Meeting documents
Cabinet
Wednesday, 9th February, 2005
|
Bath & North East Somerset Council |
||||
|
DECISION MAKER: |
COUNCIL EXECUTIVE |
AGENDA |
13 |
|
|
DECISION DATE: |
9th February 2005 |
|||
|
TITLE: |
TREASURY MANAGEMENT STRATEGY STATEMENT and ANNUAL INVESTMENT STRATEGY 2005/2006 |
Executive FwdPlan Reference |
E713 |
|
|
WARD: |
All |
|||
|
AN OPEN PUBLIC ITEM |
||||
|
List of attachments to this report: Appendix A - Interest Rate Forecast Appendix B - Authorised Lending List |
||||
1 THE ISSUE
1.1 The Local Government Act 2003 requires the Council 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.
1.2 The Act therefore requires the Council to set out its treasury strategy for borrowing and to prepare an Annual Investment Strategy; this sets out the Council's policies for managing its investments and for giving priority to the security and liquidity of those investments.
1.3 The ODPM's investment guidance was issued too late for the Annual Investment Strategy to be included in the Treasury Strategy Statement for 2004/05. However, the guidance stated that in future years, authorities could combine the Treasury Strategy Statement and Annual Investment Strategy into one report. The Annual Investment Strategy is therefore included as paragraph 6.
1.4 The suggested strategy for 2005/06 in respect of the following aspects of the treasury management function is based on the Treasury officers' views on interest rates, supplemented with leading market forecasts provided by the Council's treasury advisor.
The strategy covers:
Treasury limits in force which will limit the treasury risk and activities of the Council;
The current treasury position;
The borrowing requirement;
Prospects for interest rates;
The borrowing strategy;
The investment strategy;
Any extraordinary treasury issues.
2 RECOMMENDATION
2.1 That the Executive:
a) Approve the actions proposed within the Treasury Strategy Statement.
b) Approve the borrowing strategy as detailed in paragraph 5.6.
c) Approve the investment strategy as detailed in paragraph 6.2.
d) Recommend the report to Full Council for adoption of the Prudential Indicators detailed in paragraph 5.2.
3 FINANCIAL IMPLICATIONS
3.1 Included in the report.
4 BACKGROUND
4.1 The Prudential Code was introduced for the first time in 2004/05. Prudential Indicators were set for 2004/05 - 2006/07, which included a new borrowing requirement for 2004/05 of £29.2million. At the end of December 2004 external borrowing was £20million. This is expected to increase by the end of the financial year as additional capital payments are made.
5 TREASURY MANAGEMENT STRATEGY - 2005/2006
5.1 Treasury Limits for 2005/06 to 2007/08
It is a statutory duty under s.3 of the Local Government Act 2003, and supporting regulations, for the Council to determine and keep under review how much it can afford to borrow. This amount is termed the `Affordable Borrowing Limit'.
The Council must have regard to the Prudential Code when setting the Affordable Borrowing Limit. The Code requires an authority to ensure that its total capital investment remains within sustainable limits and, in particular, that the impact upon its future council tax levels is acceptable.
The Affordable Borrowing Limit must include all planned capital investment to be financed by external borrowing and any other forms of liability, such as credit arrangements. The Affordable Borrowing Limit is to be set on a rolling basis for the forthcoming year and two successive financial years.
5.2 Prudential Indicators for 2005/06 - 2007/08
The following prudential indicators are relevant for the purposes of setting an integrated treasury management strategy.
The Council is also required to indicate if it has adopted the CIPFA Code of Practice on Treasury Management. This was adopted in January 2002 by full Council.
