TREASURY MANAGEMENT POLICY AND STRATEGY 2022/23
CONTENTS
1.
INTRODUCTION
1.1.
Background
1.2.
Reporting Requirements
1.3.
Treasury Management Strategy for 2022/23
1.4.
Treasury Management Policy Statement
1.5.
Current Portfolio Position
2.
BORROWING STRATEGY
2.1.
General Fund Borrowing Position and Strategy for 2022/23
2.2.
Housing Revenue Account Borrowing Position and Strategy for
2022/23
2.3.
Policy on Borrowing in Advance of Need
2.4.
Debt Rescheduling
2.5.
Interest Rate Risk & Continual Review
3.
MINIMUM REVENUE PROVISION POLICY STATEMENT
4.
ANNUAL INVESTMENT STRATEGY
4.1.
Annual Investment Strategy for 2022/23
4.2.
Investment Policy – Management of Risk
4.3.
Sovereign Credit Ratings
4.4.
Creditworthiness Policy
4.5.
Other Limits
4.6.
Approved Methodology for adding & removing counterparties
4.7.
Investment Risk Benchmarking
5.
OTHER TREASURY MATTERS
5.1.
Banking Services
5.2.
Training
5.3.
Policy on the use of External Service Providers
5.4.
Lending to Third Parties
5.5.
Updates to Accounting Requirements
5.6.
Updates to Treasury and Prudential Codes
ANNEXES:
Annex A
Counterparty List
Annex B Economic
Overview & Prospect for Interest Rates
Annex C Prudential &
Treasury Indicators
Annex D Scheme of
Delegation
1
INTRODUCTION
1.1
Background
The council is required to set a balanced budget, which broadly
means that cash raised and received during the year will meet cash
expenditure. Part of the treasury management operation is to ensure
that this cash flow is adequately planned, with cash being
available when it is needed. Cash can often be set aside
(e.g. reserves) or received ahead of when it is required, for
example, government capital grant funding, and therefore cash
balances are invested in counterparties or instruments commensurate
with the council’s risk appetite, and always prioritising
adequate liquidity before considering investment return.
The second main function of the treasury management service is the
funding of the council’s capital plans. These capital
plans provide a guide to the borrowing need of the council,
essentially the longer-term cash flow planning, to ensure that the
council can meet its capital spending obligations. This management
of longer-term cash may involve arranging long or short-term loans,
or using longer-term cash flow surpluses. On occasion, when it is
prudent and economic, any debt previously drawn down may be
restructured to meet council risk or cost objectives.
The contribution that the treasury management function makes to the
authority is critical, as the balance of debt and investment
operations ensure liquidity and the ability to meet spending
commitments as they fall due, either on day-to-day revenue spending
or for larger capital projects. The treasury operations will
see a balance of the interest costs of debt and the investment
income arising from cash deposits affecting the available
budget. Since cash balances generally result from holding
reserves and balances, it is paramount to ensure adequate security
of the sums invested, as a loss of principal will in effect result
in a direct loss to the General Fund.
CIPFA defines treasury management as:
“The management of the local authority’s borrowing,
investments and cash flows, its banking, money market and capital
market transactions; the effective control of the risks associated
with those activities; and the pursuit of optimum performance
consistent with those risks.”
Whilst any commercial initiatives or loans to third parties will
impact on the treasury function, these activities are generally
classed as non-treasury activities (arising usually from capital
expenditure), and are separate from the day to day treasury
management activities.
1.2
Reporting Requirements
1.2.1 Capital
Strategy
The CIPFA 2017 Prudential and Treasury Management Codes require all
local authorities to prepare a capital strategy report, to provide
the following:
·
a high-level long-term overview of how capital expenditure, capital
financing and treasury management activity contribute to the
provision of services;
·
an overview of how the associated risks are managed;
·
the implications for future financial sustainability.
The aim of the Capital Strategy is to ensure that all members on
the full Council understand the overall long-term policy objectives
and resulting capital strategy requirements, governance procedures
and risk appetite.
This Capital Strategy is reported separately from the Treasury
Management Strategy Statement with non-treasury investments being
reported through the former. This ensures the separation of the
core treasury function under security, liquidity and yield
principles, and the policy-driven and commercial investments
usually driven by expenditure on an asset.
1.2.2 Treasury
Management reporting
The Council is currently required to receive and approve, as a
minimum, three main treasury reports each year, which incorporate a
variety of policies, estimates and actuals.
a.
Prudential and treasury indicators, and treasury
strategy
(this report) - The first, and most important report, is forward
looking and covers:
·
the capital investment plans, (including prudential
indicators);
·
a Minimum Revenue Provision (MRP) policy, (how residual capital
expenditure is charged to revenue over time);
·
the Treasury Management Strategy, (how the investments and
borrowings are to be organised), including treasury indicators;
and
·
an Annual Investment Strategy, (the parameters on how investments
are to be managed).
b.
A mid-year treasury management report
– This is primarily a progress report and will update members
on the capital position, amending prudential indicators as
necessary, and whether any policies require revision.
c.
An annual treasury management report
– This is a backward looking review document and
provides details of a selection of actual prudential and treasury
indicators and actual treasury operations compared to the estimates
within the strategy.
This Council delegates responsibility for implementation and
monitoring of treasury management to the Policy & Resources
Committee (P&R) and responsibility for the execution and
administration of treasury management decisions to the Section 151
Officer. P&R therefore receives the mid-year report in December
and the annual report in July each year.
The above reports are required to be adequately scrutinised before
being recommended to the Council. This role is undertaken by
the Policy & Resources Commitee.
1.3
Treasury Management Strategy for 2022/23
The strategy for
2022/23 covers two main areas:
1.3.1 Capital
issues:
·
the
capital expenditure plans (section 2)
and the associated prudential indicators (Annex C);
·
the
minimum revenue provision (MRP) policy (Section 3).
1.3.2 Treasury
management issues:
·
the
current treasury position (section 1.5);
·
treasury
indicators which limit the treasury risk and activities of the
council (Annex C);
·
prospects
for interest rates (Annex B);
·
the
borrowing strategy (section 2);
·
policy
on borrowing in advance of need (section 2.3);
·
debt
rescheduling (section 2.4);
·
the
investment strategy (section 4);
·
creditworthiness
policy (section 4.4);
and
·
the
policy on the use of external service providers (section
5.3).
These elements cover the requirements of the Local Government Act
2003, the CIPFA Prudential Code, DLUHC
MRP Guidance, the CIPFA Treasury Management Code and
DLUHC
Investment Guidance.
1.4
Treasury Management Policy Statement
The policies and objectives of the council’s treasury
management activities are as follows:
i)
This council defines its treasury management activities as:
‘The management of the authority’s investments and cash
flows, its banking, money market and capital market transactions;
the effective control of the risks associated with those
activities; and the pursuit of optimum performance consistent with
those risks’.
ii)
This council regards the successful identification, monitoring and
control of risk to be the prime criteria by which the effectiveness
of its treasury management activities will be measured.
Accordingly, the analysis and reporting of treasury management
activities will focus on their risk implications for the council,
and any financial instruments entered into to manage these
risks.
iii) This
council acknowledges that effective treasury management will
provide support towards the achievement of its business and service
objectives. It is therefore committed to the principles of
achieving value for money in treasury management, and to employing
suitable comprehensive performance management techniques, within
the context of effective risk management.
