Agenda Item No______9______
ANNUAL TREASURY MANAGEMENT REPORT FOR 2011/12 AND STRATEGY
UPDATE FOR 2012/13
Summary:
This report sets out the Treasury Management activities
actually undertaken during 2011/12 compared with the
Treasury Management Strategy for the year. An update
is included on alternative investment options for
2012/13.
Conclusions:
Treasury activities for the year have been carried out in
accordance with the CIPFA Code and the Council’s
Treasury Strategy. For the future, the Council will invest
in collective investment schemes focusing on property
investment.
Recommendations:
That the Council be asked to RESOLVE that
(1) Treasury Management Annual Report for
2011/12 is approved.
(2) A proportion of the investment portfolio is
invested in the LAMIT and Lime Property Funds.
Cabinet Member(s)
Cllr Wyndham Northam
Ward(s) affected
All
Contact Officer, telephone number and email:
Tony Brown
01263 516126
tony.brown@north-norfolk.gov.uk
1.
Introduction
1.1
The Chartered Institute of Public Finance and Accountancy (CIPFA) defines
treasury management as “the management of the Council’s investments and
cash flows, its banking and its capital market transactions; the effective
control of the risks associated with those activities and the pursuit of optimum
performance consistent with those risks”.
1.2
The Council’s treasury management activities are undertaken in accordance
with the CIPFA Code of Practice on Treasury Management. The Code
requires public sector authorities to determine an annual Treasury
Management Strategy and, as a minimum, formally report on their treasury
activities and arrangements to full Council mid-year and after the year-end.
These reports enable those tasked with implementing policies and
undertaking transactions to demonstrate they have properly fulfilled their
responsibilities, and to enable those with ultimate responsibility for
governance of the treasury management function to scrutinise and assess its
effectiveness and for compliance with policies and objectives.
1.3
This report is prepared in accordance with the requirements of the CIPFA
Treasury Management and Prudential Codes, and sets out details of
investment transactions; reports on the risk implications of treasury decisions
and transactions; gives details of the actual results for the year and confirms
compliance with treasury limits and Prudential Indicators.
2.
Economic Forecast and Outturn for 2011/12
2.1
At the time the Treasury Strategy Statement for 2011/12 was prepared, there
were signs that the UK was emerging from recession with the worst of the
financial crisis behind it. Recovery in growth was expected to be slow and
uneven as the austerity measures announced in the 2010 Comprehensive
Spending Review were implemented with the intention of bringing down the
budget deficit and government borrowing, and rebalancing the economy and
public sector finances. Inflation as measured by the Consumer Price Index
(CPI) had remained above 3% and unemployment was at a 16-year high at
2.5 million. It was expected to rise further as the public and private sectors
contracted. There was also a high degree of uncertainty surrounding the
level of sovereign debt of some the Eurozone countries.
2.2
During the year inflation remained high with CPI and the Retail Prices Index
(RPI) rising in September 2011 to 5.2% and 5.6% respectively. The rise was
due primarily to increases in utility prices and VAT to 20% in January 2011.
Inflation eased slowly as reductions in transport costs, food prices,
intensifying competition amongst retailers and supermarkets, and the VAT
increase falling out of the calculation in 2012. By February 2012 these factors
reduced CPI to 3.4% and RPI to 3.7%. This, however, was not enough to
offset low wage growth and, as a result, UK households suffered the biggest
drop in disposable income in more than 30 years.
2.3
Growth in UK Gross Domestic Product (GDP) was weak and was positive in
only the first and third calendar quarters of 2011. Annual GDP to December
2011 registered just 0.5%, and the Bank of England downgraded its forecast
for growth in 2012 to 1%. The unresolved problems in the Eurozone had a
negative impact on global economic prospects. Unemployment increased to
2.68 million and youth unemployment rose above 1 million and with no
sustained growth in house prices, consumer confidence remained fragile.
2.4
The Bank of England’s Monetary Policy Committee maintained the Bank Rate
at 0.5% where it has been since March 2009. It increased Quantitative
Easing by £75bn in October 2011 and another £50bn in February 2012 taking
the total to £325bn. Quantitative Easing is the process whereby the Bank
hopes to inject money into the economy by electronically creating money to
buy bonds from financial institutions when it can no longer raise the amount of
lending and activity in the economy by cutting interest rates.