|
PRUDENTIAL INDICATOR |
2003/04 Actual |
2004/05 Probable Outturn |
2005/06 |
2006/07 |
2007/08 |
|
Current Financial Plan Data |
£,000's |
£,000's |
£,000's |
£,000's |
£,000's |
|
Estimate of Capital Expenditure |
|||||
|
This is the estimates of capital expenditure for the current and future years as per the Councils' Financial Plan. |
33,069 |
40,000 |
44,610 |
31,268 |
30,587 |
|
Net Increase in council tax (band D per annum) |
|||||
|
The estimate of incremental impact of capital investment decisions proposed in the budget report, related to the added borrowing requirement. Cumulative totals: |
n/a n/a |
£4.05 £4.05 |
£22.42 £26.47 |
£45.63 £72.10 |
£17.44 £89.54 |
|
Capital Financing as % of Net Revenue Stream |
|||||
|
The estimates of financing costs include current commitments and the proposals in the budget report. |
n/a |
2.34% |
3.39% |
4.88% |
5.34% |
|
Capital Financing Requirement (as at 31 March) |
|||||
|
The capital financing requirement measures the authority's underlying need to borrow for a capital purpose. |
38,781 |
54,530 |
86,156 |
100,987 |
108,921 |
|
PRUDENTIAL INDICATOR |
2003/04 Actual |
2004/05 Probable Outturn |
2005/06 |
2006/07 |
2007/08 |
|
Treasury Management Indicators |
£,000's |
£,000's |
£,000's |
£,000's |
£,000's |
|
Authorised limit for external debt |
|||||
|
These limits include current commitments and proposals in the budget report for capital expenditure, plus additional headroom over & above the operational limit for unusual cash movements. |
|||||
|
borrowing |
12,500 |
45,000 |
70,000 |
87,000 |
98,000 |
|
other long term liabilities |
1,000 |
5,000 |
3,000 |
3,000 |
3,000 |
|
Cumulative Total |
13,500 |
50,000 |
73,000 |
90,000 |
101,000 |
|
Operational limit for external debt |
|||||
|
The operational boundary for external debt is based on the same estimates as the authorised limit but without the additional headroom for unusual cash movements. |
|||||
|
borrowing |
11,750 |
35,000 |
60,000 |
77,000 |
88,000 |
|
other long term liabilities |
1,000 |
5,000 |
3,000 |
3,000 |
3,000 |
|
Cumulative Total |
12,750 |
40,000 |
63,000 |
80,000 |
91,000 |
|
Upper limit for fixed interest rate exposure |
|||||
|
This is the maximum % of total borrowing which can be at fixed interest rate. |
n/a |
100% |
100% |
100% |
100% |
|
Upper limit for variable interest rate exposure |
|||||
|
While fixed rate borrowing contributes significantly to reducing uncertainty surrounding interest rate changes, the pursuit of optimum performance levels may justify keeping a degree of flexibility through the use of variable interest rates. |
|||||
|
This is the maximum % of total borrowing which can be at variable interest rates. |
n/a |
60% |
50% |
50% |
50% |
|
Upper limit for total principal sums invested for over 364 days |
|||||
|
Given the Councils' financial position, i.e. of having low cash balances, any lending is likely to be the result of the phasing of cash flow. Investment periods are unlikely to be more than 6 months. |
|||||
|
The maximum % of total investments which can be over 364 days. |
30% |
20% |
20% |
20% |
20% |
|
Maturity Structure of new fixed rate borrowing during 2005/06 |
Upper limit |
Lower limit |
|
Under 12 months |
20% |
NIL |
|
12 months and within 24 months |
25% |
NIL |
|
24 months and within 5 years |
50% |
NIL |
|
5 years and within 10 years |
50% |
NIL |
|
10 years and above |
100% |
30% |
5.3 Current Portfolio Position
The Council's treasury portfolio position at 10 January 2005 comprised:
|
Principal |
Ave. rate |
|
|
£m |
% |
|
|
Fixed rate funding |
PWLB 10 Market 10 |
4.75 3.44 * |
|
Total fixed rate funding |
20 |
4.10 |
|
Variable rate funding |
Nil |
Nil |
|
Other long term liabilities |
Nil |
Nil |
|
TOTAL DEBT |
20 |
|
|
TOTAL INVESTMENTS |
16.35 |
4.82 |
* The market loans are `lenders options' or LOBO's. These are fixed at a relatively low rate of interest for an initial period but then revert to a higher rate of 4.75%. When the initial period is over the loans are then classed as variable, as the lender has the option to change the interest rate, however at this point the borrower has the option to repay the loan without penalty.