1.5
Current Treasury Portfolio Position
A
summary of the council’s borrowing & investment
portfolios as at 31 December 2021 and forecast at the end of the
financial year is shown in Table 1 below:
|
Table
1
|
Actual at 31
December 2021
|
Forecast to 31
March 2022
|
|
|
£’000
|
% of
portfolio
|
Average
Rate*
|
£’000
|
% of
portfolio
|
Average
Rate
|
|
Treasury
Investments
|
|
UK
Banks
|
75,002
|
26%
|
0.25%
|
69,900
|
31%
|
0.35%
|
|
Non-UK
Banks
|
25,000
|
9%
|
0.39%
|
30,000
|
13%
|
0.45%
|
|
Building
Societies
|
0
|
0
|
0
|
0
|
0
|
0
|
|
Local
Authorities
|
83,000
|
28%
|
0.56%
|
73,000
|
33%
|
0.62%
|
|
Money
Market Funds (Including VNAV)
|
98,107
|
34%
|
0.04%
|
40,000
|
18%
|
0.13%
|
|
Royal
London Funds
|
10,000
|
3%
|
1.55%
|
10,000
|
4%
|
1.00%
|
|
Total
Investments
|
291,109
|
100%
|
0.39%
|
222,900
|
100%
|
0.44%
|
|
Borrowing
|
|
PWLB
loans
|
311,554
|
87%
|
3.03%
|
311,554
|
87%
|
3.03%
|
|
Market
loans
|
45,000
|
13%
|
4.45%
|
45,000
|
13%
|
4.45%
|
|
Local
Authorities
|
0
|
0
|
0
|
0
|
0
|
0
|
|
Total
external Borrowing
|
356,554
|
100%
|
3.21%
|
356,554
|
100%
|
3.21%
|
|
|
|
|
|
|
|
|
*average rate is taken as a snapshot as at 31
December 2021 except Royal London Funds, which is the average rate
of return since the inception of the investments until 30 November
2021.
2
BORROWING STRATEGY
The
capital expenditure plans of the council are set out in the Budget
book (Appendix 1 to the budget report). The treasury management
function ensures that the council’s cash is organised in
accordance with the relevant professional codes so that sufficient
cash is available to meet the capital expenditure plans.
Any
capital investment that is not funded from new and/or existing
resources (e.g. capital grants, receipts from asset sales, revenue
contributions or earmarked reserves) increases the council’s
need to borrow, represented by the council’s Capital
Financing Requirement (CFR). However, external borrowing does not
have to take place immediately to finance its related capital
expenditure: the council can utilise cash being held for other
purposes (such as earmarked reserves and working capital balances)
to temporarily defer the need for external borrowing. This is known
as ‘internal borrowing’ or
‘under-borrowing’.
The
council’s primary objective is to strike an appropriate
balance between securing cost certainty and securing low interest
rates.
The
council operates a two-pool approach for borrowing following the
HRA Self Financing regime introduced in March 2012.
On
25 November 2020 the Chancellor announced the conclusion to the
review of margins over gilt yields for PWLB rates; the standard and
certainty margins were reduced by 1% but a prohibition was
introduced to deny access to PWLB borrowing for any local authority
which intended to purchase assets primarily for (commercial) yield
in its three year capital programme.
The
change prevents the authority from undertaking any new investments
where the primary purpose is to create an income stream, such as
commercial property, unless the authority sources its borrowing
from streams other than PWLB. Whilst there are a number of
alternative methods of borrowing available to Local Authorities
(such as market lenders, bond issuances), these sources typically
have a long lead in time, have high associated costs of arranging
and usually require significant borrowing values to access. With
the reduction of PWLB rates, it is also likely that other sources
will be more expensive than the revised PWLB rates.
This
change has therefore resulted in the review of the council’s
capital programme and the subsequent removal of projects where the
primary purpose is to create an income stream.
2.1
General Fund Borrowing Position and Strategy
The
General Fund has been carrying an internal borrowing position (i.e.
where the General Fund borrows cash from its own reserves) since
2008 as a response to the financial crisis. In response to a
combination of the prior expectation of increasing interest rate
forecasts, the reduction of certain reserves and historically low
PWLB borrowing rates, the General Fund entered into planned
borrowing from the PWLB to reduce the internal borrowing position
in recent years.
Table 2 below
demonstrates that the General Fund has a borrowing need of
£33m to support the 2021/22 capital programme. During the year
£25m of external borrowing has been undertaken for the General
Fund. This external borrowing funds the planned borrowing within
the capital programme and maintains the expected General Fund
internal borrowing position. This decision was made at a time when
interest rates were very low in response to global events but
forecast to increase.
Officers must
carefully balance the benefits of entering into large volumes of
cheap low cost borrowing in advance of
needing the cash with the risks of carrying a larger investment portfolio;
this increases the credit risk exposure of the council as well
creating a cost of carry (that is, the difference between the
interest rate of the borrowing and the interest rate earned on
investing that cash) which impacts on the revenue budget until the
cash is spent.
There
isn’t expected to be any further borrowing need in
2021/22.
2.1.1 General
Fund Borrowing Strategy for 2022/23
The
General Fund (GF) capital programme 2022/23 to 2024/25 forecasts a
total of £278m capital investment, £130m of which
will be met from existing or new resources, and £16m of
which financing has not yet been identified. The increase in the GF
borrowing need over this period is therefore £132m as shown in
Table 2 below.
|
2021/22
Projected
|
Table
2 – Borrowing Requirement
|
2022/23
Estimate
|
2023/24
Estimate
|
2024/25
Estimate
|
Total
|
|
£m
|
£m
|
£m
|
£m
|
£m
|
|
100
|
GF
Capital Expenditure
|
128
|
93
|
57
|
278
|
|
(67)
|
Financed
by:
New
& existing resources
|
(65)
|
(36)
|
(29)
|
(130)
|
|
-
|
Financing not yet
identified
|
-
|
(8)
|
(8)
|
(16)
|
|
33
|
GF
Borrowing Need
|
63
|
49
|
20
|
132
|
Of
the £132m borrowing need shown, £100m is for projects
that are awaiting approval or detailed analysis. Therefore, the
timing of borrowing is uncertain, and borrowing decisions for these
projects will form part of the viability and due diligence
process.
For
the remaining borrowing need, the strategy will initially focus on
meeting this borrowing need from internal borrowing. i.e. avoiding
external borrowing by utilising the council’s own surplus
cash flows.
Officers
continually review the level of internal borrowing that the General
Fund is able to support in the context of prevailing and forecast
interest rates, economic outlook and the expected movement in
reserves. Modelling of the movement of reserves and the
council’s capital expenditure plans demonstrates that the
General Fund’s long term reserves and balances can support a
level of approximately £75m of internal borrowing in the
medium term (initially estimated to 2023/24), reducing to £50m
thereafter. This will mitigate the increase in the cost of
borrowing and reduce counterparty risk within the council’s
investment portfolio by reducing the portfolio size.
The
internal borrowing position needs to be carefully and continually
reviewed to avoid incurring higher borrowing costs in the future at
a time when the authority may not be able to avoid new borrowing to
finance capital expenditure or refinance maturing debt.
2.2
Housing Revenue Account (HRA) Borrowing Position and Strategy
The Housing
Revenue Account (HRA) carries a fully funded borrowing position
(i.e. the HRA does not borrow from its own reserves, but instead
undertakes borrowing for its entire borrowing
requirement). Table 3
demonstrates that the HRA has a borrowing need of £25m to
support the capital programme in 2021/22. A total of £55m of
new borrowing has been undertaken during 2021/22 to support this
borrowing need as well as take advantage of low interest rates to
replace a the £8.0m loan from
the General Fund and to fund a proportion of the 2022/23 borrowing
requirement.
