Investing Strategic Cash

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1 GTNEWS GUIDE TO Investing Strategic Cash Strategies for Managing Short-Term Cash Series Underwritten by

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3 GTNEWS GUIDE TO Investing Strategic Cash Strategies for Managing Short-Term Cash Series State Street Global Advisors Welcome to Our Guide to Investing Strategic Cash This is the second in a two-part series written for treasury practitioners who are responsible for investing cash. In the first guide we covered the investment of operating cash used for working capital. In this guide, we ll turn our focus to the investment of strategic short-term cash which is in excess of your daily operating liquidity needs. To help you invest these balance sheet assets wisely, we ll examine the importance of having an effective cash forecasting system, the role of strategic cash for multinational corporations, risks to consider when investing strategic cash and practical guidelines for making investment decisions. For treasury professionals today, there are few simple answers for how to invest cash. While market conditions can vary by region, general challenges facing cash and fixed income investors may include low yields, increasing price volatility and shrinking supply among some issuers and counterparties and the uncertainty caused by regulatory reform surrounding money market vehicles. Continued on next page Investing Strategic Short-term Cash 1 Objectives When Investing Strategic Short-term Cash 2 Identifying Risk When Investing 4 Making Appropriate Investment Decisions 9 Selecting Investment Instruments 10 Conclusion 13

4 Against this backdrop, some investors may feel hesitant about investing excess cash, while others may inadvertently take on unintended risks that arise when moving beyond overnight investments. At State Street Global Advisors, we encourage treasury professionals to identify their goals and risk parameters clearly before making longer-term investment decisions. To help treasurers manage risk and plan for liquidity needs, we believe it s useful to segment cash into three distinct categories: Operating cash Strategic short-term cash Longer-term cash Regardless of your time horizon, investing cash prudently in today s market environment requires knowledge, precision and skill. Whether you manage cash in-house or choose to outsource part or all of your cash management functions, we hope you ll find this guide a useful resource for making decisions about how to invest your strategic cash. Sincerely, Barry F.X. Smith Senior Managing Director Global Head of Cash Management Investing involves risk including the risk of loss of principal. The information provided does not constitute investment advice and it should not be relied on as such. It should not be considered a solicitation to buy or an offer to sell a security. It does not take into account any investor s particular investment objectives, strategies, tax status or investment horizon. You should consult your tax and financial advisor. All material has been obtained from sources believed to be reliable. There is no representation or warranty as to the accuracy of the information and State Street shall have no liability for decisions based on such information. The whole or any part of this introductory letter may not be reproduced, copied or transmitted or any of its contents disclosed to third parties without SSgA s express written consent. Although bonds generally present less short-term risk and volatility risk than stocks, bonds contain interest rate risks; the risk of issuer default; issuer credit risk; liquidity risk; and inflation risk. This effect is usually pronounced for longer-term securities. Any fixed income security sold or redeemed prior to maturity may be subject to a substantial gain or loss. The views expressed in this introductory letter are the views of Barry F.X. Smith through the period ended 09/30/14 and are subject to change based on market and other conditions. This document contains certain statements that may be deemed forward-looking statements. Please note that any such statements are not guarantees of any future performance and actual results or developments may differ materially from those projected. State Street Global Advisors is not affiliated with gtnews. GCB-0522 Expiration date: 10/31/ gtnews. All rights reserved. gtnews is a registered trademark of the Association for Financial Professionals iv

5 Investing Strategic Short-term Cash The first priority of any treasury practitioner is to ensure that sufficient cash is available to meet operating requirements. Many companies will rely on cash position forecasts, together with other pertinent information, when planning the most efficient use of group funds to finance working capital and to identify when external borrowing might be required. To minimize the potential impact of contractions in liquidity, some companies may also arrange external funding streams to ensure that working capital is always available. From an investment perspective, this process can also be used to identify when and for how long a company is likely to have significant amounts of excess cash. The level of detail in any forecasting process will vary according to the company s general cash position. A cash-rich company may rely more on general business forecasts to anticipate future cash balances, whereas a cash-poor company is likely to devote the time and resources into achieving a more precise forecast. The next step is to stratify, or bucket, any excess cash. Broadly speaking, cash can be used for three primary purposes: 1. To support daily operations. The most important cash category is operating cash. This is cash that is recycled back through the business to fund daily activities in the form of payments to suppliers, employees, and governments (tax payments), and through loan and lease payments. Operating cash is vital; without it a company would be unable to trade. 2. To fund strategic, short-term activities and to provide a backstop for operating cash. Once sufficient operating cash has been identified, a second level of cash can be stratified for investment. This cash needs to be available to fund strategic, short-term activities, such as making an opportunistic acquisition, or is injected as operating cash in case the company experiences worse than expected trading conditions. So, for some companies, this means cash needs to be accessible within a three-month timeframe the average time period of an opportunistic acquisition. 3. To provide longer-term funding. This cash is longer term and permanent in nature, so the board will need to decide whether to use it to fund new business or return the funds to shareholders. Please note that not all companies will have all three buckets. To characterize cash in this manner, the treasury practitioner needs to be confident in the available information. Unless the treasury practitioner is assured that the company has access to sufficient operating cash, any assumption of additional risk when investing could result in significant ramifications regarding the company s ability to meet its obligations. The Benefits of Good Information Having an effective cash position forecasting system enables treasury practitioners to invest cash for longer periods. If the forecasts provide an accurate picture over a period of three to six months, then the treasury practitioner can be more strategic in both borrowing and investing. When borrowing, the treasury practitioner is able to consider a wider range of potential funding sources and take advantage of opportunities as they arise. When investing, the treasury practitioner is able to ensure that cash is invested much more efficiently using a wider pool of investment instruments and for longer periods, subject to the company s liquidity needs. If forecasts show a steady or growing cash surplus that is not required for operating purposes, then the treasury practitioner can start allocating it as either operating cash or non-operating cash. This process of stratification allows the practitioner to set different objectives for surplus cash based on the company s principal and liquidity needs. To do this effectively, the treasury practitioner needs access to good quality information. This will require two things: First, central treasury will need access to good quality information from entities participating in any centralized structure, as well as external partners such as banks. If a liquidity management structure is in place, information will flow alongside any movement of cash. Second, the treasury will need to employ technology to capture data, which is then used to populate a sufficiently robust cash position forecasting system. This will need to take place at every level within the organization that has responsibility for managing cash. For example, a highly centralized company may only need a single cash position forecast. However, a decentralized group, managed at the country or regional level, will need to calculate positions at each management level. Notably, decisions may be taken at the local level for regulatory reasons. For example, exchange controls can prevent the centralization of cash balances from some locations, but treasury can still impose a degree of control by requiring local entities to follow the group short-term investment policy. The company s overall cash position (whether cash-rich or cash-poor) will then define the amount of detail the treasury practitioner will require in any management reports and in future position forecasts. Companies subject to tight loan covenants, for example, are much more likely to invest in detailed cash analysis and forecasting than those that are highly cash generative. While both strive for accuracy and efficiency, a net borrower will derive the greater benefit from a more accurate forecast. Historically, treasury practitioners have tried to minimize the amount of simultaneous borrowing and investing performed by their companies. Increasingly sophisticated liquidity management structures have been designed gtnews. All rights reserved. gtnews is a registered trademark of the Association for Financial Professionals 1

