2002
Agenda item number
16
DRN: CC197/01-02
SUBJECT: Treasury Management Strategy 2002/03 and 2001/02 Update
SOURCE: Director of Finance
Wards Affected: ALL
Purpose of report:
This report sets out:-
? The Treasury Management Strategy for 2002/03 including statutory determinations
? An update on Treasury Activity in 2001/02 to date
Recommendations
Cabinet is asked to agree the following for recommendation to Council :-
1. The Annual Strategy Document 2002/03 (Appendix A)
2. The following determinations as set out in the Annual Strategy Document 2002/03
a) An overall borrowing limit of ?720m.
b) A 35% short-term borrowing limit of ?238m.
c) A variable rate borrowing limit of 35%
3. Note the update on Treasury Management activity in 2001/02
Bob Heaton
Director of Finance
_________________________________________________________________________________
Originator of report: Bob Heaton
Job Title: Director of Finance
Telephone: 020 8430 2931 / ext. 22644
Report Dated: 11th March 2002
Fog Index 10.7
CIPFA - Treasury Management in Local Authorities - A Code of Practice and
A Guide for Chief Financial Officers
Sector Treasury Services Ltd. - U.K. Economic Forecasts
FIS Volume 6 - Capital Expenditure and Finance
London Borough of Newham - Treasury Management Strategy 2001/02
Treasury Policy Statement
Annual Report 1999-2000 KM 05/04/10
Executive Summary
This report sets out the Treasury Management Strategy for 2002/03 including statutory determinations, recommends some minor changes to the Council’s Treasury Policy Statement and provides a brief report on the activities undertaken during 2001/02 to date. The report is in line with legal requirements and borrowing codes of practice.
Outline of Proposals
Report to agree Treasury Strategy Document and borrowing limits for 2002/03 for recommendation to Council.
Outcomes Sought
The report is being made to keep cabinet members aware of treasury policies, an area of potentially high financial risk, being pursued in accordance with the CIPFA code of Practice and the Council’s Treasury Policy Statement.
Service Delivery / Performance Management Issues
Treasury Management is an area where balancing risk against prospective returns is key to protecting the financial position of the Council without exposure to undue risk.
Link to Vision and Strategies
The report has no direct impact on service delivery to the public. However, the ability to contain costs and make savings in this area will directly affect the level of resources available for the development of Council strategies and the achievement of the Vision.
Local Area Impact
The report has no specific impact on the Local Area other than the achievement of financial savings that will help to maximise resources available for Council services.
Financial and Legal Implications
Legal: None arising from this report.
Financial: The Council is expected to end 2001/02 with a loan debt of ?616m and investments of
approximately ?85-95m. Clearly these need to be proactively managed to keep borrowing costs to a minimum and enhance returns on investment without incurring undue risk. Annual interest payments are in the order of ?50m with investment interest of around ?5.2m.
The recommended strategy, including the overall, short-term and variable rate borrowing limits, will provide sufficient flexibility for the Director of Finance to manage the Council’s loan debt effectively in 2002/03.
Due to interest rate fluctuations, there is a risk that future investment income will be lower than expected if short-term interest rates due not increase from current levels in the near future.
Key Considerations / Issues For Discussion
This report outlines the Council’s strategy on borrowing and investment issues. These have a direct
impact on the Council’s future medium term budget plan.
Consultation
The Council’s budget monitoring arrangements involve continuous dialogue and consultation between finance staff, external investment managers and external advisers.
Annual Report 1999-2000 KM 05/04/10
1. INTRODUCTION
1.1 Treasury Management is delegated to the Director of Finance. In recognition of the risks
associated with them, Treasury Management activities are governed by the Council’s Treasury
Policy Statement, which sets out the type of activities that may be undertaken, by whom and
specifies the reporting requirements. The Statement requires that a report be made prior to the
start of the financial year mainly to agree a strategy for the forthcoming year. This report
complies with that requirement.
1.2 The purpose of this report is to: -
? Recommend changes to the Council’s Treasury Policy Statement, including the
implementation of the new CIPFA recommended Treasury Management Practices.
? Present the 2002/03 Treasury Management Strategy for approval including key parameters
controlling the Council’s borrowing activities during the new financial year.
? Provide a brief update on the Treasury Management Activity undertaken so far during
2001/02.
1.3 In 2002/03 the main risk to be managed is the volatility of the income received on the
Council’s investments that could impact on the Medium Term Financial Strategy. The
Council’s loan debt is currently made up almost entirely of fixed rate loans. Movements in
interest rates will only have an impact on that part of the portfolio to be replaced,
approximately 8.2% in 2002/03. So although it is important to get borrowing decisions right in
the long term, interest costs are relatively easy to model and plan for within the Budget
Strategy.
In contrast the return on the Council’s investments is potentially far more volatile being
dependent on both the level of balances and interest rates. In 2002/03 it is investment income
that poses the greatest risk to the Council’s financial position. The Budget for 2002/03 is
?5.2m.