2.2.1 HRA
Borrowing Strategy for 2022/23
The
HRA Capital Programme 2022/23 to 2024/25 forecasts a total
£185m of capital investment over the next three years with
£84m met from existing or new resources. The increase in the
HRA’s borrowing need over this period is therefore £101m
as shown in Table 3 below. It is expected that this
borrowing need will be met from a combination of borrowing
externally and from the General Fund. The extent to which the HRA
can borrow from the General Fund is dependent on the level of
liquid resources the General Fund has available to lend to the HRA
and additionally will depend on the view of interest rate
prospects:
·
If it
is considered that there is a significant likelihood of reducing
long term interest rates, long term borrowing should be
postponed;
·
If it
is considered that there is a significant risk of sharply
increasing long term interest rates, long term borrowing should be
considered.
|
2021/22
Projected
|
Table
3 – HRA Borrowing Requirement
|
2022/23
Estimate
|
2023/24
Estimate
|
2024/25
Estimate
|
Total
|
|
£m
|
£m
|
£m
|
£m
|
£m
|
|
74
|
HRA
Capital Expenditure
|
95
|
50
|
40
|
185
|
|
(49)
|
Financed
by:
New
& existing resources
|
(33)
|
(25)
|
(26)
|
(84)
|
|
25
|
HRA
Borrowing Need
|
62
|
25
|
14
|
101
|
Table
4below shows the
actual expected external debt compared to the capital financing
requirement over the next 3 years for both the General Fund and the
HRA. This demonstrates that the HRA CFR is expected to be fully
funded to 2024/25, and the General Fund is expected to maintain an
underborrowed position:
|
2021/22
|
Table
4
|
2022/23
Estimate
|
2023/24
Estimate
|
2024/25
Estimate
|
|
Estimate
|
|
£m
|
£m
|
£m
|
£m
|
|
General
Fund
|
|
138
|
GF
Debt at 1 April
|
161
|
208
|
247
|
|
23
|
Expected change
in Debt
|
47
|
39
|
37
|
|
161
|
GF
Debt at 31 March
|
208
|
247
|
281
|
|
202
|
GF
CFR* at 1 April
|
228
|
283
|
322
|
|
33
|
Borrowing need
(Table 2)
|
63
|
49
|
20
|
|
(7)
|
MRP
|
(8)
|
(10)
|
(11)
|
|
228
|
GF
CFR* at 31 March
|
283
|
322
|
331
|
|
67
|
Under
/ (Over) borrowing
|
75
|
75
|
75
|
|
29.4%
|
%
Underborrowed
|
26.5%
|
23.3%
|
15.1%
|
|
Housing Revenue
Account
|
|
149
|
HRA
Debt at 1 April**
|
195
|
235
|
260
|
|
46
|
Expected change
in Debt
|
40
|
25
|
14
|
|
195
|
HRA
Debt at 31 March
|
235
|
260
|
274
|
|
149
|
HRA
CFR at 1 April
|
173
|
235
|
260
|
|
25
|
Borrowing need
(Table 3)
|
63
|
25
|
14
|
|
(1)
|
MRP
|
0
|
0
|
0
|
|
173
|
HRA
CFR at 31 March
|
235
|
260
|
274
|
|
(22)
|
Under
/ (Over) borrowing
|
-
|
-
|
-
|
*
GF
CFR in Table 4 is the underlying need to borrow and excludes PFI
and lease arrangements, which are included in the CFR figure in the
Prudential Indicators in Annex C.
** Includes
both external debt and sums borrowed from the General Fund
(£8.020m as at 1 April 2021). The sum borrowed from the
General Fund was replaced by external debt on 16 December
2021.
2.3
Policy on Borrowing in Advance of Need
The council will
not borrow purely in order to profit from investment of sums
borrowed in advance of need. Any decision to borrow in advance will
be within approved Capital Financing Requirement estimates and will
be considered carefully to ensure that value for money can be
demonstrated and that the council can ensure the security of such
funds. Risks associated with any borrowing in advance activity will
be subject to prior appraisal and subsequent reporting.
2.4
Debt Rescheduling
Officers
continue to regularly review opportunities for debt rescheduling
but there has been a
considerable widening of the difference between new borrowing and
repayment rates, which has resulted in much far fewer opportunities to realise
any savings or benefits from rescheduling PWLB debt.
The
reasons for any rescheduling to take place will include:
·
the
generation of cash savings and / or discounted cash flow
savings;
·
helping
to fulfil long term treasury strategy aims;
·
enhancing
the balance of the portfolio (amending the maturity profile and/or
the balance of volatility).
The
strategy is to continue to seek opportunity to reduce the overall
level of the council’s debt where prudent to do so, thus
providing in future years cost reduction in terms of lower debt
repayment costs, and potential for making savings by running down
investment balances to repay debt prematurely as short term rates
on investments are likely to be lower than rates paid on current
debt. All rescheduling will be agreed by the S151
Officer.
2.5
Interest Rate Risk & Continual Review
The council’s total borrowing need of £233m is
identified in Tables 2 & 4. This borrowing need,
together with the debt at risk of maturity shown in Table 5,
is the extent to which the council is subject to interest rate risk
over the next three years.
|
Table 5
|
2022/23
|
2023/24
|
2024/25
|
|
£m
|
£m
|
£m
|
|
Maturing Debt
|
2
|
12
|
15
|
|
Debt Subject to early repayments options
|
20
|
20
|
15
|
|
Total debt at risk of maturity
|
22
|
32
|
30
|
Officers continue to review the need to borrow taking into
consideration the potential increases in borrrowing costs, the need
to finance new capital expenditure, the need to refinance maturing
debt, and the cost of carry that might incur a revenue loss between
borrowing costs and investment returns.
Against this
background and the risks within the economic forecast, caution
needs to be excercised. The S151 Chief Finance Officer will
therefore continue to monitor interest rates in financial markets
and adopt a proactive approach to changing circumstances as
follows:
·
if
it was considered that there was a significant risk of a
forthcoming sharp fall in long and short term rates (e.g. due to a
marked increase in the risk of relapse into recession or increasing
risk of deflation), then long term borrowings will be postponed and
potential rescheduling from fixed rate funding into short term
borrowing will be considered;
·
if
it was considered that there was a significant risk of a much
sharper rise in long and short term rates than that currently
forecast, for example, arising from an acceleration in the rate of
increase in central rates in the USA and UK, an increase in world
economic activity or a sudden increase in inflation risks, then the
portfolio position will be re-appraised with the likely action that
borrowing would be undertaken and fixed rate funding drawn on
whilst interest rates are still lower than they are expected to be
in the next few years.
3
MINIMUM REVENUE PROVISION POLICY STATEMENT
The
council is required to pay off an element of the accumulated
General Fund capital spend each year (the Capital Financing
Requirement - CFR) through a revenue charge (the Minimum Revenue
Provision - MRP). Department of Levelling Up, Housing and
Communities (DLUHC) regulations require the full Council to approve
an MRP Statement in advance of each year. A variety of options are
available to councils, so long as the principle of any option
selected ensures a prudent provision to redeem its debt liability
over a period which is commensurate with that over which the
capital expenditure is estimated to provide benefits (i.e. the
estimated useful life of the asset being financed).
The
Council is recommended to approve the following MRP Statement for
2022/23:
For
all debt where the government has provided revenue support
(supported capital expenditure), the MRP policy will be:
·
Provision on a
straight-line basis over 50 years.
For
all debt where the government does not provide revenue
support:
·
Where
the debt relates to an asset, the council will set side a sum
equivalent to repaying the debt over the life of the asset either
in equal instalments or on an annuity basis over a maximum life of
50 years. The method to be adopted will be determined according to
which is the most financially beneficial to the council over the
life of the asset.
·
Where
the debt relates to expenditure which is subject to a
capitalisation direction issued by the government, the council will
set aside a sum equivalent to repaying the debt over a period
consistent with the nature of the expenditure on an annuity
basis.
·
In
the case of assets under construction, MRP will be delayed until
the relevant asset becomes operational.
Where
the debt relates to capital loans to a third party:
·
The
repayments of principal will be set aside as capital receipts to
finance the initial capital advance in lieu of making a
MRP.
Where the debt
relates to the Living Wage Joint Venture:
·
Where
the Living Wage Joint Venture develops housing but disposes of
these assets on completion, the council will set aside the capital
receipt at the point of transfer in lieu of making an MRP
payment.