5.4 Borrowing Requirement
|
2003/04 Actual |
2004/05 Probable Outturn |
2005/06 Estimate |
2006/07 Estimate |
2007/08 Estimate |
|
|
£'000 |
£'000 |
£'000 |
£'000 |
£'000 |
|
|
New borrowing |
n/a |
29,000 |
34,000 |
17,000 |
6,000 |
|
Alternative financing arrangements |
0 |
2,000 |
0 |
0 |
0 |
|
Replacement borrowing |
0 |
0 |
0 |
0 |
0 |
|
TOTAL - cumulative |
0 |
31,000 |
65,000 |
82,000 |
88,000 |
5.5 Prospects for Interest Rates
The Council appointed Sector Treasury Services as a treasury advisor to the Council and part of their service is to assist the Council to formulate a view on interest rates. Appendix A draws together a number of current City forecasts for short term or variable and longer fixed interest rates. The following table gives the Sector central view as at November 2004:
|
(%) |
Q4 2004 |
Q1 2005 |
Q2 2005 |
Q3 2005 |
Q4 2005 |
Q1 2006 |
Q2 2006 |
Q3 2006 |
Q4 2006 |
|
Base Rate |
4.75% |
5.00% |
5.00% |
4.75% |
4.75% |
4.50% |
4.50% |
4.25% |
4.25% |
|
5yr Gilt Yield |
4.75% |
4.75% |
4.75% |
4.50% |
4.50% |
4.50% |
4.50% |
4.50% |
4.50% |
|
10yr PWLB |
5.00% |
5.00% |
4.75% |
4.75% |
4.75% |
4.75% |
4.75% |
4.75% |
4.75% |
|
25yr PWLB |
4.7% |
4.75% |
4.75% |
4.75% |
4.75% |
4.75% |
4.75% |
4.75% |
4.75% |
Note - The current base rate has not increased in Q1 and remains at 4.75%.
Shorter-term rates - The base rate was expected to rise to 5% in Q1 2005, but it is now looking increasingly unlikely that it will increase in the short term.
Longer-term interest rates - PWLB rates are expected to remain around 4.75%.
5.6 Borrowing Strategy
The anticipation is that there is not likely to be much difference between short-term variable PWLB rates and medium and long-term PWLB fixed rate borrowing during 2005/06 provided base rate remains at 4.75%. Variable rate borrowing could be slightly more expensive than long term fixed borrowing, but is expected to become cheaper in quarter 1 of 2006 when base rate is forecast to fall to 4.5%. Therefore variable rate borrowing is expected to become still cheaper during 2006 and so the gap will widen further between long-term fixed and variable rates.
Long-term rates are not currently expected to move significantly in 2005/06 but may drift to the downside.
These interest rate expectations provide a variety of options
that short term variable rates will be good value compared to long term rates, and are likely to remain so for potentially at least the next couple of years. Best value will therefore be achieved by borrowing short term at variable rates in order to minimise borrowing costs in the short term. (This is the general Sector recommended strategy for 2005/06). If fixed PWLB rates should fall significantly, then a suitable trigger point for considering new fixed rate long term borrowing would be 4.5%.
That the risks intrinsic in the shorter term variable rates are such, when compared to historically relatively low long term fixed funding, which may be achievable in 2005/06, that the Council will maintain a stable, longer term portfolio by drawing longer term fixed rate funding at a marginally higher rate than short term rates.
Against this background a prudent approach is being adopted and an allowance of 4.75% for interest costs on borrowing has been built into the budget proposal for 2005/06.
Sensitivity of the Forecast - The main sensitivities of the forecast are likely to be the two scenarios below. The Council officers, in conjunction with the treasury advisers, will continually monitor on a daily basis, both the prevailing interest rates and the market forecasts, adopting the following responses to a change of sentiment:
If it was felt that there was a significant risk of a sharp rise in long and short term rates, perhaps arising from a greater than expected increase in world economic activity, 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.
If it was felt that there was a significant risk of a sharp fall in long and short term rates, due to e.g. growth rates remaining low or weakening, then long term borrowings will be postponed.
6 ANNUAL INVESTMENT STRATEGY
6.1 Investment Policy
The Council will have regard to the ODPM's Guidance on Local Government Investments issued in March 2004 and CIPFA's Treasury Management in Public Services Code of Practice. The Council's investment priorities are:-
a) the security of capital and
b) the liquidity of its investments.
The Council will also aim to achieve the optimum return on its investments commensurate with proper levels of security and liquidity.
The borrowing of monies purely to invest or on-lend and make a return is unlawful and this Council will not engage in such activity.
Investment instruments identified for use in the financial year are listed below under the `Specified' and `Non-Specified' Investments categories. Counterparty limits will be as set through the Council's Treasury Management Practices - Schedules.