2.5
In Europe the sovereign debt problems for some peripheral countries became
critical. Several policy initiatives were tried to alleviate the problem, but were
largely ineffectual; two bailout packages were required for Greece and one for
Portugal, and the value of Spanish and Italian sovereign bonds fell in
November 2012. The credit rating agency Standard & Poor’s downgraded
nine European sovereign states along with the European Financial Stability
Facility (EFSF). This is a body set up to safeguard financial stability in the
Eurozone by raising funds in the capital markets to provide loans to Euro
Area Member States. The successful Greek sovereign bond swap in March
2012 shortly after its second bailout package allowed it to avoid bankruptcy
later that month, but it was not a long-term solution (a bond swap is where
banks and other financial institutions agreed to exchange their existing Greek
government debt for new bonds, which are worth much less and pay a lower
rate of interest). The European Central Bank’s €1.3 trillion Long-Term
refinancing Operations (LTROs) flooded the financial markets with ultracheap 3-year loans and relieved much of the immediate funding pressure
facing European banks in 2012. The financial markets ultimately took the
view the LTROs simply served to delay a resolution of, rather than address,
the fundamental issues of the Eurozone.
3.
Long Term Borrowing
3.1
The Council has no long-term debt. The strategy has been to remain debtfree and not to borrow long-term monies to finance its capital spending,
relying instead on usable capital receipts, government grants and revenue
contributions. Any decision to borrow in the future will need to have regard to
the treasury implications, including taking account of the additional credit risk
of holding both investments and borrowing.
4.
Investment Activity
4.1
The Department for Communities and Local Government’s (DCLG) Guidance
on Local Government Investments requires the Council to focus on security
and liquidity, rather than yield when undertaking its treasury activities
4.2
The table below gives Members an appreciation of the investment activity
undertaken in 2011/12, showing the position at the start and end of the year,
together with the transactions during the year. The percentages show the
average investment return achieved for each investment category for
2011/12, and the average life of the investments to maturity, weighted to
investment value.
Internally
managed
(short-term)
Bonds
issued by
multilateral
development banks
(Nominal
Value)
All
investments
Balance
01/4/2011
Invested
Matured
Balance
31/3/2012
Return
£000s
%
Weighted
Average
Life
(days)
£000s
£000s
£000s
15,090
105,410
(101,390)
19,110
1.13
65
6,500
0
(5,500)
1,000
6.22
717
21,590
105,410
(106,890)
20,110
2.09
97
4.3
Security of the capital sum invested remained the Council’s main investment
objective. This was maintained by following the Council’s counterparty policy
as set out in its Treasury Management Strategy Statement for 2011/12. New
investments were placed with the Debt Management Office, AAA-rated Stable
Net Asset Value Money Market Funds and appropriate UK banks and building
societies which are systemically important to the banking system.
4.4
Credit Risk
Counterparty credit quality was assessed and monitored with reference to the
following;
1. Credit ratings (The minimum long-term counterparty credit rating
determined for the 2011/12 treasury strategy was A+ (or equivalent)
across the rating agencies Fitch, S&P and Moody’s).
2. The price of credit default swaps (this is similar to an insurance policy
which pays out the value of an investment should a counterparty fail to
repay an investment), where quoted.
3. Gross Domestic Product (GDP) of the country in which the institution
operates.
4. The country’s net debt as a percentage of GDP
5. Any potential support mechanisms and share price (where quoted).
4.5
The credit rating criterion was amended by Full Council on 14 December
2011 to A- (or equivalent) in response to downgrades to below A+ by the
rating agencies of many institutions considered to be systemically important
to the financial system. The downgrades were driven principally by the
agencies’ view of the extent of future government support (flowing from the
recommendations to the government from the Independent Commission on
Banking) rather than deterioration in the institutions’ creditworthiness.