·
Where
the Living Wage Joint Venture develops or acquires housing and
retains these assets and future rental streams, the council will
set aside, in equal instalments, a sum which is equivalent to
repaying the debt at the end of year 40 within the 60 year business
plan. Set aside will commence, at the latest, in the year in which
net surpluses are modelled for each individual tranche of
borrowing.
For
on-balance sheet PFI schemes and leases, the MRP policy will
be:
·
Asset
Life Method (annuity method) - the MRP will be calculated according
to the flow of benefits from the asset, and where the principal
repayments increase over the life of the asset. Any related
MRP will be equivalent to the “capital repayment
element” of the annual charge payable.
There
is the option to charge more than the prudential provision of MRP
each year through a Voluntary Revenue Provision (VRP).
4
ANNUAL INVESTMENT STRATEGY
The DLUHC and CIPFA have extended the meaning of
‘investments’ to include both financial and
non-financial investments. This report deals with financial
investments. Non-financial investments are covered in the Capital
Strategy (Appendix 2).
The council’s investment policy has regard to the
following:
·
DLUHC’s Guidance on Local Government Investments (the
“Guidance”);
·
CIPFA Treasury Management in Public Services Code of Practice and
Cross Sectoral Guidance Notes 2017 (the “Code”);
·
CIPFA Treasury Management Guidance Notes 2018.
The council’s investment priorities will be the security of
capital first, portfolio liquidity second and then yield
(return).
4.1
Annual Investment Strategy for 2022/23
Investments will be made with reference to the core balance and
cash flow requirements and the outlook for short-term interest
rates (i.e. rates for investments up to 12 months).
Greater returns are usually obtainable by investing for longer
periods. While most cash balances are required in order to manage
the ups and downs of cash flow, where cash sums can be identified
that could be invested for longer periods, the value to be obtained
from longer term investments will be carefully assessed.
·
If it is predicted that Bank Rate is likely to rise significantly
within the time horizon being considered, then consideration will
be given to keeping most investments on short term or variable
terms.
·
Conversely, if it is predicted that Bank Rate is likely to fall
within that time period, consideration will be given to locking in
the higher rates currently obtainable, for longer periods.
Currently, Bank Rate is forecast to remain
unchangedgradually
increase over the next few years. Bank Rate forecasts
for financial year ends (March) are:
|
Year
|
2021/22
|
2022/23
|
2023/24
|
2024/25
|
|
Bank Rate
|
0.25%
|
0.75%
|
1.00%
|
1.25%
|
Link Asset Service’s (LAS) view on the prospect for interest
rates, including their forecast for short term investment rates is
appended at Annex B.
The
primary principle governing the council’s investment criteria
is the security of its investments, but return on investment is
also important. After this main principle, the council will ensure
that:
·
It maintains a policy covering both the categories of investment
types it will invest in and the criteria for choosing investment
counterparties with adequate security, and monitoring their
security;
·
It has sufficient liquidity in its investments.
4.1.1 Approach
for 2022/23
Investment
balances have increased further during 2021/22 due to a combination
of an increase in PWLB borrowing, the short-term retention of
certain COVID business grants received from the
government, and an increase in cash balances managed on behalf of
other organisations. Increase in balances has put pressure on the
council’s counterparty limits, and as a result the strategy
recommends that counterparty limits are increased.
Whilst the
council’s cash balances have been increasing on a longer-term
basis over a number of years, a proportion of the increase in cash
balances is still expected to be temporary, so a larger amount of
liquidity than usual is still required.
The
environment for investment in the last 2 years has seen
historically low levels of returns as a result of the reduction of
the Bank Rate by the Bank of England in March 2020 in response to
the pandemic. The interest rate was increased back to 0.25% in
December 2021. Officers have already seen an increase in investment
returns offered by both Money Market Funds and individual
counterparties since the rate rise. As such, the average investment
rate of the portfolio is expected to gradually increase over
2022/23 as maturing investments are rolled into new investments
offering a more attractive investment return. Maturities of
investments will be maintained at regular intervals during 2022/23
with all active counterparties to ensure the council can take
advantage of the rising interest rate environment.
In
February 2021, £10.0m was invested across two short term bond
funds managed by Royal London Asset Management. Up to November 2021
the average rate of total return (that is inclusive of both income
and capital changes to the investment) on these funds was 1.55%. We
are expecting to see a fall in the capital value in December 2021
as a result fo the increase in the bank rate. There is no impact on
the council’s income from these funds, and the current
statutory override means that there is no impact on the
council’s budget as a result of this change in value. The
investment time horizon is expected to be at least 3 years, and
therefore we are expecting the capital value to recover before
divesting from the funds.
4.1.2 Changes
from 2021/22 Strategy
It is recommended
that counterparty limits in the 2022/23 strategy are increased. The
counterparty limits were last reviewed and amended in March 2016
when the council’s average investment balances were
£83.4m. The average investment balances in 2021/22 to date is
£254.2m. Investment balances have increased for a number of
reasons, including the increase in cash balances that the council
is looking after on behalf of other organisions (the South Downs
National Park Authority and the Coast to Capital LEP), as well as
increases in the council’s own cash balances.
This large
increase in balances has meant that the counterparty limits are no
longer appropriate for the size of the council’s portfolio.
Increasing the limits which we can lend to individual
counterparties or funds will allow officers to manage the
council’s cash more efficiently, which should also have the
impact of increasing the council’s return on
investments.
Tables 6 and 7
within section 4.4
of
this appendix set out the 2021/22 limit and revised limit for
2022/23 proposed for approval. The full counterparty list at Annex
A has also been amended to reflect the updated limits.
There have been
no other changes proposed to the 2021/22 Annual Investment
Strategy.
4.2
Investment Policy – Management of risk
Treasury
management risks and how these risks are managed and mitigated are
identified in the council’s Treasury Management Practices and
related procedures, details of which are held within the
council’s Treasury Management Team. The main risks to the
council’s treasury activities are:
·
liquidity risk
(inadequate cash resources);
·
market or
interest rate risk (fluctuations in interest rate levels and
thereby in the value of investments);
·
inflation risks
(exposure to inflation);
·
credit and
counterparty risk (security of investments);
·
re-financing
risks (impact of debt maturing in future years); and
·
legal
and regulatory risk (i.e. non-compliance with statutory and
regulatory requiremens, risk of fraud).
The guidance from DLUHC and CIPFA places a high priority on the
management of risk. This authority has adopted a prudent approach
to managing risk and defines its risk appetite by the following
means:
i)
Minimum acceptable credit criteria are applied in order to generate
a list of high creditworthy counterparties. This also enables
diversification and thus avoids a concentration of risk. The key
ratings used to monitor counterparties are the short term and
long-term ratings.
ii)
Other information: ratings will not be the sole determinant of the
quality of an institution; it is important to continually assess
and monitor the financial sector on both a micro and macro basis
and in relation to the economic and political environments in which
institutions operate. The assessment will also take account of
information that reflects the opinion of the markets. To achieve
this consideration the council will engage with its advisors to
monitor market pricing such as “credit default swaps”
(CDS) and overlay that information on credit ratings.
iii)
Other information sources used will include the financial press,
share prices and other such information pertaining to the banking
sector in order to establish the most robust scrutiny process on
the suitability of potential investment counterparties.
iv)
Where there is a significant or sudden deterioration in one or more
indicators (such as CDS prices), officers will undertake a review
and, where necessary take action. This action may take the form of
temporary suspension of a counterparty from the council’s
approved lending list, or a restriction of the maximum period and
investment limits.
v)
This authority has defined the list of types of investment
instruments that the treasury management team are authorised to
use.
a.
Specified investments are those with a high level of credit
quality and subject to a maturity limit of one year. The limits and
permitted instruments for specified investments are listed within
Table 6.
b.