6 to concentrate cash to group headquarters or in-house banks, with one entity s surplus used to finance another group entity s borrowing requirement. However, the market uncertainty of the last few years has resulted in some treasury practitioners deciding to fund more opportunistically, recognizing the fact that this action reduces their company s exposure to volatility in the funding markets. The result is that it is increasingly likely that even generally cash-poor companies will have significant cash balances that need to be invested at particular times in the business life cycle. In other words, both cash-rich and cash-poor companies could have significant cash balances to invest at any one time. It is vital that treasury practitioners fully understand the future use of such balances, so that excess cash generated by the business is considered strategic short-term cash. Objectives When Investing Strategic Short-term Cash For treasury practitioners to be able to take different approaches to cash investment, they need to have both a sufficient volume of cash and the ability to stratify their cash needs. Otherwise, they have no choice but to treat all cash as operating cash when investing. If it is possible to identify strategic short-term cash, the practitioner should set appropriate objectives, approved at the board level, prior to investment. Similar to operating cash, the fundamental requirement of investing strategic short-term cash is to ensure that risks to principal and liquidity reflect the nature of the cash invested. Setting Objectives for Strategic Short-term Cash There are three main objectives for any investor: 1. Security of Principal. Protection of the invested principal amount. 2. Liquidity. Ensuring access to some or all the invested amount whenever necessary. 3. Yield. Generating sufficient return on investment. These three objectives are fundamental to any cash investment strategy. The treasury practitioner needs to be cognizant that risk to principal and liquidity adequately reflects the nature of the cash being invested. When investing operating cash, the treasury practitioner should always be prepared to sacrifice yield to safeguard the first two objectives; however, when investing strategic shortterm cash, the treasury practitioner may seek to generate a higher yield on an investment. A greater focus on yield implies some sacrifice of either security of principal or access to funds (or both) and, therefore, a greater exposure to risk. A company s approach to strategic short-term cash investments is typically determined by its fundamental tolerance of risk. If a group has a policy of stratifying cash, then the short-term investment policy must set clear objectives for each investment bucket. As noted, these objectives should be discussed at the board level, giving the treasury practitioner the authority to follow different approaches for each bucket of cash. Companies need to understand their risk appetite before investing their strategic cash. If they do, certain investment results might be disappointing, but not surprising. Barry F.X. Smith, State Street Global Advisors Greater detail about the factors a treasury practitioner should consider when setting investment objectives is laid out below. SECURITY Strategic short-term cash is not required by the business for immediate operational purposes. The primary distinction between operating cash and strategic cash is determined by the accuracy of companies cash position forecasts and their approach to disbursements. A company with an accurate forecast and structured, outgoing payments on a two-week or monthly cycle will have a longer-term view, while a company with daily cash disbursements and a less accurate forecast will have a condensed view. Although the company may have a more flexible use for any surplus strategic cash, the treasury practitioner should be cognizant of protecting the principal investment. Clearly, although the consequences are not immediate, a loss of principal would reduce the amount of cash available to support future projects and would represent a balance sheet loss. In multinational companies, the treasury practitioner also needs to establish whether any cash outside regional or global pooling structures is considered strategic cash. The company then has to choose whether to invest in its current location or repatriate that cash so that it can be controlled from the group treasury center. The decision to repatriate may affect the principal amount as the cash could be subject to tax or exchange controls. This applies to companies headquartered in the USA, many of which choose to invest surplus cash offshore to avoid applicable federal taxes. LIQUIDITY When investing strategic short-term cash, the practitioner should be mindful of the company s access to any gtnews. All rights reserved. gtnews is a registered trademark of the Association for Financial Professionals 2

7 invested funds. Unlike operating cash, there is no need to require access to funds in the very short term. However, the funds will need to be accessible within a period, often three to six months, in order to ensure their availability to support strategic acquisitions or to serve as a backstop source of operating cash. There are essentially two strategies to achieve this level of liquidity, although they can be used together when appropriate. The practitioner s decision will depend on the company s needs and specific timeframe. The first strategy is to invest in instruments with a maximum maturity that reflects the timeframe within which strategic short-term cash must be accessible. If this approach is followed, the practitioner should ensure that maturity dates are staggered to reduce reinvestment risk. This approach is sometimes referred to as a buy and hold to maturity strategy and means that all investments will mature within the required timeframe. The second strategy is to have a policy which allows investments to be redeemed over a three to six-month period either directly, if investment is managed in-house, or after notice is given, if investment is outsourced to a specialist asset manager. Note that if this approach is taken, the investment manager may have to sell held investment instruments in the secondary market. At certain times, it may be difficult to redeem these instruments, even with sufficient notice, without some loss of principal. This approach requires more active management of the portfolio than a buy and hold strategy. The treasury practitioner must also understand the implications of any exchange controls. These can make repatriating cash difficult, even with a significant notice period. At the very least, the need to comply with documentation requirements can add time and cost to the process of repatriation. In extreme cases, it can be impossible to repatriate cash without an underlying transaction. YIELD When investing operating cash, the first two factors are paramount. However, in the case of strategic short-term cash, a company may primarily be looking to achieve a better return on their investments. To achieve this, the treasury practitioner will need to relax the objectives of either preserving principal or maintaining liquidity, or both. In other words, the treasury practitioner may need to be prepared to invest strategic cash with lesser quality counterparties or to invest in instruments with longer maturities than are appropriate for operating cash. Because either alternative exposes the company to additional risk, it is important that the general approach, at the very least, is approved at board level. Note that as confidence returns to economies around the world, interest rates are expected to start to rise. There is likely to be a divergence of monetary policies, including interest rates, as separate economies grow at different rates. For example, interest rates may start to rise in the USA and the UK earlier than in the eurozone and Japan. Under these circumstances, treasury practitioners will find themselves under increasing pressure to achieve additional returns when investing strategic short-term cash gtnews. All rights reserved. gtnews is a registered trademark of the Association for Financial Professionals 3

