This book provides chief financial officers and corporate treasury executives with an overview of changes in the cash investment landscape and a guide to more effective hands-on management of corporate cash portfolios. Its three chapters explain: 1) why many investment managers are migrating to separately managed accounts (SMAs); 2) what investment policies for cash management are needed; and 3) how credit and risk factors come into play in this new era.
As the economy improves and interest rates move higher, treasury professionals hoping for a return to the good old days of decent yields in safe investments are finding a new and different world. Today’s cash investment landscape is shaped by higher risk awareness, more sensitivity to liquidity costs and stricter systemic regulation. Dodd-Frank banking reforms, Basel III accords and other regulatory changes have made uninsured bank deposits less attractive than in the past. At the same time, money market fund reforms are expected to increase risk and reduce yields, lessening the attractiveness of institutional funds that previously were regarded as highly reliable, safe and stable investment vehicles for corporate cash.
Taken together, these changes are ushering in a new era in cash management. Treasury professionals increasingly are considering alternatives for managing cash, beyond bank deposits and money market funds. In a return to the direct management approach many abandoned in the 1990s, a large percentage of cash managers are planning to supplement their portfolios with direct purchases of marketable short-term securities in separately managed liquidity accounts. In short, now is the time to start rethinking cash investment strategies.
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Benchmarks
Benchmark Selection for Cash Portfolios
Introduction
Corporate treasury managers are frequently confronted with the task of picking the right benchmarks for their cash portfolios. Unlike stocks and long bonds, a market-based index is often too long or too risky for cash investments. Some treasurers resort to comparing “yield” earned on investments on the assumption that it is the only relevant factor in a “buy-and-hold” strategy. We want to offer our take on choosing appropriate benchmarks for corporate cash portfolios.
The Need for Benchmarking
Some argue that, if a cash investor’s main objective is to maximize yield, having a benchmark is irrelevant. Within reasonable risk parameters, the higher the yield, the better. Why, then, is there a need for benchmarking?
A benchmark is the yardstick to direct an investment strategy and to measure the success of this strategy. Its usefulness lies in its representation of a “neutral” position for the investor with matched investment horizon, risk tolerance, liquidity needs and return objectives with its investment policy. In addition to being a measurement of manager performance, the benchmark is frequently used to simulate interest rate scenarios and to analyze trading and opportunity costs Even though a perfect benchmark may not exist for a given cash portfolio, adopting one provides a good starting point for the cash manager to understand return attributions.
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