Non-specified investments are those with less high credit
quality, may be for periods in excess of one year, and/or are more
complex instruments which require greater consideration by members
and officers before being authorised for use. The limits and
permitted instruments for non-specified investments are listed
within Table 7.
vi)
Lending limits (amounts and maturity) for each counterparty will be
set through applying the credit criteria matrix (within Table
7).
vii)
This authority will set limits for the amount of its
investments:
a.
which are invested for longer than 365 days, detailed in the
Treasury Indicators in Annex C;
b.
which are invested in any one sector (paragraph 4.5);
c.
which are invested in any one counterparty within its relevant
sector (paragragh 4.5).
viii)
Investments in Non-UK Banks will only be placed with counterparties
from countries with a specified minimum sovereign rating of AA
(paragraph 4.3).
ix)
Investments in UK banks will only be placed with counterparties
with a minimum credit rating of BBB.
x)
This authority has engaged external consultants, (see paragraph
5.3), to provide expert advice on how to optimise an appropriate
balance of security, liquidity and yield, given the risk appetite
of this authority in the context of the expected level of cash
balances and need for liquidity throughout the year.
xi)
All investments will be denominated in sterling.
xii)
As a result of the change in accounting standards in 2018/19 under
International Financial Reporting Standard IFRS 9, this authority
will consider the implications of investment instruments which
could result in an adverse movement in the value of the amount
invested and resultant charges at the end of the year to the
General Fund. (In November 2018 DLUHC concluded a consultation for
a temporary override to allow English local authorities time to
adjust their portfolio of all pooled investments by announcing a
statutory override to delay implementation of IFRS 9 for 5 years
commencing from 1/4/18).
However,
this authority will also pursue value for money in treasury
management and will monitor the yield from investment income
against appropriate benchmarks for investment performance (see
paragraph 4.7).
Regular monitoring of investment performance will be carried out
during the year.
4.3
Sovereign Credit Ratings
For
2022/23 it is recommended to maintain the policy of lending to
sovereign nations and their banks which hold at least an AA- credit
rating. The list of countries that qualify using this credit
criteria (as at the date of this report) are shown
below:
AAA Australia, Denmark, Germany,
Netherlands, Singapore, Sweden & Switzerland
AA+
Finland, Canada & United States,
AA France & United
Arab Emirates
4.4
Creditworthiness Policy
Each
counterparty included on the council’s approved lending list
must meet the criteria set out below. Without the prior approval of
the Council, no investment will be made in an instrument that falls
outside the list below.
Table
6 below summarises
the types of specified investment counterparties available to the
council, and the maximum amount and maturity periods placed on each
of these. A full list of the council’s counterparties
and the current limits for 2022/23 are appended at Annex
A.
When assessing
credit ratings to ascertain limits for each counterparty, the
lowest short and long term ratings from each of the three ratings
agencies is applied. For simplicity, the ratings for Standard &
Poor’s are used in the tables below.
4.4.1 Criteria
for Specified Investments
All specified
investments will be sterling denominated, with maturities up to a
maximum of 1 year, meeting the minimum ‘high’ rating
criteria where applicable:
|
Table
6
|
Country/
Domicile
|
Minimum Capital
Require-ments
|
Min.
Credit Criteria
(L/term /
S/term)
|
Max.
Amount
2021/22
|
Proposed Max
Amount 2022/23
|
Max.
maturity period
|
|
Debt
Management and Deposit Facilities (DMADF)
|
UK
|
N/A
|
N/A
|
unlimited
|
unlimited
|
6
months
|
|
UK
Local Authorities
|
UK
|
N/A
|
UK
Sovereign Rating
|
£10m per
LA
|
£20m per
LA
|
12
months
|
|
UK
Banks – part nationalised*
|
UK
|
UK
government must own majority shareholding
|
N/A
|
£25m
|
£30m
|
12
months
|
|
UK
Banks & credit rated Building Societies
|
UK
|
Must
meet minimum credit criteria
|
AA-
/ A-1+
|
£25m
|
£30m
|
12
months
|
|
A /
A-1
|
£15m
|
£20m
|
12
months
|
|
BBB /
A-2
|
£10m
|
£15m
|
6
months
|
|
Banks
– Non-UK
|
Those with
sovereign rating of at least AA*
|
Must
meet minimum credit criteria
|
AA-
/ A-1+
|
£25m
|
£30m
|
12
months
|
|
Non-rated
Building Societies
|
UK
|
Must
have an asset base of at least £5bn at the time of
investment
|
N/A
|
£5m
|
£5m
|
6
months
|
|
Money
Market Funds (CNAV and LVNAV)
|
UK /
Ireland / EU domiciled
|
Must
meet minimum credit criteria
|
AAA
|
£15m per
fund
|
£20m per
fund
|
Liquid
|
|
Ultra
Short Dated Bond Funds
|
UK /
Ireland / EU domiciled
|
Must
meet minimum credit criteria
|
AA
|
£15m per
fund
|
£20m per
fund
|
Liquid
|
*See Paragraph 4.3 for full list of countries that meet these
criteria
4.4.2 Lending to
the council’s operational banking service provider
An
additional operating limit of £2m and an additional investment
limit of £5m will be provided for the council’s provider
of transactional banking services (currently Lloyds Bank plc). It
is unavoidable that the £2m operational limit will be breached
from time to time however, officers will endeavour to keep this to
an absolute minimum.
4.4.3 UK banks
– ring fencing
The
largest UK banks, (those with more than £25bn of retail /
Small and Medium-sized Enterprise (SME) deposits), were required,
by UK law, to separate core retail banking services from their
investment and international banking activities by 1st January
2019. This is known as “ring-fencing”. Whilst smaller
banks with less than £25bn in deposits are exempt, they can
choose to opt up. Several banks are very close to the threshold
already and so may come into scope in the future
regardless.
Ring-fencing is
a regulatory initiative created in response to the global financial
crisis. It mandates the separation of retail and SME deposits from
investment banking in order to improve the resilience and
resolvability of banks by changing their structure. In general,
simpler activities offered from within a ring-fenced bank (RFB)
will be focused on lower risk, day-to-day core transactions, whilst
more complex and “riskier” activities are required to
be housed in a separate entity, a non-ring-fenced bank (NRFB). This
is intended to ensure that an entity’s core activities are
not adversely affected by the acts or omissions of other members of
its group.
While
the structure of the banks included within this process may have
changed, the fundamentals of credit assessment have not. The
council will continue to assess the new-formed entities in the same
way that it does others and those with sufficiently high ratings
(and any other metrics considered) will be considered for
investment purposes. The list of approved counterparties in Annex A
differentiates the limits for both ring fenced and non-ring fenced
banks.
4.4.4
Part-Nationalised Banks
The
council can lend up to £30m for up to 12 months to any bank in
which the UK Government holds a majority shareholding regardless of
the credit rating due to the implied government support of those
entities. The Royal Bank of Scotland PLC & National Westminster
Bank PLC are the two entities currently treated as part
nationalised.
4.4.5
Non-Specified investments
These are any
other types of investment that are not defined as
specified.
|
Table
7
|
Instrument
Type
|
Minimum credit
criteria (L/term / S/term)
|
Max.
Amount 2021/22
|
Proposed
Max. Amount 2022/23
|
Period
|
|
UK
Local Authorities
|
N/A
|
N/A
|
£10m per
LA
|
£20m per
LA
|
5
years
|
|
UK
Banks &
Non
UK Banks
|
Fixed
Deposits
|
AA+
/ A-1+
|
£25m
|
£30m
|
3
years
|
|
AA-
/ A-1+
|
£25m
|
£30m
|
2
years
|
|
Negotiable
Instruments
|
AA-
/ A-1+
|
£25m
|
£30m
|
5
years
|
|
Short
Dated Bond Funds
|
UK/Ireland/EU
domiciled
|
Short Dated bond
funds are not rated. A selection process will evaluate relative
risks & returns. Security of the council’s money and fund
volatility will be key measures of suitability
|
£15m per
fund
|
£15m per
fund
|
Liquid
|
A full list of counterparties that meet the council’s
criteria for both specified and non-specified investments are
listed in Annex A.