8 Identifying Risk When Investing Having identified the objectives for strategic short-term cash investment, the treasury practitioner s next task is to identify the risks which might prevent the company from achieving those objectives. Some companies may decide to treat strategic short-term cash in the same way as operating cash by adopting a conservative approach to investment. This is likely if the volume of cash outside the operating cash bucket is not significant enough to justify a segmented approach to short-term cash investment. However, as long as there is sufficient cash in the strategic cash bucket, the treasury practitioner will want at least to explore alternative investment approaches, including identification of risk, and present them to the board for discussion and approval. The focus is to try to understand how additional risk may arise when the company compromises on objectives of either security or liquidity. The challenge is then to ensure that any additional risk is fairly rewarded by potential increases in returns. For any investment, the associated risks increase with time. As an investment period is extended, there is an increased chance that the market environment will change, affecting the value of the invested principal. As long as the cash is not needed in the immediate short term, the treasury practitioner can take additional risks in investments. Sources of Investment Risk Given this general point, risks to strategic cash arise in four primary ways: credit risk; market risk primarily in the form of foreign exchange, interest rate and spread duration risk; liquidity risk; and operational risk, which arises out of managing investments and their redemptions. The principles apply equally when investing strategic short-term cash or operating cash, and are explored in detail in the first guide in this series. Below, we consider how investors can assume additional risk when investing strategic short-term cash. CREDIT RISK Understanding credit risk Credit risk (which includes both issuer risk and counterparty risk) refers to the risk assumed by an investor that a counterparty to the contract will not be able or willing to fulfill its contractual obligations. Issuer, or default, risk is the risk that the issuer or borrower defaults and does not make full repayment. Counterparty risk is the risk that a party, other than the borrower, fails to fulfill its obligations. Credit risk could equate to a loss of principal, being denied access to funds (a loss of liquidity), or being denied the promised level of return. Note that market conditions may also intervene such that an investor may find it difficult to sell securities issued by a particular counterparty in the secondary market. Generally, investors can seek a better return on strategic short-term cash by either investing in instruments issued by the same issuers as for operating cash, but for longer, or by expanding the list of approved counterparties to lesser quality issuers. Both strategies expose the investor to greater risk. If either strategy is followed, the treasury practitioner must ensure that it is within the bounds of the company s risk appetite (for strategic cash) and that the ratio between risk and return is similarly acceptable. Assessing credit risk As with operating cash, the first step in managing credit risk is to assess the company s actual and potential exposure to each counterparty. This can be a complex task for some companies, especially where group entities are responsible for investing surplus cash. As discussed in the first guide, the treasury practitioner should, at a minimum, have visibility over all group bank accounts, even those operated locally. The next step is a risk assessment of counterparty failure. Although there is a wide range of information available, the additional time horizons involved in strategic cash investment makes this a complex task. Although the longer horizon associated with strategic cash allows investors to plan investment more gradually than operating cash (stratified strategic cash can be invested as operating cash until an appropriate vehicle is found), it also expands the potential range of alternative instruments suitable for investment and, therefore, which need to be assessed. This needs to be done within the constraints of limited in-house capability and capacity. That said, there are certain steps most treasury practitioners can and should take to assess the relative strength of different counterparties. These are described in detail in the first guide in this series, with the additional detail relevant to strategic cash outlined below. 1. Access credit information. Problems caused by rapid or late downgrades from investment grade to junk have caused treasury practitioners to question the utility of published credit ratings for operating cash investment. The extended time horizons used for investing strategic cash (compared to operating cash) provide an additional level of concern over their relevance. However, as with operating cash, credit ratings represent a good initial indication of the relative strength of an institution. As discussed in the first guide, credit ratings are still used in investment policies in such a way that cash may only be placed with counterparties holding a particular credit rating. A policy may set different limits according to credit rating, so that company may invest EUR 50 million with an A-rated institution but only EUR 25 million with a BBB-rated one. This also allows for different levels of exposure for each cash bucket. For example, the counterparty limit for BBB-rated institutions may be USD 25 million for operating cash but have an overall limit of USD 50 million for all cash. Over longer time horizons, gtnews. All rights reserved. gtnews is a registered trademark of the Association for Financial Professionals 4

9 the other data available from credit rating agencies becomes more important. Sovereign ratings, in particular, can provide additional information about the environment in which an entity operates, allowing the investor to form an assessment of the longer term pressures on the counterparty. 2. Other sources of information. Although credit ratings provide a good first indication, there are many other sources of information which can be used to support the assessment of potential counterparties. These tools include a range of publicly available information such as (for publicly listed companies) share prices, credit default swap spreads, and more general news information including official stock exchange announcements and annual reports. As with sovereign ratings, these sources provide the investor with a longer-term view of the environment in which the counterparty is operating. The problem that arises for treasury practitioners lies in not knowing how to find and evaluate relevant information for all potential counterparties. In reality, effective in-house assessment is likely to be beyond the abilities of all but the largest corporate treasury departments, simply due to the sheer volume of potential counterparties. One solution to this is to use data developed by third-party providers. The treasury practitioner then has to assess the competencies and approach the provider took in its assessment before relying on the information provided. 3. Outsourcing credit risk analysis. There are market providers that specialize in the analysis of potential counterparties, making it possible to outsource credit risk analysis either as a discrete transaction or as part of a wider outsourcing of investment management. In the case of the former, the treasury practitioner s task is to evaluate the quality of the vendor s output and its relevance to the company s investment requirements. For example, a vendor appropriate for evaluating counterparties suitable for operating cash investments may not be the right fit for evaluating counterparties suitable for strategic cash investments, e.g., their analysis may focus on shorter term investments. Outsourcing credit risk analysis to a specialist asset manager includes operational tasks, such as custody and reporting, so the treasury practitioner will want to select an asset manager with a philosophy and approach to risk reflecting that of his or her own company. A company could also outsource investment management to an asset manager via a mandate or a separately managed account. In this scenario, the company agrees to an investment policy with the asset manager, who would then be responsible for its implementation. Depending on the agreement, the mandate can transfer much of the operational investment activity, including some credit risk analysis, to the asset manager. The challenge for the treasury practitioner is to ensure that the company s risk appetite is clearly communicated to the investment manager, that the manager s philosophy matches the company s objectives, and that the manager is capable of managing counterparty risks. Diversification as a protection against credit risk Credit risk analysis is subject to many variables; therefore any investment strategy should also include diversification of counterparties as an added layer of protection. Diversification of counterparties can take place over single credits, groups of credits, industries, and geographic locations. That said, it can be difficult to find 35 different issuers all with a credit rating of A+ and above, all of which have issued appropriate instruments. As with operating cash investments, treasury practitioners should always track their exposure to particular counterparties. Best practice dictates that the company s investment policy provides both individual counterparty limits for strategic cash and an aggregated counterparty limit for all short-term investment instruments. MARKET RISK Market performance also has the potential to have a significant impact on the treasury practitioner s objectives when investing strategic short-term cash. Three factors a change in interest rates, a change in exchange rates, and a change in credit spreads have the most potential effect in this context. Interest rate risk As with counterparty risk, the risk posed by a change in interest rates increases with the length of the investment term. A combination of historically low interest rates and concerns over counterparty creditworthiness has led treasury practitioners to focus on security and liquidity at the expense of yield when investing all forms of cash. However, with interest rates now expected to rise in the foreseeable future, treasury practitioners are becoming more concerned with interest rate risk, especially when investing non-operating cash. Longer-term investors have been shortening the duration of their portfolios in anticipation of rising future interest rates. The result is a concentration of investors in the shortterm market: cash-generative companies have more strategic short-term cash to invest and longer-term (fixed income) investors are looking to shorten their durations. The strategic short-term cash investors typically retain the underlying conservative approach to risk, categorized by operating cash investment policies, whereas fixed income investors are generally more focused on achieving an improved yield. The choice of investment instrument affects the degree to which a company is exposed to changes in interest rates. An instrument issued at a discount has a fixed interest rate, assuming the instrument is held to maturity. Its value will change until maturity, which becomes a factor if the investor decides to sell in the secondary market. Some longer-term instruments, such as floating rate notes, may gtnews. All rights reserved. gtnews is a registered trademark of the Association for Financial Professionals 5

