Meeting of the Full Council
Meeting to be held on 25 February 2010
Report of the Executive Director for Resources
Part A - Item No. 9
Electoral Division affected:
All
Treasury Management Policy and Strategy 2010/11
Contact for further information:
Mike Jensen, 01772 534742, Resources Directorate
Executive Summary
This report outlines the Treasury Management Policy and Strategy for 2010/11,
including the Treasury Management Prudential Indicators, Borrowing Strategy and
Investment Strategy as agreed by County Council on 17 December 2009.
To the extent the current Capital Programme proposals are varied by Cabinet or by
County Council, the figures contained within this report will also change as
appropriate.
The report also asks the County Council to formally adopt the updated CIPFA
Treasury Management Code of Practice.
Recommendation
The County Council is asked to :
A). Approve the revised Treasury Management Policy for 2010/11, and adopt the
updated CIPFA Code of Practice:
B) Approve the Treasury Management Strategy for 2010/11, including:
a) The Treasury Management Prudential Indicators (item 3)
b) The Borrowing Strategy (item 6)
c) The Annual Investment Strategy (item 8)
-2Background
The County Council has always conducted its Treasury Management activities within
the stipulations laid down in CIPFA’s Prudential Code for Capital Finance and
Treasury Management Code of Practice.
An updated Treasury Management Code of Practice has been issued following the
House of Commons Select Committee and the Audit Commission investigations into
the collapse of the Icelandic banks, and the main points of the new code are
presented in this report. The new code, along with the existing code already adopted
by the County Council, require that local authorities produce an annual Treasury
Management Strategy. Regulations require that these documents are adopted by the
Full Council. This report also contains the Strategy for 2010/11.
1. The CIPFA Revised Treasury Management Code of Practice and Revised
Treasury Management Policy Statement.
The revised code
a) All authorities must formally adopt the revised Code and four clauses
b) The strategy report will affirm that the effective management and control of
risk are prime objectives of the authority’s treasury management activities.
c) The Council’s appetite for risk must be clearly identified within the strategy
report and will affirm that priority is given to security of capital and liquidity,
ahead of return when investing funds and explain how that will be carried out.
d) Responsibility for risk management and control lies within the organization
and cannot be delegated to any outside organization.
e) Credit ratings should only be used as a starting point when considering risk.
Use should also be made of market data and information, the quality financial
press, information on government support for banks and the credit ratings of
that government support.
f) Authorities need a sound diversification policy with high credit quality
counterparties and should consider setting country, sector and group limits.
g) Borrowing in advance of need is only to be permissible when there is a clear
business case for doing so and only for the current capital programme or to
finance future debt maturities.
h) The main annual treasury management reports MUST be approved by full
council.
i) There will be a mid year review of treasury management strategy and
performance. This is intended to highlight any areas of concern that have
arisen since the original strategy was approved.
j) Each authority must delegate the role of scrutiny of treasury management
strategy and policies to a specific named body.
k) Treasury management performance and policy setting should be subjected to
prior scrutiny.
l) Members should be provided with access to relevant training.
m) Those charged with governance are also personally responsible for ensuring
they have the necessary skills and training.
n) Responsibility for these activities must be clearly defined within the
organization.
-3o) Officers involved in treasury management must be explicitly required to follow
treasury management policies and procedures when making investment and
borrowing decisions on behalf of the authority (this will form part of the
updated Treasury Management Practices).
The strategy statement contained within this report has been prepared in accordance
with the revised Code. Accordingly, the Lancashire County Council's Treasury
Management Strategy will be considered annually by the Cabinet and approved by
the full County Council, and there will also be a mid year report. In addition there will
be monitoring reports and regular review by members in both executive and scrutiny
functions. The aim of these reporting arrangements is to ensure that those with
ultimate responsibility for the treasury management function appreciate fully the
implications of treasury management policies and activities, and that those
implementing policies and executing transactions have properly fulfilled their
responsibilities with regard to delegation and reporting.
This Authority will adopt the following reporting arrangements in accordance with the
requirements of the revised Code: -
Area of Responsibility
Committee/ Officer
Frequency
Treasury Management Policy
Statement (revised)
Full Council
Initial adoption in 2010
Full Council
Annually before the start of
the next financial year
Full Council
Mid year
Treasury Management Strategy
/ Annual Investment Strategy /
MRP policy
Treasury Management Strategy
/ Annual Investment Strategy /
MRP policy – mid year report
Treasury Management Strategy
/ Annual Investment Strategy /
MRP policy – updates or
revisions at other times
Full Council
Full Council
Annually by 30 September
after the end of the year
Treasury Management
Monitoring Reports
Executive Director
for Resources
Quarterly as a minimum.
The Executive Director
currently conducts a
monthly Treasury
Management Review
meeting
Treasury Management
Practices
Scrutiny of treasury
management strategy
Scrutiny of treasury
management performance
Executive Director
for Resources
Annually
Audit Committee
Annually before the start of
the year
Audit Committee
Quarterly
Annual Treasury Outturn Report
-4-
2. Treasury Management Strategy 2010-2011.
In setting the treasury management strategy (revised strategy agreed by County
Council 17 December 2009), the following factors have been taken into account;
economic forecasts, the level of the approved Capital Programme and the current
structure of the Authority’s debt portfolio. It covers the following aspects of the
treasury management function