4.6
All investment counterparties are given a credit score based on this
information in 4.4. Weighted average scores are then calculated for both
value and time. The value weighted average reflects the credit quality of
investments compared to the size of the deposit. The time weighted average
reflects the credit quality of investments compared to the number of days to
maturity of the deposit.
4.7
Appendix G shows the different credit scores which apply to the long-term
credit ratings of an institution (The final score will also take the other factors
listed above into account). The Council aims to achieve a score of 7 or lower
(A- or better), to reflect the Council’s overriding priority of security of monies
invested and a minimum credit rating threshold of A- for investment
counterparties, as set out in the Council’s Treasury Management Strategy
Statement.
4.8
The table below shows how the scores and ratings have changed over the
financial year. The more investments the Council has with counterparties
with higher credit ratings, the lower the score will be. Over the year the value
weighted scores have risen (although it is well below the minimum level of 7
which represents the lowest credit rating the Council will accept). The rise in
scores results from £5.5m of highly secure Eurosterling bonds either reaching
their maturity date or being sold (see 4.15 below). The bonds were replaced
by deposits with UK banks at a lower rating.
4.9
An ideal scenario would show a lower time weighted average credit score
than the value weighted credit score. This would indicate that where a long
term investment decision was taken, a higher credit quality counterparty had
been selected.
Date
Value
Weighted
Average
Credit Risk
Score
Value
Weighted
Average
Credit
Rating
Time
Weighted
Average
Credit Risk
Score
Time
Weighted
Average
Credit
Rating
Average
Life (days)
31/03/2011
3.19
AA
1.88
AA+
235
30/06/2011
3.24
AA
2.69
AA
241
30/09/2011
2.74
AA
2.96
AA
162
31/12/2011
3.23
AA
3.47
AA
81
31/03/2012
4.59
A+
3.39
AA
97
4.10
The graphs at Appendix H show the Council’s position at 31 March 2012 and
compares how the Council has performed in relation to other clients of the
Council’s treasury advisors, Arlingclose Limited.
4.11
The first graph shows that at the 31 March 2012 the rate of interest on the
Council’s investments was 1.13% with a value weighted credit score of 4.59.
The average credit score for Arlingclose clients (non-metropolitan district
councils) was 3.59 with an average interest rate of 1.15%, indicating that the
investment return on the portfolio is just below the average for the client
group, but is achieved with an above average credit score.
4.12
The second graph shows that the Council is achieving a better than average
credit score of 3.39 on a time weighted basis compared to the client group
average of 3.77.
4.13
Liquidity
In accordance with the DCLG’s Guidance on Investments, the Council
maintained sufficient level of liquidity through the use of Money Market Funds,
overnight deposits and call accounts with banks.
4.14
Yield
The Council sought to optimise returns commensurate with its objectives of
security and liquidity. The UK Bank Rate was maintained at 0.5% through the
year and short term money market rates remained at very low levels which
had a significant impact on investment income. In response to uncertain and
deteriorating credit conditions in Europe, the Council considered an
appropriate risk management response was to shorten maturities for new
investments.
4.15
On 13 December 2011 a decision was taken, in consultation with the
Council’s treasury advisors, to reduce the Council’s exposure to the European
Investment Bank (EIB) by selling £4m of its bond holding. This was done in
response to the worsening economic and financial situation across the
Eurozone (member states provide guarantees to the EIB) and the possibility
of a ratings downgrade of the EIB by the credit rating agencies. The bonds
were due to mature on 13 December 2012 and earned the Council a yield of
3.98%. They were sold for £116,068 more than the value in the Council’s
accounts, and this gain has been placed into an earmarked reserve and is
available to be released to the General Fund. A £1.5m EIB bond yielding
6.1% matured on 7 December 2011. At the year end the Council’s holding in
EIB bonds was a £1m Floating Rate Note yielding 0.85%.
4.16
The Council’s investment income for the year was £536,435 (including the
additional amount received for the sale of the bond) which compares to the
revised budget of £464,000. The anticipated rate of return on investments in
the revised budget was 1.77% and a rate of 2.09% was actually achieved.