10 be reset at the beginning of each coupon period, reducing their sensitivity to interest rate fluctuations. Foreign exchange risk The impact of a sudden change in a foreign exchange rate can have a significant impact on principal. Treasury practitioners need to consider the most appropriate currency (or currencies) in which to hold strategic shortterm cash investments. There are three broad choices: 1. The company may require all strategic cash (or cash to be invested as non-operating cash) to be repatriated to group headquarters for investment in the group s functional currency. 2. The company may permit strategic cash investments in the currency in which the cash is generated. 3. The company may decide to transact cash into another international currency for investment purposes. The ultimate decision is driven by a number of factors including the range of investment instruments available in the first two categories. In addition, some companies may choose to hold cash in the currency of the country in which they expect to make their next acquisition. Because some local markets may not provide the range of alternative counterparties or instruments to satisfy the demands of diversification as indicated above, it is possible to transact some of the cash into another currency to allow for more diversification. However, there are two major disadvantages to this: the company will lose some principal on both legs of the foreign exchange transaction, and it will be exposed to foreign exchange risk. As a result, this solution is unlikely to be worthwhile for all but the largest sums. (Some banks, notably in the Nordic region, do offer cross-border, cross-currency pooling solutions.) Note that any decision to invest strategic cash in a currency other than the company s reporting currency will involve an exposure to translation risk. This is the risk that a change in the exchange rate will result in a change in the reporting currency value of the investment. This may need to be monitored if, for example, the company is required to comply with tight loan covenants. LIQUIDITY RISK In the context of strategic short-term cash, the primary liquidity risk arises from an inaccurate stratification of cash often due to an unexpected or unplanned need. In this context, cash categorized as strategic short-term may actually be required for operating reasons, but be inaccessible because of the conditions of the selected investment instrument. For this reason, it is important that the treasury practitioner consider the results of any cash stratification carefully and assess the accuracy of any forecasts. In addition, the treasury practitioner should follow the same general principles when investing strategic cash as those used when investing operating cash. There should be some laddering of instrument maturities within the strategic cash portfolio so that reinvestment (or roll) risk is reduced. Note that the use of funds, including money market funds, does offer some protection against liquidity risk, as all funds have to have a degree of natural liquidity to help them manage redemptions. The question when managing strategic cash is whether the treasury practitioner wants effectively to pay for a benefit which is more relevant when managing operating cash. OPERATIONAL RISK The final risk to manage is operational risk that which results from a breakdown in internal procedures, people or systems (i.e., technology). Error and fraud should be protected against by designing investment procedures to include professional scrutiny. This may include segregation of duties, authority limits set according to each individual s competencies, and an audit process that includes spot checks. The use of technology should be managed carefully. Automated processes should be subject to audits. Forecast and actual data should be reviewed regularly to ensure data is flowing effectively both within the organization and via external data feeds. Any system that manages segregation of duties or authority limits should similarly be subject to regular checks, especially after any change in personnel. Spread duration risk Spread duration risk is the is impact on an asset value or price due to a change in credit spreads to a risk-free security or interest rate benchmark over the expected life of the investment. The greater the proportion of cash invested in longer-term instruments, the more exposed the company. This is most likely to cause an actual loss if the investor has to redeem some or all of the company s invested strategic cash within a specific period of time, especially in an illiquid or distressed market. Such losses can be avoided by requiring investments to be held in instruments with a maturity that is less than any notice period, such that any need for redemption will be met from maturing investments rather than from sale in the secondary market. Drafting an Investment Policy In order to achieve the objectives outlined above, companies should enact a broad, short-term investment policy that covers the stratification of cash and includes investment policies for each bucket of cash. Some companies choose to incorporate short-term investment in a wider investment policy, covering all parts of investment from operating cash through to pension fund investments. However the investment policy is structured, the elements relating to strategic short-term cash should reflect the company s appetite for risk in its investments. This will either allow the treasury practitioner to structure a portfolio within those parameters, or to form the basis of an outsourced investment management agreement for use by a third-party asset manager gtnews. All rights reserved. gtnews is a registered trademark of the Association for Financial Professionals 6

11 When managing strategic cash, the investment objectives need to be clearly communicated. Unlike operating cash, where the appropriate objectives are clear (the maintenance of principal and the assurance of sufficient liquidity), there are different ways of approaching investment objectives for non-operating cash. The part of the investment policy relating to strategic cash must also be clear with respect to the entities to which it applies it may apply to all group entities or just those managed from the corporate center. It depends on the size of the cash balances each group entity maintains. If an entity participates in a group-wide liquidity management structure, it is unlikely ever to have strategic cash available to invest, even if the company operates a threshold balancing solution. Any cash retained by the group entities will only be appropriate for operating cash. However, if cash-generative group entities are outside of a group liquidity management structure (or such a structure does not exist), then it may be appropriate to permit group entities to stratify cash. In these circumstances, it is possible for them to have strategic cash. However, before group entities are permitted to invest anything other than operating cash, the central treasury practitioner must be confident in the quality of the forecasting and reporting on which any operating cash requirements are calculated. Note, too, that the investment policy may have rules about the currency (or currencies) in which cash is stratified. Having established the scope of the policy relating to strategic cash, the next step is to put in place a series of parameters, each designed to help the company achieve its investment objectives. PRESERVING PRINCIPAL The investment policy should be designed to limit exposure to a single counterparty and to ensure the selection of appropriate investment instruments. This will not eliminate a risk of loss of principal, but it should act to minimize its impact. The following features should all be incorporated into the investment policy. Counterparty limits The policy should define the concept of an approved counterparty and state if the company permits the use of additional counterparties (over those approved for operating cash) for strategic short-term cash. If the company decides to retain the same counterparty list for all cash investments, practitioners may follow the approach for approving counterparties outlined in the first guide. If the company chooses to approve additional counterparties for strategic short-term cash, then there should be a specific process for doing so. As with operating cash, the company can elect either to maintain an approved counterparty list or to have set criteria for approval of counterparties. Because of the shorter investment timeframe for strategic cash (compared to operating cash), the treasury practitioner will want to implement a stringent review process to ensure the list remains relevant. As with operating cash, the policy should then set clear counterparty limits. These can be broken down into sub-categories, setting limits by country or by counterparty type (e.g., bank, non-bank financial institution, other). The policy may also set participation limits, such that the company may not hold more than a specified portion of a particular instrument or fund. The treasury practitioner will also want to specify whether limits for operating cash and strategic cash apply separately or if there is an aggregate limit in place as well. Whatever is decided, there should be a clear approach in case any limits are breached. Because of the longer timeframe, any variance in counterparty limits categorized by credit rating has the potential to cause difficulties in the event of a downgrade. Where it may be appropriate to hold operating cash investments with downgraded counterparties until maturity, the use of longer-term instruments can make this approach inappropriate in the case of strategic short-term cash. The policy should include a timeframe for the disposal of any such counterparties in excess of breached limits. Use of appropriate instruments The policy should list instruments permitted for investment of strategic short-term cash, which may or may not differ from those permitted for operating cash. It may also list instruments not permitted for investment. Some policies also set out the circumstances in which derivatives can be used to protect principal. If investing strategic cash for the first time, the company may need to redraft the investment policy to reflect a wider range of permitted investment instruments. The use of instruments can also be subject to limits. The challenge when investing strategic short-term cash is to decide whether to set separate limits solely for strategic cash or to incorporate the limits for all surplus cash. Practical reasons, such as small, expected levels of strategic cash, may make it more appropriate to incorporate all cash under the same limits. If a company decides to use funds (e.g., money market or exchange traded funds) or separately managed accounts, the treasury practitioner should acquire information from the asset manager regarding the holdings within the fund to ensure they are included in any calculation of limits affecting the entirety of the company s portfolio. Finally, the policy should state whether foreign currency investment is permitted and, if so, whether positions should be hedged using derivative instruments gtnews. All rights reserved. gtnews is a registered trademark of the Association for Financial Professionals 7