Prudential Indicators which will provide a controlling framework for the
treasury management activities of the Authority;

Long-term debt outstanding;

Prospects for interest rates;

The Borrowing Strategy;

The Investment Strategy.

Policy on borrowing in advance of need.
3. Prudential Indicators for 2009/10 to 2011/12 in respect of the County
Council's Treasury Management Activities
In accordance with its statutory duty and with the requirements of the
Prudential Code for Capital Finance and the CIPFA Code for Treasury
Management, the County Council produces each year a set of prudential
indicators which regulate and control its treasury management activities.
The following table sets out the debt and investment-related indicators which
provide the framework for the County Council’s proposed borrowing and
lending activities over the coming three years. These indicators are approved
by members as part of the Capital Programme approval process along with
other capital expenditure-related indicators, but need to be reaffirmed and
approved as part of this Treasury Management Strategy.
Treasury Management Prudential
Indicators
2009/10
(Revised)
£000
1. Adoption of the CIPFA Code of
Practice for Treasury Management
2010/11
2011/12
2012/13
£000
£000
£000
Adopted
2. Authorised limit for external debt - A
prudent estimate of external debt, which
reflects the authority’s capital expenditure
plans and allows sufficient headroom for
unusual cash movements.
Borrowing
Other long-term liabilities
TOTAL
738,000
780,000
770,000
740,000
5,000
5,000
5,000
5,000
743,000
785,000
775,000
745,000
-5-
3. Operational boundary for external debt
- A prudent estimate of debt, but no
provision for unusual cash movements. It
represents the estimated maximum
external debt arising as a consequence of
the County Council's current plans.
Borrowing
703,000
745,000
735,000
705,000
3,000
3,000
3,000
3,000
706,000
748,000
738,000
708,000
640,000
780,000
770,000
740,000
This limit reflects the potential need to
take some variable rate debt if interest
rates rise to a point where fixed rate
borrowing is not attractive.
159,000
390,000
385,000
370,000
6. Limit for Investments over 364 Days
150,000
150,000
150,000
150,000
Other long-term liabilities
TOTAL
4. Upper limit for fixed rate debt
This limit reflects the fact that the County
Council may wish to have all its borrowing
at fixed rates.
5. Upper limit for variable rate debt
This limit applies for bank deposits only
does not apply to investments in UK or AAA
rated foreign Government or Supra-national
Bank Securities.
7.
4.
Maturity structure of Debt
Upper Limit
%
Lower Limit
%
Under 12 months
25
-
12 months and within 24 months
25
-
24 months and within 5 years
30
-
5 years and within 10 years
50
-
10 years and above
100
25
Current Debt Portfolio Position
The table below shows the currently estimated year-end position on the
County Council’s debt portfolio assuming no further borrowing in the current
year and after the final debt repayment instalment for the year to be made by
transferee authorities to the County Council on 31 March 2010.
Type of Debt
Amount
-6£000
%
500,991
78
30,000
5
Short term borrowing from other
Local Authorities
108,000
17
TOTAL DEBT
638,991
Debt for which the County Council
is financially responsible
587,991
92
Debt relating to assets transferred
to other Authorities
51,000
8
Long-term fixed rate PWLB debt
Long-term variable rate PWLB debt
TOTAL
638,991
5. Borrowing Requirement and prospects for interest rates
The County Council's estimated borrowing requirement for the current year
and the next three years is as follows:
2009/10
Revised
£000
2010/11
2011/12
2012/13
£000
£000
£000
Net Supported Borrowing
54,214
39,814
27,900
18,721
Net Unsupported Borrowing
44,998
41,136
42,714
0
Maturing Long-Term Debt
15,029
9,029
10,514
10,008
4,069
3,908
3,010
2,677
Less Statutory Charge to Revenue
21,175
24,272
26,539
28,302
Less loans already taken out
17,459
TOTAL BORROWING REQUIREMENT
71,538
61,799
51,579
2,750
Less Transferred Debt
In planning its borrowing to meet these requirements, the Authority will
consider the prevailing and forecast interest rate situation. Regular forecasts
of interest rates, from a range of forecasters, are provided by Sector Treasury
Services, who act as treasury management advisers to the County Council.
The latest forecast is shown in the table below:
-7-
In view of the above forecast the Authority's borrowing strategy will be based
upon the following information.