4.5
Other Limits
In order to mitigate concentration risk, there are a number of
other limits imposed within the investment strategy. Table 8
sets out the maximum permitted investment for each sector at the
time of investment:
|
Table 8 – Other Limits
|
|
Sector
|
Max total of portfolio
|
|
Banking sector
|
100%
|
|
Building Society
Sector
|
75%
|
|
Local Authority
Sector
|
100%
|
|
Money Market Funds
(MMF)
|
100%
|
|
Short Dated &
Ultra Short Dated Bond Funds
|
50%
|
|
Debt Management
Account Deposit Facility (DMADF)
|
100%
|
In addition to these limits:
·
no more than 25% of the portfolio can be invested for more than 1
year; and
·
with the exception of MMF & the DMADF, no one counterparty may
have more than 25% of the relevant sector maximum at the time the
investment is made.
4.6
Approved Methodology for adding and removing counterparties
A counterparty shall be removed from the council’s list where
a change in their credit rating results in a failure to meet the
criteria set out above.
A new counterparty may only be added to the list with the written
prior approval of the Chief Finance Officer and only where the
counterparty meets the minimum criteria set out above.
A counterparty’s exposure limit will be reviewed (and changed
where necessary) following notification of a change in that
counterparty’s credit rating or a view expressed by the
credit rating agency warrants a change.
A counterparty’s exposure limit will also be reviewed where
information contained in the financial press or other similar
publications indicates a possible worsening in credit worth of a
counterparty. The review may lead to the suspension of any
counterparty where it is considered appropriate to do so by the
Chief Finance Officer.
4.7
Investment Risk
Benchmarking
The weighted average benchmark risk factor for 2022/23 is
recommended to be 0.05%. This is unchanged from 2021/22. This is a
measure of the percentage of the portfolio deemed to be at risk of
loss by reference to the maturity date, value of investment, and
credit rating of the individual investments within the portfolio
compared to the historic default data for those credit
ratings.
This benchmark is a simple target (not limit) to measure investment
risk and so may be breached from time to time, depending on
movements in interest rates and counterparty criteria. The purpose
of the benchmark is that the in-house treasury team can monitor the
current and trend position and amend the operational strategy
depending on any changes. Any breach of the benchmarks will be
reported with supporting reasons in the mid-year or end of year
reviews.
This matrix will only cover internally managed investments,
excluding externally managed cash that has been subject to an
individual selection process. It also excludes funds lend to other
Local Authorities, consistent with the CIPFA Accounting
Code.
For any investment where there is a direct and legal offset against
an existing financial liability, the investment will be assumed to
have a benchmark risk of 0.00%.
5
OTHER TREASURY MATTERS
5.1
Banking Services
Lloyds Bank plc
currently provides banking services for the council.
5.2
Training
The CIPFA Code requires the responsible officer to ensure that
members with responsibility for treasury management receive
adequate training in treasury management. This especially
applies to members responsible for scrutiny. Training was
last provided for members of the Audit & Standards Committee
and Policy & Resources Committee on 4 October 2021 and further
training will be arranged as required.
The training needs of treasury management officers are periodically
reviewed and training arranged as required.
5.3
Policy on the use of External Service Providers
The
council uses Link Asset Services as its external treasury
management advisors.
The
council recognises that responsibility for treasury management
decisions remains with the council at all times and will ensure
that undue reliance is not placed upon our external service
providers. It also recognises that there is value in employing
external providers of treasury management services in order to
acquire access to specialist skills and resources. The council will
ensure that the terms of their appointment and the methods by which
their value will be assessed are properly agreed and documented,
and subject to regular review.
5.4
Lending to Third Parties
The
council has the power to lend monies to third parties subject to a
number of criteria. These are not treasury type investments, rather
they are policy investments. Any activity will only take place
after relevant due diligence has been undertaken, as described in
the Capital Strategy (Appendix 2 to the budget report).
5.5
Updates to Accounting Requirements
5.5.1 IFRS 9
– local authority override – English local
authorities
The
DLUHC
enacted a
statutory over-ride from 1 April 2018 for a five year period until
31 March 2023 following the introduction of IFRS 9 and the
requirement for any capital gains or losses on marketable funds to
be chargeable in year. This has the effect of allowing any
capital losses on funds to be held on the balance sheet until 31
March 2023, allowing councils to initiate an orderly withdrawal of
funds if required.
5.5.2 IFRS 16
– Leasing
The CIPFA Code of
Practice and Guidance notes for 2022/23 will incorporate the
requirement to account for all leases onto the council’s
balance sheet. This has the following impact to this
paper:
·
The
council’s Capital Financing Requirement authorised limit and
operational boundary for 2022/23 onwards has been increased to
reflect the estimated effect of this change. These limits can be
amended during 2022/23, and bought to full Council to amend with
the TMSS Mid Year report if the limits need to be increased
following some more detailed work on the leases to be bought onto
the balance sheet.
·
The
MRP policy statement incorporates the policy for the provision for
the principal element of lease payments in preparation for
accounting for leases under IFRS16.
5.6
Updates to Treasury and Prudential Codes
Following
consultation with Local Authoities, CIPFA published the revised
Treasury and Prudential codes on 20 December 2021. To ensure Local
Authorities can implement the code changes in a smooth and orderly
fashion, formal adoption is not required until 2023/24.
The revised codes
will have the following implications:
·
The
requirement for authorities to classify all investments and the
relevant investment income into one of the three categories of
treasury management, service delivery or commercial
investments;
·
A
prohibition for Local Authorities to borrow to invest primarily for
financial return (to include commercial investments);
·
a
requirement for the Authority to adopt a new debt liability
benchmark treasury indicator to support the financing risk
management of the capital financing requirement;
·
clarify on what
CIPFA expects a local authority to borrow for and what they do not
view as appropriate. This will include the requirement to set a
proportionate approach to commercial and service capital
investment;
·
requirement to
address Environmental, Social and Governance (ESG) issues within
the Capital Strategy;
·
required
implementation of a policy to review commercial investments
(including property) on an annual basis, with a view to divest
where appropriate;
·
creation of new
Investment Practices to manage risks associated with non-treasury
investment (similar to the current Treasury Management
Practices);
·
ensures that any
long term treasury investment is supported by a business
model;
·
a
requirement to effectively manage liquidity and longer term cash
flow requirements;
·
amendment to
Treasury Management Practice 1 (TMP1) to address ESG policy within
the treasury management risk framework;
·
amendment to the
knowledge and skills register for individuals involved in the
treasury management function - to be proportionate to the size and
complexity of the treasury management conducted by each
authority;
·
a new
requirement to clarify reporting requirements for service and
commercial investment, (especially where supported by
borrowing/leverage).
Members will be updated on how all these changes will impact our
current approach and any changes required will be formally adopted
within the 2023/24 TMSS report.
ANNEX B - ECONOMIC OVERVIEW & INTEREST RATE VIEW
The council has appointed Link Group as its treasury advisor and
part of their service is to assist the council to formulate a view
on interest rates. Link provided the following forecasts on 20
December 2021. These are forecasts for certainty rates, gilt
yields plus 80 bps.
Over the last two years, the coronavirus outbreak has caused huge
economic damage to the UK and to economies around the world. After
the Bank of England took emergency action in March 2020 to cut Bank
Rate to 0.10%, it left Bank Rate unchanged at its subsequent
meetings until raising it to 0.25% at its meeting on 16th December
2021.
As shown in the forecast table above, the forecast for Bank Rate
now includes four increases, one in December 2021 to 0.25%, then
quarter 2 of 2022 to 0.50%, quarter 1 of 2023 to 0.75%, quarter 1
of 2024 to 1.00% and, finally, one in quarter 1 of 2025 to
1.25%.
The UK
- The Bank of
England MPC surprised market expectations for a second consecutive
meeting in December, raising Bank Rate by 0.15% to 0.25%. In doing
so, it became the first major central bank to raise official policy
rates since the onset of the pandemic.