12 PRESERVING LIQUIDITY The policy will need to state the extent to which the company wants to preserve liquidity within its investments of strategic short-term cash. For both operational reasons (e.g., a reduced need to reinvest maturing instruments) and to achieve an improved return, it is often appropriate to sacrifice some liquidity when investing strategic cash. The decision should be driven by a combination of the forward accuracy of the company s cash position forecasts and the timeframe in which the company would need to access the funds in order to meet an unanticipated strategic need, such as to make an acquisition. The accuracy of cash position forecasts varies according to a range of factors (see the AFP Global Liquidity Guide to Cash Position Forecasting). If strategic cash is to be available to support a shortfall of working capital, it needs to be accessible within the period of expected accuracy of the cash position forecast. For example, a retail company may have confidence in its cash position forecasts only for a period of about three months, whereas a mining company may have the same level of confidence for up to a year. If on the other hand strategic cash is to be used to finance corporate events such as an unanticipated acquisition, the treasury practitioner will need to redeem any invested funds within the timeframe of a normal completion. This will typically be about three months, although it can vary according to industry norms. With this in mind, the investment policy should set a period within which funds (or a proportion of funds) are accessible. If investment management is outsourced, whether to a fund or via a separately managed account, the treasury practitioner should be able to access funds by giving notice of, say, three months. If the investments are managed in-house, then the portfolio should be structured in such a way that funds can be accessed within the same period. This can be done using a range of measures including the use of maximum maturities for individual investment instruments, especially those which cannot be sold in a secondary market, as well as a maximum duration for the portfolio as a whole. GENERATING YIELD The policy may set an objective for generating yield, such as a market rate benchmark. For example, it may be appropriate to use a three-month market rate as a benchmark if the notice period (outlined above) is set at three months. The policy may set a target for the proportion of cash held in fixed versus floating rate instruments as protection against interest rate fluctuations. As with operating cash investments, tax rules have the capacity to reduce yield significantly, so it is vital that independent tax advice is sought while an investment policy for strategic cash is being developed. The key tax treatments to consider are: transfer pricing, thin capitalization, and any withholding tax on interest payments. CHANGING CIRCUMSTANCES As with operating cash, the investment policy should also provide guidance for how to approach changing circumstances. First, it should set out how counterparty limits, the approved counterparty list, and approved instrument list can be changed, which may require formal board approval. Second, the policy should provide clear guidance about the approach when limits are neared or breached. Third, it should also state how frequently the policy will be reviewed. Most policies are reviewed on a regular basis, and then subject to special review after a corporate event such as a major acquisition. With an investment policy in place, the treasury practitioner then needs to draft and follow a set of consistent operating procedures to oversee the implementation of the policy and to structure appropriate investment decisions. Note that if the investment of strategic short-term cash is outsourced to a third-party investment manager, such as via a separately managed account, the policy should direct the investment parameters followed by the investment manager. Checklist for Strategic Short-term Cash Investment Policy The following is a more detailed list of some of the features relevant when investing strategic cash. This should be used in combination with the checklist of features to be included in a short-term investment policy published in the first guide in this series. Objectives when investing strategic short-term cash. These may vary significantly from the core requirements when investing operating cash of preserving principal and ensuring liquidity. The investment policy should clearly state the objectives when investing strategic short-term cash. There are a number of potential scenarios: Seek an enhanced yield by reducing immediate access to funds. Diversify cash holdings via the use of longer-term instruments. This may also allow the investor to take exposure to different counterparties which may issue these instruments. Create a cash fund to support expansion of the business. Investors may use strategic cash to finance acquisitions on both a planned and opportunistic basis. This cash may be invested in a different currency to manage the currency risk associated with an acquisition in a new market. Hold strategic cash as a source of back-stop operating cash to protect against volatility in funding sources gtnews. All rights reserved. gtnews is a registered trademark of the Association for Financial Professionals 8