Rates are expected to gradually increase during the year so it should
therefore be advantageous to time new long term borrowing for the start of the
year when 25 year PWLB rates fall back to or below the central forecast rate
of about 4.65%, a suitable trigger point for considering new fixed rate long
term borrowing.

PWLB rates on loans of less than ten years duration are expected to be
substantially lower than longer term PWLB rates offering a range of options
for new borrowing which will spread debt maturities away from a concentration
in long dated debt.

There is expected to be little difference between 25 year and 50 year rates so
therefore loans in the 25-30 year periods could be seen as being more
attractive than 50 year borrowing as the spread between the PWLB new
borrowing and early repayment rates is considerably less.
This would
maximise the potential for debt rescheduling and allow the Authority to
rebalance its debt maturity profile.

If it were felt that there was a significant risk of a sharp FALL in long and short
term rates, e.g. due to a marked increase of risks around relapse into
recession or of risks 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 were felt that there was a significant risk of a much sharper RISE in long
and short term rates than that currently forecast, perhaps arising from a
greater than expected 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 fixed rate funding will be drawn whilst interest rates were
still relatively cheap.
-86. Borrowing Strategy
It can be seen from the above table that the borrowing requirement for 2010/11 is
£61,799m and the remaining borrowing requirement for 2009/10, having taken no
long term borrowing so far this year, is £71,538m. There are a range of options
available for the borrowing strategy in 2010/11 and for the remaining borrowing
requirement in 2009/10. Variable rate borrowing is expected to be cheaper than
fixed rate long term borrowing and will be attractive during the financial year,
particularly as variable rates are closely linked to bank rates. Under 10 year
PWLB rates are expected to be substantially lower than long term PWLB rates,
so this opens up a range of choices that may allow the County Council to spread
maturities away from concentration on long dated debt. Against this background,
the Executive Director for Resources will, in conjunction with the County Council's
advisers, monitor the interest rate situation closely during the coming year and
will adopt a pragmatic approach to changing circumstances, but according to
current projections, as rates are expected rise gradually later in the year careful
monitoring will ensure that borrowing is taken at the most appropriate time before
rates increase.
7. Policy on Borrowing in Advance of Need.
The Authority will not borrow more than or in advance of need purely in order to
profit from the investment of the extra sums borrowed. Any decision to borrow in
advance will be considered carefully to ensure value for money can be
demonstrated and that the Authority can ensure the security of such funds.
In determining whether borrowing will be undertaken in advance of need the
authority will;

Ensure that there is a clear link between the capital programme and the
maturity profile of the existing debt portfolio which supports the need to
take funding in advance of need.

