Treasury Management half year review 2007/08

Report: 6
Date: 18 October 2007
By: Director of Strategic Finance on behalf of the Commissioner and the Treasurer

Summary

This report provides a review of treasury management for the 6-month period ended 30 September 2007 and reviews current developments in 2007-08.

A. Recommendations

That Members note this report and the budgetary implications.

B. Supporting information

Introduction

1. On 21 March 2002, the Metropolitan Police Authority formally adopted the key recommendations of CIPFA’s Code of Practice for Treasury Management in the Public Services as set out in Section 4 of that Code.

2. In line with the Code the MPA have adopted a treasury management policy statement that requires that the Treasurer submit a regular report on treasury and debt management operations during the financial year. This report is submitted in accordance with that requirement.

3. Additionally, under Part 1 of the Local Government Act 2003, the Authority is required to have regard to the Prudential Code for Capital Finance including the setting of Prudential Indicators. Relevant treasury management indicators were incorporated into the Treasury Management Strategy 2007-08 approved by this Committee on 15th February 2007.

4. This report sets out:

• a review of investment operations for the 6 months to 30 September 2007
• a summary of interest rate movement and investment performance for the 6 months to September 2007
• a comparison of MPA return to Benchmarking Club average return for 2006-07
• a review of debt management operations
• an update on the treasury management Prudential Code indicators

Investment Operations for the 6 months to 30 September 2007

5. The average size of the investment portfolio for this period was £267 million. These cash balances available for investment include balance sheet reserves and provisions, unapplied capital receipts and grant and cash arising from the timing of large receipts and payments.

6. The structure of the portfolio continues to reflect the investment instruments selected for investment purposes as defined by Treasury Management strategy. Table 1 provides an analysis of average investment balances for each counter-party sector.

Table 1 – Portfolio average sector size 6 months to 30 September 2007

7. A fairly balanced portfolio between the UK Bank and non-UK Bank sectors has remained. Throughout the period opportunities to place funds with Building Societies widened, particularly with the unspecified sector (no credit ratings). From August 2007 the effect of the USA sub prime mortgage difficulties started to affect the sterling market. Banking institutions became less willing to lend to each other leading to a shortage of cash and an increase in rates.

8. The high profile difficulties of UK Bank Northern Rock illustrated the difficulties some institutions had in securing cash. With Northern Rock satisfying the lending criteria funds were placed with the bank but with a downward revision of ratings on 17 September 2007 the bank was removed from the lending list. At 30 September 2007, two loans totalling £23m were outstanding with Northern Rock with £13 million to be repaid on 5 October and £10 million on 2 November. Timely repayment is further supported by the guarantee issued by the Bank of England on 20 September.

9. In view of Northern Rock difficulties, the ratings of UK Banks Bradford & Bingley and Alliance & Leicester will be closely monitored. Although these banks operate in a market similar to Northern Rock they are less exposed to sub prime higher risk mortgage arrangements.

10. The call money sector, which represents instant access funds, is held with Halifax Bank of Scotland (HBOS) and the Royal Bank of Scotland (RBS). Although the average return is in excess of base rate on these accounts, we have reduced balances due to the better return seen on fixed rate deposits. Balances on call during the period are on average 10% of the portfolio (from 13% for the same period in 2006/07). These lower balances still maintain sufficient liquidity to cover short-term cash flow requirements.

Interest rate movement and investment performance for the 6 months to September 2007

11. Since August 2006 when Base Rate was at 4.5% we have seen five rate increases. The last 25 basis point rise was in July 2007 to 5.75%.

12. The reported annual budget for interest receivable on investments is currently £11.4 million, and as at period 5 we are on track to achieve this.

13. Performance is monitored against the British Bankers Association (BBA) London Inter-Bank Offer Rate (LIBOR). This offer rate is higher than the daily rate that can be achieved but does offer a guide to performance. The 6-month MPA return of 5.59% compares with BBA LIBOR (1 week) of 5.77% and BBA LIBOR (1 month) of 5.92%. Additionally the return on fixed term, fixed rate investments previously undertaken will be lower in a market with rising interest rates.