13 An approved counterparty list or set of guidelines for acceptable counterparties for strategic cash. Where the treasurer decides to have different criteria for acceptable counterparties for different segments of cash, these should be clearly documented in the investment policy. Counterparty limits, and possibly participation limits, when investing strategic cash. A permitted instruments list. There may be a prohibited instruments list. It is usually appropriate to allow the use of more diverse investment instruments when investing strategic short-term cash rather than operating cash. Note that instruments prohibited for operating cash may be appropriate for strategic short-term cash. Maximum duration or weighted average life for portfolio as a whole. This should be consistent with the objectives for short-term strategic cash investment and the accuracy and time horizons of the cash position forecasts used to segment cash. Management of strategic short-term cash portfolio. Treasurers need to decide whether to manage the portfolio in-house or whether to outsource to a specialist asset manager. Making Appropriate Investment Decisions Where the investment policy sets the parameters, the operating procedures establish precise actions to be followed. service-level agreement or mandate thoroughly documented. The treasury practitioner s due diligence in this case includes checking the asset manager s internal procedures and controls before an outsourcing agreement is reached. A Set of Operating Procedures The operating procedures should map out how a decision should be made. It should start at the point at which the cash forecasts are produced and assessed to help to stratify cash into separate categories, one of which will be strategic short-term cash. This is followed by the process of identifying the appropriate investment instruments and counterparties to use, and concludes with the processes for investment execution and record-keeping. The precise process will vary according to whether the company intends to manage activity in-house or decides to outsource some or all of the investment management of its strategic cash. If the company decides to manage any activities in-house, clear procedures should be in place and understood by all personnel involved. Investment procedures should: Cover the selection of the appropriate instrument and counterparty for each investment decision; Detail how to assess the impact of any selected instrument on the group s strategic or wider cash portfolio before an investment is made; and Explain the processes for selection of dealer, approval and authorization of deal, execution, settlement, recording and audit. On the other hand, if the company decides to outsource management of its investments to a third-party asset manager via a separately managed account, then a detailed investment policy needs to be communicated to the asset manager and a CASE STUDY: WHY ONE TECHNOLOGY COMPANY OUTSOURCED ITS INVESTMENT MANAGEMENT One US-based technology company has outsourced its investment management to third-party advisors for a number of years. The advisors have full discretion to invest on behalf of the company, as long as they comply with the conditions set out in the company s conservative investment policy. The policy includes strict conditions regarding the types of security to be bought, along with minimum credit ratings for these instruments. The policy also sets out strict limits in terms of the volume of particular instruments and the concentration of holdings with particular counterparties. The company s treasurer made the decision to outsource for two main reasons. First, the treasurer recognized the advisors expertise in fixed income securities. Second, to manage investments internally would require significant and ongoing resource commitment in terms of both skilled practitioners and technology. The company needed to be confident that it would have permanent levels of excess cash on an ongoing basis to justify this expense. An outsourcing arrangement gives the company more flexibility to respond, should its underlying cash position change significantly gtnews. All rights reserved. gtnews is a registered trademark of the Association for Financial Professionals 9

14 Management of Strategic Short-term Cash Portfolio There are a number of factors which will determine whether it is more appropriate for a company to manage its portfolio in-house or whether to outsource. The following questions will help treasurers to decide the most appropriate method of management: Credit risk assessment Does the company have sufficient resource to evaluate and monitor enough potential counterparties to meet counterparty limits? Selection of investment instrument Does the company have sufficient resource and expertise to select appropriate investment instruments each time an investment needs to be made? The treasury will need to have qualified individuals with the time and expertise to make selection. It will also need a technology platform which can model the impact of alternative instruments on the portfolio before selection and ensure compliance with counterparty and other limits. Deal management Does the company have sufficient resource to select a dealer, approve and authorize a deal, and execute, settle and record the transaction? Relationship management Does the company have sufficient resource to manage relationships with the necessary partners? These will include dealers, custodians and issuers, and will include ensuring appropriate service level agreements and mandates are in place. Portfolio management Is the company able to manage the portfolio on an ongoing basis? The treasurer will need to review the performance of strategic cash investments individually and in aggregate to ensure they continue to comply with approved limits. The treasury will also need to be able to take appropriate action in the event of a breach. Cost of managing investments What is the cost of employing enough staff and sufficient technology resource to manage the investment process securely? To manage the process in-house, the treasurer needs to be confident that the cost of doing so with appropriate rigor is justified by the anticipated benefits. If not, it is appropriate to outsource management either by investing in funds or, if the company has sufficient cash to invest, via a separately managed account. Selecting Investment Instruments The range of investment instruments available depends on the precise characteristics of the market in which the cash surplus is to be invested. Broadly speaking, an investor will have three options when investing strategic short-term cash. The first option is to invest strategic short-term cash in the functional currency of the group company, which is most often managed from a group treasury center. Companies choose this option primarily when the majority of its operations take place in its home market or it has an efficient cash concentration structure in place. This works best if the home market has a wide range of alternative investment instruments, thus allowing for a diversified set of potential counterparties. The second option is to invest strategic cash in those locations in which sufficient surplus cash in generated. This occurs most often in companies where the group does not concentrate cash back to the group headquarters or where a country (or group of countries) remains outside such a structure. For example, a number of companies headquartered in the USA choose to hold significant cash balances pooled to locations in Europe. Again, the availability of alternative investment instruments is important. The third option is a variation of this in which companies transact surplus strategic cash into an international currency in order to gain access to a wider range of alternative investment instruments. This option is popular if the market in which the surplus cash is generated has limited investment options, if the volume of surplus cash is difficult to invest, or if the currency in which the cash is generated is experiencing significant volatility. Key Differences Between Investment Markets It is important to understand clearly the nature and characteristics of investment instruments before placing funds. There are some significant distinctions between instruments in different markets, including: Terminology. Terms are used differently across markets. For example, money market funds are clearly defined in both the USA and the EU. However, money market funds outside the USA and EU may permit investment in a much wider range of instruments than, for example, Rule 2a-7 (USA) allows. In Australia, for example, there is no regulated definition of the term money market fund gtnews. All rights reserved. gtnews is a registered trademark of the Association for Financial Professionals 10

15 Regulation. Capital requirements (aka capital adequacy or regulatory capital) vary significantly around the world. As bank start to comply with the Basel III capital accord, their appetite for corporate deposits is also changing. From a strategic cash perspective, banks are more likely to offer higher interest rates for deposits with maturities over 30 days in order to meet capital requirements. However, local regulations apply as well. For example, banks in the UK have an additional liquidity threshold of 93 days, and Italian certificates of deposit with maturities exceeding 18 months cannot be cashed in until after the first 18 months. Securities regulations also affect some short-term investment instruments. For example, commercial paper maturities are driven by the requirement to register paper with the local regulator. This means that US commercial paper has a maximum maturity of 270 days, whereas commercial paper in the UK has a maximum maturity of 364 days. Market size. Just as investors want to diversify their pool of counterparties, borrowers want to draw on the maximum number of potential investors to ensure access to the funding levels they need. In addition, some territories have a more established secondary market for some instruments, such as commercial paper, than others. Characteristics of Investment Instruments Significant differences in key markets and approaches to risk gives treasury practitioners a range of alternative instruments to choose from. As with operating cash, there are a number of different variables to consider before placing strategic short-term cash. These characteristics must be evaluated in the context of the company s objectives for managing strategic cash. Counterparty. The most important feature of any investment instrument is the counterparty. For some issuers of instruments, notably banks, there can be a number of different issuers of instruments within the same group. In these circumstances, it is important to establish precisely which entity is the issuer, whether other group entities provide any guarantees in the event of default, and what level of public information is available on the issuer (e.g., credit default swaps). Most governments will have the repayment option of simply printing more money. This helps ensure that principal is not lost, although its underlying value may decline if the exchange rate also depreciates. Some governments that share currencies, including governments within the eurozone, do not have this option. When investing indirectly via an asset manager, it is important to understand the nature of the counterparty relationship. If an investment is made in a fund, then the investor will be participating in the fund on an equal level with all other participants and will benefit from the liquidity of the fund. However, if the investor is looking to invest strategic cash, the value of liquidity is diminished. Investing in a separately managed account reduces the run risk associated with a fund and eliminates the cost of providing a liquid investment for all investors. Deciding which option works best may be determined in part by a company s attitude toward liquidity when investing strategic cash. In addition, in order to invest in a separately managed account, the company needs to have a sufficient volume of strategic cash. Achieving satisfactory levels of counterparty diversification with minimum deal tickets of USD 10 million requires a minimum investment of USD 250 million over any invested operating cash. Types. There are essentially three types of investment instruments suitable for strategic cash. Open-ended investment instruments. The most common investment instruments, this type allows investors to access cash subject to the conditions set by the investment manager or issuer. Openended investment instruments are generally highly liquid, but, as discussed, the strategic cash investor needs to consider how important that liquidity is as an objective. An example of this type of instrument is a money market fund, which allows the investment and redemption of cash on an intra-day (or next-day) basis. Notice instruments. These require investors to provide advance notice (one week or more) to redeem funds. The funds may be accessible sooner for a fee and loss of any interest earned. Some bank deposits are structured this way, with notice periods most often driven by capital requirements. Separately managed accounts can be considered notice instruments in that, although investors can leave funds invested for as long as they choose, they will need to give sufficient notice of an intended redemption. Time-limited instruments. Finally, most formal investment instruments have a maturity date, which may be in the form of a stated maturity date on which the borrower has to pay the instrument s face value to the bearer. Government-issued treasury bills and corporate commercial paper, certificates of deposit, and longer-term bonds fall into this category. This type of investment instrument is helpful in managing the duration of a portfolio and ensuring cash is accessible within a particular timeframe. Many time-limited instruments can be sold in the secondary market, allowing an investor to redeem funds if necessary; however, bank certificates of deposit are not usually redeemable until the end of the term. How funds are held. Investment instruments differ in how funds are held and, consequently, the level of security and access to liquidity they offer to the investor. No certificate. Many short-term investment instruments, including money market and other investment funds, are held in a comingled fashion gtnews. All rights reserved. gtnews is a registered trademark of the Association for Financial Professionals 11