Ensure the ongoing revenue liabilities created, and the implications for the
future plans and budgets have been considered.

Evaluate the economic and market factors that might influence the manner
and timing of any decision to borrow.

Consider the merits and demerits of alternative forms of funding.

Consider the alternative interest rate bases available, the most
appropriate periods to fund and repayment profiles to use.
.
8. Investment Policy
The Council will have regard to the CLG’s Guidance on Local Government
Investments (“the Guidance”) issued in March 2004, any revisions to that
guidance, the Audit Commission’s report on Icelandic investments and the 2009
-9revised CIPFA Treasury Management in Public Services Code of Practice and
Cross Sectoral Guidance Notes (“the CIPFA TM Code”). The Council’s
investment priorities are: (a) the security of capital and
(b) the liquidity of its investments.
The Authority will also aim to achieve the optimum return on its investments
commensurate with proper levels of security and liquidity. The risk appetite of this
Authority is low in order to give priority to security of its investments.
The legislative and regulatory background to treasury management activities
requires the County Council to set out its proposed use of “specified” and “nonspecified” investments. Broadly speaking, specified investments are sterling cash
deposits for periods of 364 days or less with highly credit-rated counterparties (i.e.
investments requiring minimal procedural formalities). Non-specified investments
fall outside that definition and may be either for longer periods or involve an
element of market risk such as bonds or certificates of deposit.
The Cabinet at its meeting on 3 December 2009, approved a revised County
Council investment strategy, in the light of the effect of the recent economic
climate on banks and other financial institutions, and particularly in the light of the
Icelandic Bank issue.
The revised investment policy is significantly different from the current strategy. It
is still based on Sector’s detailed colour coded credit rating matrix, but the
maximum investment periods have been extended to facilitate better portfolio
management and provide flexibility in responding to market conditions. The
minimum sovereign rating for overseas countries is AA, though in practice the vast
majority of transactions will be with AAA rated countries. In addition information
from the market and risk analysis will be taken into account when identifying
suitable counterparties. The main change is the significantly extended limits for UK
Government, supranational and other sovereign government bonds (minimum AA+
rating and issued in sterling only), in order to increase the liquidity of the portfolio
whilst maintaining the highest level of counterparty credit quality.
The approach also means that the list of potential counterparties is large enough
to allow there to be choice of investment opportunities at any one time. This has
proved difficult in recent months.
- 10 -
Instrument
Credit Rating
(using Sector criteria)
Maximum
Individual
Investment(£m)
Maximum Period
AA+
250
50 yrs
AA+
250
50 yrs
Purple (Highest quality,
greatest certainty of support)
100
5 yrs
Orange (Highest quality,
slightly less certainty of
support)
50
3 yrs
Red (Highest quality but
lower than orange)
30
3 months
Green (Quality, but lower
than Red and lower certainty
of support)
10
1 months
Government Institution
100
364 days
50
25 yrs
UK Govt Gilts & Treasury Bills
Sterling Supranational Bonds
Sterling G10 Sovereign
Bonds
Term Deposits with UK and
Overseas Banks (domiciled in
UK) and Building Societies
Public Works Loan Board –
Debt Management Office
Deposit Facility
Other Local Authorities
AAA
Money Market Funds
AAA Rated, weighted
average maturity 3 months
50
These investments
do not have a
defined maturity
date.
Certificates of Deposit.
Collateralised lending
agreements backed by higher
quality UK government and
supra national sterling
securities.
AA, with AAA for any
collateral used
200
364 days
Non credit rated “nationalised”
banks
Blue
50
5yrs
The placing of residual overnight deposits with the County Council’s bank, National
Westminster, will not count against the above individual limits.
There are three proposed changes to this current policy aimed to improve the
security and liquidity of the County Council investments.
Firstly an extension of the limit for investment in 'nationalised' banks from £50m to
£100m. There is still currently a high degree of turbulence in the financial markets
and this change would enable the County Council to increase the proportion of
investments placed with banks holding explicit Government guarantees.
Secondly it is proposed that any investment in a overnight call account will not count
against individual counterparty limits. Call accounts are very secure and liquid
investments because they provide instant access to funds. At the present time it
- 11 makes good investment sense to use call accounts to guard against market volatility
and counterparty credit risk.
Thirdly, money market funds provide similar security and liquidity opportunities to call
accounts. The AAA rated funds that the County Council are interested in investing in
hold Government securities as their main security. Under the current policy these
money funds must have a maximum weighted average maturity of 30 days. It is
considered that by increasing the maximum weighted average maturity to 60 days
the County Council will be able to improve the yield whilst still maintaining the same
level of security. The increase in the weighted average maturity of the fund does not
affect the fact that the County Council can withdraw funds at any time with same day
notice. It is therefore proposed to relax the weighted average maturity restriction to
60 days.
Specified and Non Specified Investments
The above table provides limits for both specified and non-specified investments.
These are categories of investments set out in the Prudential Code and the relevant
regulations.
Specified investments are sterling deposits in:










Ordinary fixed term deposits under one year.
Call or notice deposits.
Structured deposits or bank and building society certificates of deposit under
one year.
Sovereign, quasi sovereign or bank commercial paper.
UK Treasury bills.
UK Gilts, conventional or indexed linked.
Money funds less than one year.
Reverse repurchase agreements of less than one year, secured by the above.
Deposits or bonds (such as secondary LOBOs) with other Local Authorities
and statutory bodies. (Periodically other authorities will need to fund cash-flow
shortages through short term money market borrowing, in the past authorities
borrowed for long term programmes in the form of bonds rather than PWLB
borrowing – many of these bonds are still in existence and can be bought and
sold in the markets).
Bonds issued by or guaranteed by highly rated Sovereign Governments or
Supra-national bodies (e.g. European Investment Bank).
Non-specified investments are:





Ordinary fixed term deposits over one year.
Structured deposits or bank and building society certificates of deposit over
one year.
Bond funds.
Reverse-repurchase agreements over one year.(see glossary)
Any of the above investments denominated in currencies other than sterling.
- 12 Other investment classes are available for investment but may count as capital
expenditure, at this stage any such investments fall outside this policy.
Day to day Investment Management
The total cash investments managed by the County Council include balances
invested on behalf of the Pension Fund, the Police and Fire Authority and
schools. In the current year, total balances have averaged £548 million, of which
the County Council’s own balances have averaged over £350 million. The level of
balances is likely to remain high in 2009/10 and, although the prime consideration
in investment management must always be the security of the cash on deposit,
with such levels of balances it is important, from a budgetary point of view, to
maximise investment income.
With bank rates falling to exceptionally low levels, investment returns are likely to
continue to be far lower than has been the case in recent years. However, in the
knowledge that a substantial portion of cash invested will not be required in the
short term and to protect against the predicted lower investment rates,
investments will be made for longer time periods, depending on cash flow
considerations and the prevailing market conditions.
The performance target on investments is a return above the average rate for 7
day notice money and this has always been achieved.
All the County Council's investments are currently managed 'in-house', but if
circumstances were appropriate, the County Council has indicated in its
approved Treasury Management Practices that it would consider the appointment
of external providers of treasury management services in order to acquire access
to specialist skills and resources, such as investment in Gilts, Certificates of
Deposit and other allowable instruments. The Executive Director for Resources
will continually monitor the attractiveness of these instruments and report to
Cabinet if there is any potential value in utilising external investment managers.
Also, in recent times, a wider range of investment instruments within the area of
sterling deposits has been developed by financial institutions. All of these afford
similar security of capital as the basic sterling deposits currently in use but they
also offer the possibility, although never of course the certainty, of increased
returns. The Executive Director for Resources will, in liaison with the County
Council’s advisers, consider the benefits and drawbacks of these instruments and
whether any of them are appropriate for the County Council. Because of their
relative complexity compared to straightforward term deposits, most of them
would fall within the definition of non-specified investments and a report to and
the approval of members would be required before any were adopted.