2. TREASURY POLICY STATEMENT
2.1 The council maintains a Treasury Policy Statement in accordance with the CIPFA Code of
Practice on Treasury Management and best practice. A number of minor changes are
suggested now. These are as follows:
2.2 Use of Money Market Funds. This is an investment instrument that will be available to Local
Authorities from April 2002. It will allow deposits to be placed in a AAA rated fund at a 7 day
interest rate. If overnight interest rates are below the 7 day rate, then this facility may provide
an attractive short-term option.
2.3 Consideration is being given to new investment opportunities that have recently arisen. These
include a AAA Sovereign rated Debt Management Account Deposit Facility administered by
the Government Debt Management Office and a AAA rated Deposit Scheme administered by
the Bank of Ireland. These types of account would come under the scope of Short Term
Sterling Deposits in the Treasury Policy Statement.
2.4 The maximum investment term for any ?2 million deposit placed with a AA rated Foreign bank
have been extended from 6 months to 364 days. The limit for the remaining ?8 million is to
remain at six months. This change is to allow new fund manager, Alliance Capital more scope
to maximise investment returns with very little increase in investment risk. Specialist advice
was taken from Sector in making this minor change.
Annual Report 1999-2000 KM 05/04/10
2.5 The Policy Statement already allows the use of Market loans. Consideration is being given to
using Market Loans at stepped rates, know as Lender’s Option, Borrower’s Option loans
(LOBO’s). This means that after an initial period of low fixed interest rates (two years), the
stepped loan would run at a higher fixed rate until maturity (30 to 40 years in the future). If the
lender asks for an interest rate change, the Council has the option of repaying the loan with no
penalty.
2.6 CIPFA have recently published an updated set of recommended Treasury Management
Practices. Most changes from the previous version relate to different ways of presenting the
practices document, rather than any fundamental changes in treasury practice. The Council
treasury System Document is being updated to take account of this updated version.
3. ANNUAL STRATEGY 2002/03
3.1 The Annual Strategy document for 2002/03 is contained in Appendix A for approval. This sets
out the strategies to be adopted in the management of the treasury function during 2002/03.
3.2 In addition the strategy document contains the limits the Council is required to set on its overall,
short-term and variable rate borrowing under S.45 of the Local Government and Housing Act
1989. These determinations must be made by the Council and may not be delegated to
Committees or Officers. Therefore the determinations need to be referred to Council on 15th
April 2002.
4. TREASURY MANAGEMENT ACTIVITY 2001/02
th4.1 Cabinet Committee agreed a Treasury Management Strategy for 2001/02 at its meeting of 19
March 2001. The purpose of this section of the report is to provide members with an update on
that strategy detailing the activities undertaken so far this year.
4.2 Borrowing Requirements
4.2.1 The latest estimate of net borrowing requirements in 2001/02 is as follows: -
2001/02 Borrowing
Requirement
?000s
Maturing long-term debt 33,824
Financing Capital Expenditure 28,249
62,073
Less: Repayments from Revenue (15,718)
Reserved Receipts (17,200)
29,155
This is lower than originally predicted (?39.122m) due to an increase in anticipated Reserved
Receipts.
4.2.2 The Council’s Public Works Loan Board (PWLB) Quota for 2001/02 at ?77.45m, including
some carryover from 2000/01 (?13.3 million), is more than sufficient to meet our borrowing
requirements.
4.2.3 As investment rates have fallen rapidly in the last six months, a decision was made to reduce
investment levels and overall borrowing levels. This also had an effect of maximising Housing
subsidy for debt charges.
Annual Report 1999-2000 KM 05/04/10
4.2.4 Debt totalling ?94.8million has been repaid in 2001/02; this includes ?61 million of loans that
were repaid early, without penalty or where a discount was receivable. Long term borrowing
of ?58 million was made at lower rates.
4.3 Interest Rates and Borrowing Strategy
4.3.1 The Borrowing Strategy being adopted in 2001/02 is closely related to the view of future
movements in interest rates.
4.3.2 At the start of the year Sector, the Council’s treasury advisers, were predicting that short-term
rates would fall in 2001 to around 5?% and remain stable during the rest of the year. Long
term rates were also expected to remain broadly stable, rising a little during the year to just
over 5%.
4.3.3 Some commentators were expecting Base Rates to stay relatively stable for the rest of 2001,
with a possible increase of ?%- ?% during late 2001 / early 2002, but since the events in New thYork on the 11 September, Base Rates have been cut by 1% to 4% in an attempt to avoid
recession. Sector believe that these rates will rise by the end of 2002 to around 4?%, although
some commentators believe the poorly performing American economy may cause Base Rates
to stay at 4% or fall lower during the remainder of the year.
4.3.4 Longer term rates have fluctuated slightly since March 2001 with 25 year PWLB loans
between 4?% and 5 3/8%. Long term rates are expected to remain at around 5% during the
rest of 2002 although an increase in future Government spending may cause them to rise in
2003.