The average balance available for investment in the year was £25.7m
compared to a revised budget of £26.2m
4.17
All investments made during the year complied with the Council’s agreed
Treasury Management Strategy, Prudential Indicators, Treasury Management
Practices and prescribed limits. Maturing investments were repaid in full on
the due date.
5.
Compliance with Treasury Management Prudential Indicators
5.1
The Council confirmed its adoption of the CIPFA Code of Treasury
Management at its meeting on 14 February 2011.
5.2
Affordable Borrowing Limit, Authorised Limit and Operational Boundary
for External Debt
5.3
Section 3(1) of The Local Government Act 2003 requires the Council to set an
Affordable Borrowing Limit, irrespective of their indebted status. This is a
statutory limit and should not be breached.
5.4
The Council’s Affordable Borrowing Limit (referred to as the Authorised Limit
within the Prudential Code) was originally set at £9.325m for 2011/12 (£9.1m
2010/11) and has remained at this level throughout the financial year.
5.5
The Limit has been set on the estimate of the most likely, prudent but not
worst case scenario for its total external debt gross of investments with, in
addition, sufficient headroom over and above this to allow for unusual cash
movements. The limit is consistent with the Council’s existing commitments,
proposals for capital expenditure and financing and with its approved treasury
management policy statement and practices.
5.6
The Operational Boundary is based on the same estimates as the Authorised
Limit but reflects the most likely, prudent but not worst case scenario without
the additional headroom included within the Authorised Limit.
5.7
The Operational Boundary was set at £5.328m for 2011/12 (£5.1m 2010/11)
and again this indicator has remained at this level throughout the financial
year.
5.8
The Section 151 Officer confirms that there were no breaches to the
Authorised Limit and the Operational Boundary during the financial year. As
the Council did not undertake temporary or long-term borrowing, actual
borrowing was nil through the year.
5.9
Upper Limits for Fixed Interest Rate Exposure and Variable Interest Rate
Exposure
5.10
These indicators allow the Council to manage the extent to which it is
exposed to changes in interest rates. The exposures are calculated on a net
basis, i.e. fixed rate debt net of fixed rate investments. The upper limit for
variable rate exposure allows for the use of variable rate debt to offset
exposure to changes in short-term rates on our portfolio of investments.
Prudential Indicator
Upper Limit for Fixed Rate
Exposure
Upper Limit for Variable Rate
Exposure
2010/11
Outturn
2011/12
Estimated
2011/12
Outturn
100%
100%
100%
100%
100%
100%
The Council did not operate at these limits. At the year end the Council had
no fixed or variable rate debt (this was the same as the position in 2010/11),
and of the total investment portfolio of £20.11m (£21.59m 2010/11), £4.11m
(£10.09m 2010/11) was at variable rates, which is equal to 20.4% (46.7%
2010/11) of total investments. These variable rate investments include money
market funds, call accounts and a variable rate bond.
5.11
Maturity Structure of Fixed Rate borrowing
5.12
This indicator is to limit large concentrations of fixed rate debt needing to be
replaced at times of uncertainty over interest rates and is designed to protect
against excessive exposures to interest rate changes in any one period, in
particular in the course of the next ten years.
5.13
It is calculated as the amount of projected borrowing that is fixed rate
maturing in each period as a percentage of total projected borrowing that is
fixed rate.
Maturity structure of fixed
rate borrowing
under 12 months
12 months and within 24
months
24 months and within 5 years
5 years and within 10 years
10 years and above
5.14
Upper
limit
%
100%
Lower
limit
%
0%
100%
0%
100%
100%
100%
0%
0%
0%
As the Council is debt-free the upper limit has been set at 100% to allow
flexibility to undertake borrowing in any of the maturity bands, as appropriate.
There were no breaches of these limits during the financial year, but again it
should be noted that as the Authority is currently debt free and is not
intending to enter into any long-term borrowing in the near future the above
indicators are not currently relevant.
5.15
Total principal sums invested for periods longer than 364 days
5.16
This indicator allows the Council to manage the risk inherent in investments
longer than 364 days. The Council is required to set an upper limit for each
forward financial year period for the maturity of such investments.