Specified Investments
(All such investments will be sterling denominated, with maturities up to maximum of 1 year, meeting the minimum `high' rating criteria where applicable)
|
Minimum `High' Credit Criteria |
|
|
Debt Management Agency Deposit Facility |
-- |
|
Term deposits - UK government |
-- |
|
Term deposits - other local authorities |
-- |
|
Term deposits - banks & building societies |
Short-term F1, Long-term AA-, Individual B, Support 3 |
|
Money Market Funds |
AAA |
Non-Specified Investments
A maximum of 25% will be held in aggregate in non-specified investments
|
Minimum Credit Criteria |
Max % of total investments |
Max maturity period |
|
|
Term deposits - UK government (with maturities in excess of 1 year) |
-- |
||
|
Term deposits - other local authorities (with maturities in excess of 1 year) |
-- |
||
|
Term deposits - banks & building societies (with maturities in excess of 1 year) |
Short-term F1 , Long-term AA , Individual B, Support 2 |
This authority determines which institutions to invest with, according to the credit ratings afforded them by the following credit rating agencies:
Fitch
Standards & Poor's
Moody's Investors Service
Credit ratings are continually monitored throughout the financial year, with a full review being effected annually.
6.2 Investment Strategy
This authority maintains mainly temporary, short term investments and investments will be made accordingly, with reference to the core balance and cash flow requirements.
New long-term investments are not being envisaged (although this will be kept under constant review). A minimum of 60% of the authority's overall investments, will however be held in short term investments should any long-term investment be undertaken.
7 RATIONALE
7.1 This is statutory requirement.
8 OTHER OPTIONS CONSIDERED
8.1 Not applicable.
9 CONSULTATION
9.1 None.
|
Contact person |
Irene Draper (01225) 477325 |
|
Background papers |
None |
INTEREST RATE FORECASTS
The data below shows a variety of forecasts published by a number of institutions. The first three are individual forecasts including those of UBS and Capital Economics (an independent forecasting consultancy). The final one represents summarised figures drawn from the population of all major City banks and academic institutions.
The forecast within this strategy statement has been drawn from these diverse sources and officers' own views.
1. INDIVIDUAL FORECASTS
Sector View interest rate forecast - November 2004
|
Qtr 4 2004 |
Qtr 1 2005 |
Qtr 2 2005 |
Qtr 3 2005 |
Qtr 4 2005 |
Qtr 1 2006 |
Qtr 2 2006 |
Qtr 3 2006 |
Qtr 4 2006 |
|
|
Base Rate |
4.75% |
5.00% |
5.00% |
4.75% |
4.75% |
4.50% |
4.50% |
4.25% |
4.25% |
|
5yr Gilt Yield |
4.75% |
4.75% |
4.75% |
4.50% |
4.50% |
4.50% |
4.50% |
4.50% |
4.50% |
|
10yr Gilt Yield |
5.00% |
5.00% |
4.75% |
4.75% |
4.75% |
4.75% |
4.75% |
4.75% |
4.75% |
|
25yr Gilt Yield |
4.75% |
4.75% |
4.75% |
4.75% |
4.75% |
4.75% |
4.75% |
4.75% |
4.75% |
UBS Economic interest rate forecast - November 2004
|
Qtr 4 2004 |
Qtr 1 2005 |
Qtr 2 2005 |
Qtr 3 2005 |
Qtr 4 2005 |
|
|
Base Rate |
4.75% |
5.00% |
5.00% |
5.00% |
5.00% |
|
10yr PWLB rate |
5.15% |
5.05% |
5.05% |
5.05% |
5.05% |
|
25yr PWLB rate |
4.75% |
4.8% |
4.85% |
4.85% |
4.85% |
Capital Economics interest rate forecast - November 2004-11-25
|
Qtr 4 2004 |
Qtr 1 2005 |
Qtr 2 2005 |
Qtr 3 2005 |
Qtr 4 2005 |
Qtr 1 2006 |
|
|
Base Rate |
4.75% |
5.00% |
5.00% |
4.75% |
4.50% |
4.25% |
|
5yr Gilt Yield |
5.00% |
4.90% |
4.80% |
4.60% |
4.50% |
4.40% |
|
10yr PWLB rate |
5.15% |
5.15% |
5.05% |
4.85% |
4.75% |
4.65% |
|
30yr PWLB rate |
4.85% |
4.85% |
4.85% |
4.75% |
4.75% |
4.65% |
2. SURVEY OF ECONOMIC FORECASTS
HM Treasury - 21.10.04 summary of forecasts of 28 City and 14 academic analysts for Q4 2004 and2005. (2006-2008 are as at August 2004 but are based on 11 forecasts)
|
Independent forecasters |
Quarter ended |
Annual average repro rate |
|||
|
Qtr 4 2004 |
Qtr 4 2005 |
Ave. 2006 |
Ave. 2007 |
Ave. 2008 |
|
|
BoE Base Rate |
4.89% |
4.94% |
5.08% |
4.88% |
4.64% |
|
Highest base rate |
5.13% |
5.75% |
6.00% |
6.00% |
5.70% |
|
Lowest base rate |
4.75% |
4.25% |
4.50% |
4.05% |
3.83% |
Appendix A INTEREST RATE FORECASTS
The data below shows a variety of forecasts published by a number of institutions. The first three are individual forecasts including those of UBS and Capital Economics (an independent forecasting consultancy). The final two represent summarised figures drawn from the population of all major City banks and academic institutions. The forecast within this strategy statement has been drawn from these diverse sources and officers' own views.