16 This gives the investor the advantage of scale, meaning that even a relatively small investment can achieve diversification of risk and cash can usually be redeemed relatively easily. To achieve this benefit, the investor will want to ensure that the company s holdings in a comingled fund remain below a maximum proportion (often 5%) of a fund s total assets. Certificate of investment. Other short-term investment instruments allow the investor to hold specific instruments, typically in a dematerialized form, which provide a clear record of the investment held. In most cases, this instrument can be sold in the secondary market, giving an investor the opportunity to access cash before maturity. This difference will also matter if the counterparty or issuer of the investment instrument fails and the investor needs to demonstrate title. An investor can achieve a greater level of security on time deposits, for example, by entering into repurchase agreements. Tri-party, or tripartite, repos outsource the management of the collateral to a third-party agent and also allow the investor to diversify counterparty risk by requiring different types of collateral. If investing by way of a separately managed account, the asset manager purchases instruments on behalf of the investor in accordance with the terms of its mandate. These instruments are then held by a custodian. This provides additional security for the investor in comparison with a fund investment, which has a greater run risk. With sufficient cash to invest, a strategic cash investor may be able to achieve a desired level of diversification by outsourcing investment management either via a money market, or fixed income, fund or through a separately managed account. Generally, fund investments allow an easier access to cash, as they always ensure there is a degree of liquidity within the fund to meet normal redemption requirements. For the investor of operating cash, this is a useful advantage, because it allows funds to be placed in slightly longerdated instruments while still giving overnight access to cash. However, when placing strategic cash, this becomes a disadvantage, as the investor does not (or should not) need immediate access to cash. In effect, a strategic cash investor will be subsidizing the other investors access to cash. How instruments are accounted for. Understanding how an investment will be accounted for is an important determinant of its suitability. When investing operating cash, investments are made in highly liquid and secure investment instruments, because of the requirement to preserve capital and to retain access to that cash. Because of this, most operating cash investments are made in instruments considered for accounting purposes to be cash equivalent under IAS 7 generally those with a maturity of up to three months and with very little chance of a change in value. Cash equivalent investments can be recorded on the balance sheet at face value. The rules are generally the same for accounting under both IFRS and US GAAP, although there are some minor differences. (Specialist advice should always be sought before placing funds in a newly approved instrument.) Where a short-term investment instrument does not qualify as cash equivalent, it will need to be classified, usually as financial assets at fair value through profit or loss, held for trading (IAS 39). This is more likely when investors seek to achieve a greater return when investing strategic cash, as they may decide to select instruments with a longer maturity date or with a variable net asset value. Neither of these would allow the investment to continue to qualify as cash equivalent. Under the terms of IAS 39, the company would have to calculate the fair value of any such investment, with any gains or losses between reporting periods having a direct impact on the company s balance sheet. This can add complexity to accounting for these instruments and also result in a degree of additional volatility in the value of short-term investments. How investments are recorded. For operating cash, the use of money market funds has been popular because many offer a constant net asset value (CNAV), meaning the treasury practitioner has not had to account for a fluctuation in the value of operating cash. However, regulators in the USA and Europe believe that the use of CNAV masks the underlying risk to principal in these investments, resulting in some pressure to require most money market funds to be valued on a variable basis (VNAV). In July 2014, the US SEC announced that institutional prime funds and municipal funds will be required to adopt VNAV, with implementation to take place over a two-year period. With this change, US strategic cash investors will see less of a difference between investing in money market funds and other investment instruments with a longer horizon as more cash investments will be marked to market. There will no longer be a complex transition between the accounting for operating cash investments (currently still CNAV, whether in the form of bank deposits or money market funds) and more strategic cash investments (more usually VNAV). (The situation in Europe is more complex with approximately 50% VNAV funds, the majority of which are French domestic funds. EU regulators are continuing to examine the regulation of CNAV funds.) Finally, investors should understand how instruments will be treated in the event of the issuer s failure. Each instrument has a different status with respect to the seniority of the debt. With longer dated instruments, this becomes a more important issue for the treasury practitioner to understand. Again, there is a difference between investing in a fund, where all participants share in the impact of an issuer s failure, and investing in a separately managed account or in-house portfolio, where the investor has to accept the full loss gtnews. All rights reserved. gtnews is a registered trademark of the Association for Financial Professionals 12