Prudential Indicator
Limit on Amounts invested
in excess of 364 days
Compliance with limit set by
the Council?
2010/11
£
2011/12
£
£15m
£15m
Yes
Yes
At the year end the total amount invested for more than 1 year was £5.0m
(£5.0m 2010/11) and the Council complied with the limit throughout the year.
5.17
Compliance with Capital Related Prudential Indicators 2011/12
Please note that the Prudential Indicators no longer include any reference to
the Housing Revenue Account (HRA) following the transfer of the housing
stock under Large Scale Voluntary Transfer (LSVT) back in February 2006.
The indicators shown below therefore relate solely to the General Fund.
5.18
Estimated and Actual Capital Expenditure
5.19
This indicator is set to ensure that the level of proposed investment in capital
assets remains within sustainable limits and, in particular, to consider the
impact on the Council Tax.
Prudential Indicator
2010/11
2011/12
Outturn
£m
Estimated
£m
2011/12
Revised
indicator
£m
2011/12
Outturn
£m
Capital Expenditure
General Fund Total
2,765
8,672
6,907
4,056
5.20
Estimated and Actual Ratio of Financing Costs to Net Revenue Stream
5.21
This is an indicator of affordability and demonstrates the revenue implications
of capital investment decisions by highlighting the proportion of the revenue
budget required to meet the borrowing costs associated with capital spending.
Prudential Indicator
2010/11
2011/12
Outturn
%
Estimated
%
2011/12
Revised
indicator
%
2011/12
Outturn
%
Ratio of Financing
Costs to Net Revenue
Stream
General Fund Total
(3.38)
(3.83)
(3.21)
(3.13)
5.22
The negative ratio reflects the fact that interest receivable exceeds interest
payable, which represents a very healthy position for the Council.
5.23
Capital Financing Requirement
5.24
The Capital Financing Requirement (CFR) measures the Council’s underlying
need to borrow for a capital purpose. In order to ensure that over the medium
term net borrowing will only be for a capital purpose, the Council ensures that
net external borrowing does not, except in the short term, exceed the Capital
Financing Requirement in the preceding year plus the estimates of any
additional CFR for the current and next two financial years.
5.25
The Council met this requirement in 2011/12. It should be noted that,
following the repayment of the Council’s borrowing, the CFR has been
reduced to zero.
Prudential Indicator
31/3/11
31/3/12
Outturn £
Estimated
£
0
0
31/3/12
Revised
indicator
£
31/3/12
Outturn
£
Capital Financing
Requirement
General Fund Total
0
0
5.26
Incremental Impact of Capital Investment Decisions
5.27
This is an indicator of affordability that shows the impact of capital investment
decisions on Council Tax.
Prudential Indicator
2011/12
to
2013/14
Estimated
£
2011/12
to
2013/14
Revised
Indicator
£
2011/12
to
2013/14
Outturn
£
Incremental Impact of
Capital Investment
Decisions
Total increase in Band D
Council tax
5.28
£2.28
£2.28
£2.65
The code requires the impact of alternative capital investment decisions on
Council Tax to be calculated, and reflects the incremental impact of new
capital decisions proposed over and above the capital investment decisions
that have already been taken in the past by the Council, and therefore relates
only to the new resources to be committed. These indicators take into
consideration the effects of self-financing and the effects of government
support, along with any associated impact on interest receivable/due as a
consequence of the financing methods used. They also reflect the revenue
implications of capital schemes other than financing costs, such as additional
support contracts for new computer systems. This is a purely notional
calculation designed to show the effect of changes in capital investment
decisions. The true estimated level of council tax in future years is shown
within the future years budget forecasts, and the actual decision on Council
Tax for the forward years 2013/14 will only be determined at the time that the
actual budget is set for that year.
5.29
The outturn for this indicator is for the period 2011/12 to 2013/14 is £2.65.
This shows a slight increase on the revised indicator as the newly approved
schemes that were approved as part of the 2012/13 budget process have now
been included.
6.