Comparison of MPA return to Benchmarking Club average return for 2006-07

14. The MPA is a member of the Institute of Public Finance (IPF) Treasury Management Benchmarking Club. Interim data for the 6-month period to 30 September 2007 will be submitted to IPF during the autumn. However, analysis from financial year 2006/07 can be reviewed. Table 3 compares the MPA return to the group average.

Table 3 – Comparison of MPA return to Benchmarking Club Average 2006/07

Cash < 364 days Call Money Combined Investments MPA Return % 4.85 4.75 4.84 Group Average % 4.87 4.82 4.86 Margin % (-) 0.02 (-) 0.07 (-) 0.02

15. The lower return the MPA achieved on call accounts reflects the less competitive rate paid by our main banker RBS. While the account with RBS offered greater flexibility when approached the bank would not offer an enhanced rate of return. In November 2006 the bulk of call account money was transferred to HBOS. This achieved a higher rate of return and from November 2006 the MPA return was actually higher than the group average.

16. The MPA return on fixed term investments (cash < 364 days) is slightly below average for the group. The average length of investment was 33 days reflecting the need to cover the short-term cash position. The group average length of investment was 76 days therefore benefiting from a positive yield curve (that is where the market has priced in future interest rate rises).

Debt management operations

17. The balance of debt outstanding at 30 September 2007 is £57.34 million, unchanged from 31 March 2007. The rate of interest paid on the debt portfolio was 5.67% and no long-term debt management operations were undertaken this period.

Treasury management Prudential Code indicators

18. Prudential Code indicators specific to treasury management are designed to ensure that treasury management is carried out in accordance with good professional practice. Indicators for 2007-08, 2008-09 and 2009-10 were presented to this Committee as part of the 2007-08 treasury management strategy.

19. The 2007-08 indicators and actual figures for the 6 months to 30 September 2007 are set out at Appendix 1. Investment activity has been maintained within indicator limits.

Abbreviations

BBA

British Bankers Association

CIPFA

Chartered Institute of Public Finance & Accountancy

HBOS

Halifax Bank of Scotland

LIBOR

London Interbank Offered Rate

RBS

Royal Bank of Scotland

 C. Race and equality impact

As part of the MPS's environmental strategy a review of the environmental and ethical policies of organisations receiving funds is ongoing.

D. Financial implications

There are no additional financial implications resulting from this report.

E. Background papers

• Treasury Management Strategy 2007/08 – MPA Finance Committee 15 February 2007

F. Contact details

Report author: Sharon Burd, Director of Finance.

For more information contact:

MPA general: 020 7202 0202
Media enquiries: 020 7202 0217/18

Appendix 1: Treasury Management prudential indicators for the Metropolitan Police Authority

Treasury Management Indicators – Comparison of 2007-08 estimate to actual position for the 6 months to 30 September 2007

• Gross Outstanding Borrowing.

Limits in interest rate exposure calculated with reference to outstanding borrowing sums 

• Gross Outstanding Investment.

Limits in interest rate exposure calculated with reference to outstanding investment sums 2007/08

• Maturity Structure of Borrowing – Upper and Lower Limits

Amount of projected borrowing that is fixed rate maturing in each period as a percentage of total projected borrowing that is fixed rate

• Principal sums invested for periods longer than 364 days.
• Agreed upper limit of £40 million

A total of £40 million has been invested for longer than 364 days.

• The MPA has adopted the CIPFA Code of Practice for Treasury Management in Public Services.

External Debt Indicators

• Authorised Limit for External Debt

This is the maximum amount that the authority allows itself to borrow in each year. They are based on the estimate of the most likely, prudent but not worst-case scenario, with in addition sufficient headroom over and above this to allow for operational management, for example unusual cash movements. Risk analysis and risk management strategies have been taken into account, as have plans for capital expenditure and estimates of cashflow requirements.

• Operational Boundary for External Debt

The Operational Boundary for external debt is based on the same estimates as the Authorised Limit but reflects directly the estimate of the most likely, prudent, but not worst case scenario, without the additional headroom included within the Authorised Limit to allow for example for unusual cash movements and equates to the maximum of external debt projected by this estimate.

• Actual External Debt

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