4.3.5 ?28 million of long term borrowing has been taken in September 2001 at 4 7/8% (the lowest
rate available in 2001/02 at that point). A further ?30million was borrowed in December 2001
at 4?%.
4.3.6 Following cuts in investment rates to 4%, ?31 million of PWLB loans were prematurely repaid.
These repayments generated ?494,000 of one-off discounts to the General Fund. This policy of
redeeming loans early to generate discounts was outlined in the September 2001 Treasury
report and forms part of the Council’s medium term budget strategy.
4.3.7 Further loan redemption of ?10 million of PWLB has been delayed until 2002/03 in
expectation that long-term rates may temporarily fluctuate higher, thus maximising discounts
receivable. The Treasury report to Cabinet in September 2001 outlined the repayment of
further ?10 million loans in 2002/03 and 2003/04.
4.3.8 Long term fixed borrowing represents a stable option for funding capital expenditure and
should always be considered within the Treasury Management Strategy. However,
rescheduling opportunities will also be kept under review.
4.3.9 Council officers, alongside treasury advisers, Sector will continue to monitor interest rates and
forecasts so as to adapt the strategy if required.
4.3.10 A borrowing target of taking PWLB monies at, or below 98% of the average PWLB rate for the
year has been set. So far borrowing has been at an average rate of 4.81% against a benchmark
of 4.92%.
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4.4 INVESTMENTS
4.4.1 To date during 2001/02 the Council has had little need to borrow on a temporary basis to meet
day-to-day cash flow requirements. Instead external investments have been made via the
London Money Market of between ?30.8m and ?84.0m reflecting the authority’s day-to-day
cash flow and the relative timing of long-term loans raised and repaid. Following falls in short
term rates, investment balances have been reduced to between ?30 & ?50million.
4.4.2 In addition the Council’s external cash managers (Dresdner RCM, Scottish Widows and
Tradition UK Ltd are managing ?49.7m of cash on the Council’s behalf. The quarterly returns
achieved by the Fund managers are summarised in the table below:
Cash Fund Manager Returns (Net of fees)
ththst30 June 2001 30 Sept 2001 31 December 2001 Quarter to: % % %
Dresdner RCM 0.94 1.87 1.09
Scottish Widows 1.05 1.79 1.06
Tradition UK Ltd(1) 1.40 1.25 1.10
Newham – top ?15m (1) 1.57 1.52 1.31
Newham – all (1) 1.38 1.35 1.15
Average 7 Day LIBID 1.28 1.21 1.01
Internal Benchmark 1.29 1.22 1.02
(101% of 7 Day LIBID)
1. Investing in sterling deposits only, no use of Gilts or CD’s.
4.4.3 Both Dresdner and Scottish Widows underperformed the benchmark in the first quarter and
were both over the benchmark in the second quarter. Both were slightly above the benchmark
in the third quarter. Tradition have been above the benchmark in every quarter, though the
scope of their pure cash investments meant they did not have the potential to outperform by
over 0.5% in the second quarter.
4.4.4 A review of the external cash managers was undertaken in 2001/02. Tradition, a cash manager
was retained as a benchmark for the Treasury Section and to provide an alternate strategy
option, thus reducing risk. Dresdner RCM have been retained, due to their superior long-term
performance, though Scottish Widows have been replaced with Alliance Capital from February
2002. Alliance Capital were chosen for their innovative approach to investing and have been
appointed on a benchmark that will require them to have upper quartile performance over a
three year period.
4.4.5 Following a reorganisation, Dresdner RCM have renamed their cash managing section PIMCO.
The individual managers controlling the fund are unchanged, so the fund strategy will not be
unduly affected.
4.4.6 The remainder of the cash balance is managed internally. Two targets have been set for the
Council Treasury Section to compare performance against benchmarks. These targets are as
follows:
4.4.7 Top ?15million – Tradition UK do not have to consider cash-flow effects when making
investment decisions. This means they have more scope to take advantage of favourable
interest rates when investing and do not have to take account of when Council payments are
due. To allow comparison, the returns on the top ?15 million of Internal investments are
compared to Tradition’s performance. The Benchmark for 2001/02 is to get within Tradition’s
performance by 0.1%. The top ?15million of the internal funds have outperformed Tradition
during this financial year.
Annual Report 1999-2000 KM 05/04/10
4.4.8 Alternate investment opportunities are assessed to take advantage of schemes that offer higher
returns without increasing risk. For example a new deposit account has been opened with
Abbey National Plc. As the Abbey delay changing investment rates until the month following
a Base Rate change, this account offers higher than market rates in times of falling interest
rates. This has been very useful in the last six months, as Base Rates have fallen.
4.4.9 Entire Internal Fund – A benchmark of beating the 7 day LIBID rate by 1% in 2001/02 has
been set. The Council’s Treasury Section have been able to achieve a return higher than
101% of the 7 day rate over the first three quarters of the year.
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