Several years of abnormally low yields and excessive cash reserves have vexed treasures as they mull measures to efficiently deploy liquidity, having been left with the choice of taking on duration risk for yield or holding on to funds for easy access.
The uncertainty of the landscape was reflected in last year’s Euromoney Cash Management Survey, which highlighted split opinions on the potential contraction of available liquidity in Europe over the coming 12 months.
A year later, treasurers are finding themselves in a largely unchanged position. They have continued to further build up their reserves of cash over the past year, creating a large liquidity buffer, but are finding few options for yield.
Yield curves have flattened in dramatic fashion. “Yields are not only low but the curve is flat,” says Christian Goerlach, director, institutional cash and securities services, global transaction banking, at Deutsche Bank. “Previously, treasurers could diversify and go down the timeline for longer yields, but at the present time the returns on long-term is very close to that of short-term.”
Money market funds have been an attractive prospect for holding short-term investments, as funds are highly rated and have a short maturity of around 60 days, but the combination of the low interest-rate environment and tightening regulations are making them less appealing.
The US is set to impose restrictions on the money markets in October 2016, which will require prime funds to move to a new regime of a floating net asset value, rather than the stable $1 a share money funds use at present. The change could bring about the possibility that investors will not get all of the money invested back. It could also mean additional work for the treasurer. The potential unknowns are making the investments less appealing.
Goerlach says: “Money market funds had been an option for the short-term parking of funds, but regulatory changes and the low rate environment are putting pressure on this option.”
| There is a lot of watching and waiting|
Instead, many are simply choosing to hold the funds in bank accounts. The 2015 liquidity survey by the Association for Financial Professionals showed respondents are now keeping 56% of their short-term funds in bank accounts. It is the highest percentage ever recorded by the survey. By comparison, 15% of funds are now in the money markets, compared with the 30% seen in 2011.
Amit Agarwal, EMEA head of liquidity management services, Citi, notes that money markets investments can require a lot of day-to-day management, and as they are not providing attractive levels of return, keeping the funds with the bank is proving less of a hassle for treasurers.
While parking liquidity in a bank account is an option for corporates, for the banks it creates difficulty as they have to take liquidity regulation into account.
Goerlach says: “The pressures of regulation make it more difficult for the banks to hold on to funds, yet it is very easy for institutional clients to leave their money in an account. Banks, however, have many investment alternatives to propose, therefore an open dialogue between banks and clients is key.”
The short-term focus is also in response to anticipation of rises to interest rates. Corporates do not want to tie up their cash before any changes occur.
“There is a lack of options available for investment, so the choice is to go for short-term that will remain flexible should the rates increase,” says Goerlach.
Agarwal says: “Some corporates are keeping short-term liquidity. As rates increase they can make use of those funds. They do not want to lock in too much long-term and then see the rates go up. They are looking for shorter-term options as the anticipation is that US interest rates will increase in the next six months.
“As interest rates start to go up, the cost of funding from external markets will also go up. Over the last few year the corporates have locked in long-term funding. But as the funding matures it needs to be rolled over and as rates start to go up external funding becomes more expensive.”
For now, assessing the liquidity needs and bank accounts held in their internal operations is giving some corporates new options to generate returns from their banking partners, through structures such as the earnings credit rate or cash pooling.
“There is a lot of watching and waiting, as no one can say for certain when rates will increase,” says Agarwal.
Goerlach adds: “Some did believe that interest rates would go up after going down. But it does not appear that the low interest rate environment will change any time soon. Institutional clients will look to stay short and flexible in case investment opportunities arise, but generally they will have to adapt to an environment where they do not see a lot of return.”