9. Investment in Icelandic Banks.
In November 2009 the Landsbanki Is. Winding Up Committee confirmed that
wholesale depositors, including local authority deposits, would be treated as
preferential creditors within the administration process. This decision was
- 13 expected and was the basis of estimates that creditors could expect an eventual
payout of around 83p in the pound. However, the Winding Up Committee of
Glitnir Bank later decided the wholesale depositors were not preferential creditors
in their administration process. At this moment in time there is no direct
connection between the Glitnir and Landsbanki decisions but clearly they are
inconsistent. Both decisions have been appealed in the courts, and if the
Landsbanki decision is overturned, Lancashire could potentially expect a much
lower return from the administration process. The appeals processes are
currently expected to be concluded in the early Summer 2010. Elected members
will be kept informed of developments.
On 5 January the Icelandic President vetoed the Icesave agreement with the
British and Dutch governments, which was intended to compensate the two
governments for the cost of guaranteeing personal savings following the Icelandic
banking crisis. This issue is not directly related to the wholesale depositor claims
which are to be funded from the assets of the failed bank under the winding up
and administration procedures. However, the effect of default on the Icesave
agreement on the overall Icelandic issue cannot at this stage be known. It should
be noted that part of the winding up process of the failed banks is the liquidation
of their remaining assets in order to make cash payments to creditors and
therefore the amount of the payments depends on the value of the assets, and
that these values may be adversely affected by the Icelandic Government default
in relation to Icesave.
At present there is no concrete information which suggests that the Authority
should change the way the impairment has been recorded in the accounts, but
this is constantly under review by the Executive Director for Resources and his
advisors, and elected members will be notified if there are any proposed changes
to the current accounting treatment.
The Government informed Local Authorities in November 2008 that it intends to
make a regulation to require Local Authorities to delay recognising in their
accounts any loss on these investments that eventually may be incurred until the
financial year 2010-11.
10.
Debt Restructuring
The County Council continuously monitors its debt portfolio and market
conditions to evaluate potential savings from debt restructuring. However, recent
changes to the way the PWLB calculates premiums and discounts on early
repayment of debt have made it very unlikely that the County Council will
undertake any further debt restructuring in the foreseeable future.
Consultations
N/A
- 14 -
Advice
Advice received from Sector Treasury Services Ltd (Advisers to the County Council
on Treasury Management issues).
Alternative options to be considered - N/A
Implications: e.g. Financial, Legal, Personnel, Human Rights, Crime and Disorder
or Other
Legal.
We must adhere to the "Prudential Code for Treasury Management in Local
Authorities".
Financial and Risk
The objective of the revised Treasury Management Strategy is to improve
investment returns and reduce borrowing costs while reducing the financial risks to
which the Council is exposed.
Any representations made to the Cabinet prior to the issue being considered
in accordance with the Public Notice of Forward Plans
Name:
Organisation:
Comments:
None
Local Government (Access to Information) Act 1985
List of Background Papers
Paper
Date
Contact/Directorate/Ext
Treasury Management
Budget Papers
2010/11
Andy Ormerod - Resources
Ext 34740
Sector - Recommended
Lending Criteria
2010/11
Andy Ormerod - Resources
Ext 34740
2009
Andy Ormerod - Resources
Ext 34740
CIPFA Treasury
Management Code of
Practice
Reason for inclusion in Part II, if appropriate
N/A