17 CASE STUDY: HOW AHOLD SELECTS APPROPRIATE INVESTMENT INSTRUMENTS Ahold is a Netherlands-headquartered international retailing group, with an annual turnover in FY 2013 of over EUR 32.6 billion. With average cash balances of EUR 2.8 billion over the last five years, investing strategic cash is a significant assignment for the group s treasury team. For Gavin Jones, Deputy Treasurer at Ahold, the recent market environment has made this a particularly challenging task, given the key objectives of preserving capital while enhancing after-tax yield. Working to identify appropriate investment instruments has been an important focus of the treasury team. The Ahold treasury team devotes significant time to understanding the characteristics of particular instruments. A few years ago, the team performed a deep evaluation of money market funds. We found a significant degree of conformity in terms of instruments and issuers within the funds, said Jones. Our approach is now to deconstruct a product and then to rebuild it in order to fully understand its characteristics before approving it for use. This takes time and resource. It also means that if an instrument is subjected to this scrutiny and is then approved for use, then it definitely fits our strategy. Initially, all new investment products are assessed by the team s investment manager to determine their suitability for use. Products are reviewed against agreed criteria using a matrix developed in-house. For example, when we review an instrument for its ability to preserve capital, we might score it 5/5 if capital is guaranteed, but only 1/5 if there is any risk to capital, explains Jones. When reviewing for liquidity, the score is determined by how quickly the company can get access to cash. In the case of derivative transactions, their complex valuations can result in a relatively low score. For yield, the team will assess a product against an appropriate market benchmark. These calculations form the basis of the manager s initial assessment. This is then reviewed by the front office team, before a formal recommendation is made to Jones and the Group Treasurer, Andy Nash. The same process is used to review previously approved instruments for suitability once or twice a year. If an instrument is approved for use, we will not necessarily use it straightaway, says Jones. For example, we approved the use of tripartite repos about three years ago. Last year, we decided we wanted more security with our term deposits. Because we liked the concept and approved the instrument, we had already done some work to create our own collateral filters. This meant when the time came, we could start to use tripartite repos very quickly. With a small team, one of the challenges is to ensure internal resources are used effectively. The team manages certain investments in-house, with both term deposits and tripartite repos managed internally. Other investment activity is outsourced. We do not have the time or credit expertise to build up portfolio-type instruments such as commercial paper, explains Jones. For this, we use an asset manager, as well as variants of money market funds, both 2a-7 and fixed income funds. This approach is key to managing risk. Ahold treasury resources are primarily deployed on strategic activities, with some investment activity outsourced within parameters set by Jones and his team. Conclusion Successful management of strategic cash investments requires the confidence of treasury practitioners in the department s ability to stratify cash into separate buckets. Unless there is a clear and understood distinction between operating cash and strategic cash, all cash should be invested as operating cash. As long as a company has the ability to stratify its strategic cash, clear objectives for the investment of this cash should be set and documented in the organization s investment policy. The first guide in this series provided three short documents to assist treasury practitioners in preparing or reviewing their investment policy and procedures. These same documents can also be used to help develop the policy and procedures for strategic cash. Daily management of strategic cash is less likely to be necessary given its nature. In turn, this means that more specialist skills are required, especially in the area of portfolio management and counterparty risk analysis. The organization, ideally at board level, will need to decide whether there are sufficient resources available to manage the investments in-house. If not, the treasury practitioner will need to identify the most appropriate way of outsourcing it, whether to a fund or via a separately managed account. Either way, the company needs to establish a clear view of its risk appetite in regard to strategic cash, and any investments should be consistent with that view gtnews. All rights reserved. gtnews is a registered trademark of the Association for Financial Professionals 13

18 About the Author WWCP LIMITED WWCP s team of financial researchers, journalists and authors provides its WorldWideCountryProfiles service to banks, financial institutions and professional bodies. Purchasers use the individual country profiles, which are researched and written to their specification, for their customers and prospects, sales literature, their intranet and extranet sites and sales training. WWCP researches over 190 countries. WWCP researches, authors and publishes authoritative Treasury Managers Handbooks for: Africa; the Americas (five editions); Asia/Pacific & Australasia; Central & Eastern Europe; Europe (five editions); Middle East and Scandinavia/Nordic/Baltic countries. Publications also include a number of definitive WWCP authored treasury guides: Best Practice and Terminology; with The ACT, Investing Cash Globally (four editions), International Cash Management and Trade Finance; and, with AFP, Treasury Technology and a series of treasury guides gtnews. All rights reserved. gtnews is a registered trademark of the Association for Financial Professionals 14

19 About AFP Headquartered outside Washington, D.C., the Association for Financial Professionals (AFP) is the professional society that represents finance executives globally. AFP established and administers the Certified Treasury Professional TM and Certified Corporate FP&A Professional TM credentials, which set standards of excellence in finance. The quarterly AFP Corporate Cash Indicators TM serve as a bellwether of economic growth. The AFP Annual Conference is the largest networking event for corporate finance professionals in the world. AFP, Association for Financial Professionals, Certified Treasury Professional, and Certified Corporate Financial Planning & Analysis Professional are registered trademarks of the Association for Financial Professionals Association for Financial Professionals, Inc. All Rights Reserved. General Inquiries AFP@AFPonline.org Web Site Phone About gtnews gtnews, part of the Association for Financial Professionals, is the leading online knowledge resource for global treasury, finance, payments and cash management professionals. Under the guidance of an advisory board of European and Asian treasurers, gtnews provides weekly updates and an archive of over 8,500 articles, research reports, commentaries, webinars, and whitepapers with a global finance focus.the annual gtnews Awards for Global Corporate Treasury and Finance celebrate best practice in finance projects and provide executive level education and networking opportunities. Web Site Sales sales@gtnews.com

20 For Institutional Use Only - Not for Use with the Public Investing involves risk including the risk of loss of principal. The information provided does not constitute investment advice and it should not be relied on as such. It should not be considered a solicitation to buy or an offer to sell a security. It does not take into account any investor's particular investment objectives, strategies, tax status or investment horizon. You should consult your tax and financial advisor. All material has been obtained from sources believed to be reliable. There is no representation or warranty as to the accuracy of the information and State Street shall have no liability for decisions based on such information. The whole or any part of this introductory letter may not be reproduced, copied or transmitted or any of its contents disclosed to third parties without SSgA s express written consent. Bonds generally present less short-term risk and volatility than stocks, but contain interest rate risk (as interest rates rise bond values and yields usually fall); issuer default risk; issuer credit risk; liquidity risk; and inflation risk. These effects are usually pronounced for longer-term securities. Any fixed income security sold or redeemed prior to maturity may be subject to a substantial gain or loss. The views expressed in this introductory letter are the views of Barry F.X. Smith through the period ended 3/01/14 and are subject to change based on market and other conditions. This document contains certain statements that may be deemed forward-looking statements. Please note that any such statements are not guarantees of any future performance and actual results or developments may differ materially from those projected. These investments may have difficulty in liquidating an investment position without taking a significant discount from current market value, which can be a significant problem with certain lightly traded securities. Diversification does not ensure a profit or guarantee against loss. Article copyright 2014 by gtnews. Reprinted from the Guide to Investing Strategic Cash issue with permission from# gtnews. The statements and opinions expressed in this article are those of the author. State Street Global Advisors cannot guarantee the accuracy or completeness of any statements or data. This reprint is supplied by State Street Global Advisor which serves as general distribution agent for shares of cash. This reprint and the materials delivered with it should not be construed as an offer to sell or a solicitation of an offer to buy any product mentioned in this reprint. GCB-0542 Expiration Date: 11/30/2015