1. INDIVIDUAL FORECASTS
Sector View interest rate forecast - December 2003
|
(%) |
Q4 2003 |
Q1 2004 |
Q2 2004 |
Q3 2004 |
Q4 2004 |
Q1 2005 |
Q2 2005 |
Q3 2005 |
Q4 2005 |
|
Base Rate |
3.75% |
4.00% |
4.00% |
4.25% |
4.25% |
4.50% |
4.50% |
4.50% |
4.50% |
|
5yr Gilt Yield |
4.75% |
4.75% |
4.75% |
4.75% |
4.75% |
4.75% |
4.75% |
4.75% |
4.75% |
|
10yr PWLB |
5.00% |
5.00% |
5.00% |
5.00% |
5.00% |
5.00% |
5.00% |
5.00% |
5.00% |
|
25yr PWLB |
5.00% |
4.75% |
5.00% |
5.00% |
5.00% |
5.00% |
5.00% |
5.00% |
5.00% |
UBS Economic interest rate forecast - December 2003
|
(%) |
Q4 2003 |
Q1 2004 |
Q2 2004 |
Q3 2004 |
Q4 2004 |
Q1 2005 |
Q2 2005 |
Q3 2005 |
Q4 2005 |
|
Base Rate |
3.75% |
4.00% |
4.00% |
4.25% |
4.50% |
4.50% |
4.50% |
4.50% |
4.50% |
|
10yr PWLB |
5.15% |
5.15% |
5.15% |
5.25% |
5.25% |
5.40% |
5.40% |
5.40% |
5.40% |
|
25yr PWLB |
5.20% |
5.25% |
5.35% |
5.45% |
5.45% |
5.65% |
5.65% |
5.65% |
5.65% |
Capital Economics interest rate forecast - December 2003
|
(%) |
Q4 2003 |
Q1 2004 |
Q2 2004 |
Q3 2004 |
Q4 2004 |
Q1 2005 |
Q2 2005 |
Q3 2005 |
Q4 2005 |
|
Base Rate |
3.75% |
4.00% |
4.25% |
4.25% |
4.25% |
4.25% |
4.25% |
4.25% |
4.25% |
|
5yr Gilt Yield |
4.90% |
5.10% |
5.00% |
4.80% |
4.50% |
4.40% |
4.40% |
4.50% |
4.50% |
|
10yr PWLB |
5.25% |
5.35% |
5.25% |
5.15% |
4.85% |
4.75% |
4.75% |
4.85% |
4.85% |
|
25yr PWLB |
5.05% |
5.05% |
5.05% |
5.05% |
4.95% |
4.85% |
4.95% |
4.95% |
4.95% |
2. SURVEYS OF ECONOMIC FORECASTS
HM Treasury - summary of 35 independent forecasters views of base rate - as at November 2003
(2004 - 2007 are as at Aug 2003 but are based on 11 forecasts)
|
(%) |
2003 Year End |
2004 Year End |
2005 Average |
2006 Average |
2007 Average |
|
Average |
3.67% |
4.27% |
4.78% |
5.05% |
4.93% |
|
Highest |
3.90% |
5.00% |
5.72% |
5.60% |
5.60% |
|
Lowest |
3.48% |
3.14% |
4.00% |
3.81% |
3.84% |
Consensus Forecasts - summary view of 25 city houses on the likely change in short term and 10 year fixed rates (November 2003)
|
(%) |
Nov - 03 |
Feb - 04 |
Nov - 04 |
|
|
3 month interbank - |
Average |
3.88% |
3.70% |
4.10% |
|
- |
High |
3.88% |
4.00% |
4.70% |
|
- |
Low |
3.88% |
3.50% |
3.30% |
|
10yr PWLB Rate - |
Average |
5.20% |
4.85% |
4.95% |
|
- |
High |
5.20% |
5.15% |
5.55% |
|
- |
Low |
5.20% |
4.45% |
4.25% |