The Committee
voted 8-1 for the change in the policy rate with only
well-established "dove", Silvana Tenreyro, dissenting. Meanwhile,
the Committee voted unanimously to keep the current QE programme
unchanged. The minutes showed that the Bank now expects inflation
to peak at 6% in April, and while Omicron was already having an
impact on some sectors, the Committee felt it had to act now
because it saw "some signs of greater persistence in domestic costs
and price pressures". It also stressed how it had stated at its
November meeting that it would raise rates if the economy evolved
as expected and that "these conditions had been met".
Looking ahead,
unlike in November, there was no reference to inflation being
expected to be below the 2% target over its forecast period, which
may suggest that the Committee is contemplating raising rates
further than it had been at its previous meeting.
While this may
underpin market expectations that Bank Rate will rise to 1% in the
second half of 2022, the minutes also retained the comment that a
"modest tightening" in policy will be required over its 3yr
forecast period. Further, it did caveat that inflation could yet
prove weaker or stronger than expected. Market expectations for
future hikes have increased in the aftermath of the result, with
the potential for the next hike in Q1 2022, with a move to 0.75% by
May and the 1% level being hit in August / September, compared to
November ahead of the meeting. By the close of 2022, markets are
now edging nearer to a 1.25% level, with this expectation having
picked up since the start of trading this year.
Link has formally
reviewed its own forecast in light of the December meeting but has
made no change to its Bank Rate forecast, with just modest changes
to expectations for longer term yields which are reflected in the
table below. Typically, a rate hike would fully flow through market
pricing, especially at the short end of the curve.
Link
Asset Services forward view January 2022
It is not
expected that Bank Rate will go up fast after the initial rate rise
as the supply potential of the economy is not likely to have taken
a major hit during the pandemic: it should, therefore, be able to
cope well with meeting demand after supply shortages subside over
the next year, without causing inflation to remain elevated in the
medium-term, or to inhibit inflation from falling back towards the
MPC’s 2% target after the spike up to around 5%. The forecast
includes four increases in Bank Rate over the three-year forecast
period to March 2025, ending at 1.25%. However, it is likely that
these forecasts will need changing within a relatively short
timeframe for the following reasons: -
·
We do
not know how severe an impact Omicron could have on the economy and
whether there will be another lockdown or similar and, if there is,
whether there would be significant fiscal support from the
Government for businesses and jobs.
·
There
were already increasing grounds for viewing the economic recovery
as running out of steam during the autumn and now into the winter.
And then along came Omicron to pose a significant downside threat
to economic activity. This could lead into stagflation, or
even into recession, which would then pose a dilemma for the MPC as
to whether to focus on combating inflation or supporting economic
growth through keeping interest rates low.
·
Will
some current key supply shortages spill over into causing economic
activity in some sectors to take a significant hit.
·
Rising gas and
electricity prices in October and next April and increases in other
prices caused by supply shortages and increases in taxation next
April, are already going to deflate consumer spending power without
the MPC having to take any action on Bank Rate to cool
inflation.
·
On
the other hand, consumers are sitting on over £160bn of excess
savings left over from the pandemic so when will they spend this
sum, in part or in total.
·
It
looks as if the economy coped well with the end of furlough on 30th
September. It is estimated that there were around 1 million people
who came off furlough then and there was not a huge spike in
unemployment. The other side of the coin is that vacancies have
been hitting record levels so there is a continuing acute shortage
of workers. This is a potential danger area if this shortage drives
up wages which then feed through into producer prices and the
prices of services i.e., a second-round effect that the MPC would
have to act against if it looked like gaining significant
momentum.
·
If
the UK invokes article 16 of the Brexit deal over the dislocation
in trading arrangements with Northern Ireland, this has the
potential to end up in a no-deal Brexit.
In summary, with
the high level of uncertainty prevailing on several different
fronts, we expect to have to revise our forecasts again - in line
with whatever the new news is.
Forecasts for
PWLB rates and gilt and treasury yields
Since the start
of 2021, we have seen a lot of volatility in gilt yields, and hence
PWLB rates. As the interest forecast table for PWLB certainty rates
above shows, there is forecast to be a steady, but slow, rise in
both Bank Rate and gilt yields during the forecast period to March
2025, though there will doubtless be a lot of unpredictable
volatility during this forecast period.
While monetary
policy in the UK will have a major impact on gilt yields, there is
also a need to consider the potential impact that rising treasury
yields in America could have on our gilt yields. As an
average since 2011, there has been a 75% correlation between
movements in US 10-year treasury yields and UK 10-year gilt yields.
This is a significant upward RISK exposure to our forecasts for
longer term PWLB rates. However, gilt yields and treasury yields do
not always move in unison.
There are also
possible downside risks from the huge sums of cash that the UK
populace have saved during the pandemic; when savings accounts earn
little interest, it is likely that some of this cash mountain could
end up being invested in bonds and so push up demand for bonds and
support their prices i.e., this would help to keep their yields
down. How this will interplay with the Bank of England eventually
getting round to not reinvesting maturing gilts and then later
selling gilts, will be interesting to monitor.
There is likely
to be exceptional volatility and unpredictability in respect of
gilt yields and PWLB rates due
to the following factors: -
·
How
strongly will changes in gilt yields be correlated to changes in US
treasury yields (see below). Over 10 years since 2011 there has
been an average 75% correlation between movements in US treasury
yields and gilt yields. However, from time to time these two
yields can diverge. Lack of spare economic capacity and rising
inflationary pressures are viewed as being much greater dangers in
the US than in the UK. This could mean that central bank rates will
end up rising earlier and higher in the US than in the UK if
inflationary pressures were to escalate; the consequent increases
in treasury yields could well spill over to cause (lesser)
increases in gilt yields. There is, therefore, an upside risk to
forecasts for gilt yields due to this correlation. The Link Group
forecasts have included a risk of a 75% correlation between the two
yields.
·
Will
the Fed take action to counter increasing treasury yields if they
rise beyond a yet unspecified level.
·
Would
the MPC act to counter increasing gilt yields if they rise beyond a
yet unspecified level.
·
How
strong will inflationary pressures actually turn out to be in both
the US and the UK and so put upward pressure on treasury and gilt
yields.
·
How
will central banks implement their new average or sustainable level
inflation monetary policies.
·
How
well will central banks manage the withdrawal of QE purchases of
their national bonds i.e., without causing a panic reaction in
financial markets as happened in the “taper tantrums”
in the US in 2013.
·
Will
exceptional volatility be focused on the short or long-end of the
yield curve, or both.
The forecasts are
also predicated on an assumption that there is no break-up of the
Eurozone or EU within the forecasting period, despite the major
challenges that are looming up, and that there are no major
ructions in international relations, especially between the US and
China / North Korea and Iran, which have a major impact on
international trade and world GDP growth.
The balance of
risks to medium to long term PWLB rates: -
There is a
balance of upside risks to forecasts for medium to long term PWLB
rates. A new era – a fundamental shift in central bank
monetary policy
·
One
of the key results of the pandemic has been a fundamental
rethinking and shift in monetary policy by major central banks like
the Fed, the Bank of England and the ECB, to tolerate a higher
level of inflation than in the previous two decades when inflation
was the prime target to bear down on so as to stop it going above a
target rate. There is now also a greater emphasis on other targets
for monetary policy than just inflation, especially on
‘achieving broad and inclusive “maximum”
employment in its entirety’ in the US, before consideration
would be given to increasing rates.
·
The
Fed in America has gone furthest in adopting a monetary policy
based on a clear goal of allowing the inflation target to be
symmetrical, (rather than a ceiling to keep under), so that
inflation averages out the dips down and surges above the target
rate, over an unspecified period.
·
The
Bank of England has also amended its target for monetary policy so
that inflation should be ‘sustainably over 2%’ before
starting on raising Bank Rate and the ECB now has a similar
policy.