2012/13 Strategy
6.1
A Presentation was made to Cabinet members on 24 April 2012 by the
Council’s treasury advisors. Currently the Council invests in fixed term
deposits, Money Market Funds, Business Reserve (Call) Accounts and
bonds. The return on these types of instruments is at historically low levels
and unlikely to increase for some time to come. Inflation is eroding the value
of the principal sum invested. Alternative investment options were considered
which might provide a better return for the Council with an acceptable
increase in risk.
6.2
The different variations of Money Market Funds were discussed. The Council
currently uses these funds for liquidity purposes as cash can be invested and
repaid from the funds on a daily basis. The fund manager is anticipating
these daily cash movements by placing investor’s cash in short dated
instruments which can readily be turned back into cash to meet their
withdrawal requirements. Other types of fund can enhance the return on the
fund by making investments of longer duration, but the expectation is that
funds will be deposited for longer time periods than is the case for the liquidity
funds.
6.3
Of the different Money Market Funds and Collective Investment Schemes
available, members were particularly attracted to those funds which invested
in property. Historically these funds have provided returns which exceed
those which the Council could expect from placing term deposits, but this can
only be achieved over a considerably longer time scale. The returns on these
funds can be volatile and the investment must be viewed as a much longer
term commitment.
6.4
Three funds were discussed in detail:
The Payden Sterling Reserve Fund.
This is a AAA-rated fund which is managed with the objective of capital
preservation. Since its inception in July 2010 it has achieved an annualised
return of 1.56%. Investment in the fund would offer an attractive alternative to
currently used investment options, but with the possibility of more volatile
returns.
The Local Authority Mutual Investment Trust – Property Fund (LAMIT).
The aim of the fund is to provide over the long term principal and income
return. The fund invests in commercial and industrial property in the UK
exclusively for local authorities, and the investment in the fund would not be
capital expenditure (following recent changes in legislation). The fund is
higher risk, with the possibility of volatile and higher returns, and the potential
loss of the principal sum invested.
Lime Property Fund
This fund is managed by Aviva and invests in lower-risk property assets with
secure long term income streams. The fund has a strong bias towards the
public sector with around 62% of income produced from the public sector
tenants. Investment in the fund would be capital expenditure. If the Council
decided to redeem its investment this could only be done annually at 31
December after giving six months’ notice.
6.5
The current Treasury Management and Investment Strategy for 2012/13
include investment in Money Market Funds and Collective Investment
Schemes. It was concluded at the Presentation that the Payden Fund did not
offer sufficient potential for enhanced investment returns compared to fixed
term deposits. The property funds were considered a more attractive
alternative with the prospect of higher returns for a longer term investment
commitment.
7.
Conclusion
7.1
The treasury activities for 2011/12 have been carried out in accordance with
the CIPFA Code and the Council’s Treasury Management Strategy.
7.2
The Council will in future invest a proportion of its investment portfolio in
collective investment schemes focusing on property investment. The relative
merits of the LAMIT and Lime funds will be considered in detail together with
the amount which can be made available, financed from both revenue and
capital resources as necessary.
8.
Implications and Risks
These are financial in nature and are covered in section 8 below.
9.
Financial Implications and Risks
9.1
The financial impact of implementing the Council’s treasury strategy for
2011/12 has been set out in this report.
9.2
Investment in collective investment schemes carry the risk that the principal
sum invested may go down in value, and the investment may need to be
maintained for some time for that value to be recovered. Investment returns
can be volatile, but there is the potential for the returns to exceed the levels
historically achieved from term deposits. The sums invested cannot be repaid
instantly from these funds should the Council require the funds quickly and
care must be taken before taking a decision to invest that the withdrawal
restrictions of the fund manager can be met.
10.
Sustainability
This report does not raise any issues relating to Sustainability.
11.
Equality and Diversity
This report does not raise any issues relating to Equality and Diversity.
12.
Section 17 Crime and Disorder considerations
This report does not raise any issues relating to Crime and Disorder.
Appendix G
Credit Score Analysis
Long-Term
Credit Rating
Score
AAA
1
AA+
2
AA
3
AA-
4
A+
5
A
6
A-
7
BBB+
8
BBB
9
BBB-
10
Not rated
11
BB
12
CCC
13
C
14
D
15
Appendix H