Happy days are here again…thanks to rising interest rates!
Are you ready to take an “interest” in cash flow management, to maximize the “interest earnings” revenue in your budget?
Today, many people are happy to see the return of interest rates that is turning cash into a valuable commodity once again.
I’m sorry for people who have to borrow money, their borrowing costs are going up.
But for savers and those with large cash balances, it is truly happy days again!
Up until this year, cash was trash. Today, cash is king.
The Federal Reserve Bank has no choice but to raise interest rates to tame inflation, which is destroying the value of our US dollar.
It is time to go talk to your banker, wherever you keep your bank deposits for your organization or your company.
Your banker is NOT going to be increasing the amount they pay you as interest earnings out of the goodness of their heart. You have to ask for more favorable interest rates or you’ll move your cash to the Local Agency Investment Fund (LAIF) or to US Treasury investments.
It is time also to look at how your deposits, which are in excess of $250,000. How are they collateralized? How are they secured, should the bank default?
For City governments and other local governments, the banks collateralize your bank deposits (in excess of $250,000 FDIC limit) by using letters of credit, which may have a value of 105% of the deposits you have at the bank.
But the question you need to ask your banker is, what are the underlying securities for those letters of credit? How much would they be worth today if they were to be old in the open market?
My guess is those underlying securities are worth less than their face value for one basic reason: Rising interest rates.
What is the mark to market values?
Have these conversations with your banker, and be ready to walk away in most uncomfortable situations when your banker begs you to not take your money out.
Just a year ago, interest rates at the Local Agency Investment Fund (LAIF) in Sacramento was paying just us 0.278% as of March 2022.
For a local government with a cash portfolio value of $50 million, the annual earnings based on the 0.278% last year would only result in about $139,000 of annual investment earnings at LAIF.
Today, in March 2023, the annual LAIF interest rate is closer to 2.79%!
This 2.79% interest rate is 10 times what it was just one year ago!
The total annual interest on $50 million of LAIF deposits in the year 2023 assuming the 2.79% interest rate would be $1,395,000.
Compare that to the $139,000 interest earnings you would make just one year ago using the interest rate in March 2022!
The goal in cash management, cash flow management today, is to collect cash revenues “as quickly as possible”, and to pay bills “as slowly as possible”, but within the “net 30” payment terms that government organizations have with vendors.
The SLY Investment Policy. The S stands for safety, the L stands for liquidity, and the Y stands for yield.
Our goal is to maximize the yield we earn on our government investments, while ensuring the highest level safety, and while maintaining the liquidity that is needed for the maturities of the investments that we purchase.
“Hold to maturity” is a policy that ensures that we never risk a loss of principal.
If you buy a six month or a 12 month or an 18 month or 24 month government security and you hold it to maturity, you will always get back the principal that you purchased for that security.
You only lose principal if you need to sell a security prior to the date of maturity.
This would happen if you do a poor job of estimating your cash flow needs over the next 6 to 12 to 18 to 24 months.
A basic premise in government bonds and investments is that when interest rates go up, bonds value go down. This is why you need to hold your purchased investments to maturity, so you never jeopardize a loss on investments.
Transaction costs need to be balanced against the additional interest revenue to be earned from moving liquid cash balances into maturities of up to 24 months.
Remember we currently have an “inverted yield curve”, which means you actually earn a lower interest rate if you go beyond 24 months.
As I said, there is going to be a transaction cost for every trade or position you purchase.
When you move monies and wire monies back and forth between your bank and the investment pools, or other purchases of government bonds notes and bills or other agency investments, there is a transaction cost (usually the wire transfer fee).
Daily Bank Balance Dashboard. Make sure that you perform a daily reconciliation of your cash so you can know exactly where your cash stands every single day, to maximize the interest earnings that you make for your budget and for your organization.
The cash flow budget, which is a projection of your cash flow needs over the next 6 to 12 to 18 to 24 months, is driven by the capital improvement program (CIP) budget as well as the operating budget.
Your accounting system where you load the budget that you are proposing for City Council approval allows you to enter the Expenditure and Revenue amounts “annually” as a lump sum or enter budget line items as individual “monthly” amounts.
For every single line item of Revenue and Expenditure, you can break out the anticipated Revenue and Expenditure budgets for every single month of the fiscal year.
Ladder portfolio, by structuring your investments to mature within six months or 12 months or 18 months or 24 months this ensures that you can have a constant amount of cash flow, as well as the ability to reinvest funds at a higher rate m, assuming rates continue to go up.
Collateralization of bank deposits needs to be confirmed and verified with written research through the bank where your organization keeps deposits.
Make sure you look at the underlying security being used as collateral, otherwise that collateralized deposit, or that collateral may not be worth as much as you think it is.
So, are you ready to take an interest in cash flow management to maximize your interest revenues for your budget?
Excellent! Happy days are here again!
All for now,
John Herrera, CPA
CitySpeak the Podcast
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