·
For
local authorities, this means that investment interest rates and
very short term PWLB rates will not be rising as quickly or as high
as in previous decades when the economy recovers from a downturn
and the recovery eventually runs out of spare capacity to fuel
continuing expansion.
·
Labour market
liberalisation since the 1970s has helped to break the wage-price
spirals that fuelled high levels of inflation and has now set
inflation on a lower path which makes this shift in monetary policy
practicable. In addition, recent changes in flexible employment
practices, the rise of the gig economy and technological changes,
will all help to lower inflationary pressures.
·
Governments will
also be concerned to see interest rates stay lower as every rise in
central rates will add to the cost of vastly expanded levels of
national debt; (in the UK this is £21bn for each 1% rise in
rates
Investment and
borrowing rates
·
Investment returns are expected to improve in 2022/23. However,
while markets are pricing in a series of Bank Rate hikes, actual
economic circumstances may see the MPC fall short of these elevated
expectations.
·
Borrowing interest rates fell to historically very low rates as a
result of the COVID crisis and the quantitative easing operations
of the Bank of England and still remain at historically low levels.
The policy of avoiding new borrowing by running down spare cash
balances has served local authorities well over the last few
years.
·
There
will remain a significant cost of carry, (the difference between
higher borrowing costs and lower investment returns), to any new
long-term borrowing that causes a temporary increase in cash
balances as this position will, most likely, incur a revenue
cost.
ANNEX C - PRUDENTIAL AND TREASURY INDICATORS 2022/23 to 2024/25
The council’s capital expenditure plans
are a key driver of treasury management activities. The output of
the capital expenditure plans are reflected in prudential
indicators. Local authorities are required to ‘have regard
to’ the Prudential Code and to set Prudential Indicators for
the next three years to ensure that the council’s capital
investment plans are affordable, prudent and sustainable. The Code
sets out the indicators that must be used but does not suggest
limits or ratios as these are for the authority to set itself.
The Prudential Indicators for 2022/23 to
2023/242024/25 are set out in Table
A below:
|
Table A
|
2022/23
Estimate
|
2023/24
Estimate
|
2024/25
Estimate
|
|
General Fund (GF) Prudential Indicators
|
|
GF Capital Expenditure
£m (gross)
General Fund capital expenditure plans
|
£128m
|
£93m
|
£57m
|
|
GF Capital Financing
Requirement £m*
Measures the underlying need to borrow for
capital purposes (including PFI & Leases)
|
£334m
|
£370m
|
£376m
|
|
GF Ratio of financing
costs to net revenue stream**
Identifies the trend in the cost of capital
(borrowing and other long term obligation costs net of investment
income) against net revenue stream
|
5.39%
|
6.46%
|
7.42%
|
|
Housing
Revenue Account (HRA) Prudential Indicators
|
|
HRA Capital
Expenditure £m (gross)
HRA capital expenditure plans
|
£95m
|
£50m
|
£40m
|
|
HRA Capital Financing
Requirement £m*
Measures the underlying need to borrow for
capital purposes
|
£235m
|
£260m
|
£275m
|
|
HRA Ratio of financing
costs to net revenue stream**
Identifies the trend in the cost of capital
(borrowing and other long term obligation costs net of investment
income) against net revenue stream
|
9.61%
|
9.69%
|
9.60%
|
* From 2022/23, the CFR includes an
estimate for leases that will be bought onto the balance sheet
under a change in leasing accounting regulations.
** the ratio of financing costs to
net revenue stream illustrates the percentage of the
Council’s net revenue budget being used to finance the
council’s borrowing. This includes interest costs relating to
the council’s borrowing portfolio and MRP, net of the
investment income from the council’s investment
portfolio.
The Treasury Management Code requires that Local
Authorities set a number of indicators for treasury performance in
addition to the Prudential Indicators which fall under the
Prudential Code. The Treasury Indicators for 2022/23 to
2024/25 are set out in Tables B & C below. These have
been calculated and determined by Officers in compliance with the
Treasury Management Code of Practice:
|
Table B
|
2022/23
Estimate
|
2023/24
Estimate
|
2024/25
Estimate
|
|
Authorised Limit for
External Debt £m*
The council is expected to set a maximum
authorised limit for external debt. This represents a limit beyond
which external debt is prohibited, and this limit needs to be set
or revised by Full Council.
|
£590m
|
£651m
|
£670m
|
|
Operational boundary
for external debt £m*
The council is required to set an operational
boundary for external debt. This is the limit which external debt
is not normally expected to exceed. This indicator may be breached
temporarily for operational reasons.
|
£580m
|
£641m
|
£660m
|
|
Principal Sums
invested for longer than 365 days
|
£40m
|
£40m
|
£40m
|
*From 2022/23 The Authorised Limit
and Operational Boundary includes an estimate for leases that will
be bought onto the balance sheet under a change in leasing
accounting regulations.
|
Table C
|
|
Maturity Structure of fixed interest rate
borrowing*
The council needs to
set upper and lower limits with respect to the maturity structure
of its borrowing.
|
|
|
Lower
|
Upper
|
|
Under 12 months
|
0%
|
40%
|
|
12 months to 2 years
|
0%
|
40%
|
|
2 years to 5 years
|
0%
|
50%
|
|
5 years to 10 years
|
0%
|
75%
|
|
Over 10 years
|
40%
|
100%
|
ANNEX D - SCHEME OF DELEGATION
1.
Full
Council
§ Approval of
Annual Investment Strategy, Treasury Management Strategy Statement,
Capital Strategy, Treasury Management Policy Statement;
§ Approval of the
Minimum Revenue Provision Policy;
§ Approval of the
Prudential and Treasury indicators, including the Affordable
borrowing limits;
§ Approval of the
annual revenue budget for financing costs.
The
requirements are all contained within this appendix (TMSS
incorporating the AIS) and Appendix 2 (Capital Strategy) of the
budget report.
§ Any changes to
the Annual Investment Strategy during the year require approval by
full Council.
§ Full Council are
able to delegate the implementation and monitoring of the treasury
management function. This function is delegated to the Policy &
Resources Committee.
2.
Policy &
Resources Committee
§ Approval
of/amendments to the organisation’s adopted clauses, treasury
management policy statement and treasury management
practices;
§ Budget
development, consideration and approval;
§ Approval of the
division of responsibilities;
§ Receiving and
reviewing regular monitoring reports and acting on
recommendations.
P&R receive
the following reports in order to fulfil these
requirements:
§ A Mid-Year
Review Report – an update on progress of the treasury and
investment strategy against budget and the treasury &
prudential indicators for the first six months of the year. Any
amendments to the indicators or investment strategy require P&R
committee to recommend that full Council approve the
changes.
§ End of Year
Review report– an update
regarding the actual outturn of the treasury position provides
details of a selection of actual prudential and treasury indicators
and actual treasury operations compared to the estimates within the
strategy.
§ Regular TBM
reports- includes the
revenue impact of the financing cost budget.
P&R
Committee is the body held responsible for the scrutiny of the
actual performance of the treasury activities against the
strategy.
3.
Role of the
Section 151 Officer
The
council’s appointed Section 151 Chief Financial Officer is
responsible for:
§ recommending
clauses, treasury management policy/practices for approval,
reviewing the same regularly, and monitoring compliance;
§ submitting
regular treasury management policy reports;
§ submitting
budgets and budget variations;
§ receiving and
reviewing management information reports;
§ reviewing the
performance of the treasury management function;
§ ensuring the
adequacy of treasury management resources and skills, and the
effective division of responsibilities within the treasury
management function;
§ ensuring the
adequacy of internal audit, and liaising with external
audit;
§ recommending the
appointment of external service providers.
There are
further responsibilities for the S151 Officer identified within the
2017 Code in respect of non-financial investments. They are
identified and listed in the Capital Strategy where
relevant.