Late Agenda of Finance Audit & Risk Sub-committee

HAWKE’S BAY REGIONAL COUNCIL

Finance Audit & Risk Sub-committee

Wednesday 12 August 2020

Subject: Treasury Report to 30 June 2020

Reason for Report

1. This item provides an update of compliance monitoring of treasury activity and reports the performance of Council’s diversified investment portfolios

Background

2. As a requirement of HBRC Treasury Policy, a quarterly update is provided to the Financial Audit & Risk Sub-Committee (FARS) on all treasury investments.

3. As at Q4, 30 June 2020, the Treasury Investments to be reported on consist of:

3.1. Economic Impacts generated during the quarter

3.2. Cash and Cash Equivalents

3.3. Disposals and Acquisitions

3.4. Externally Managed Investment Funds

3.4.1. Long-Term Investment Fund (LTIF)

3.4.2. Future Investment Fund (FIF)

4. Since 2018, HBRC has procured treasury advice and services from PwC. Their quarterly compliance report has been attached to this report.

5. Officers and FARS continue to develop the Treasury reporting function. Enhancements included within this report is the reporting on HBRC Cash and Cash Equivalents. Further enhancements will continue to be developed as part of the FARS work programme for 2020-21.

Discussion

Economic Impacts

6. The fourth and final quarter for FY2020 illustrates how market volatility can have such a significant impact on the value of HBRC Investments. The vigorous bounce out of the Covid-19 NZ lockdown is evident in the numbers provided throughout this report. It’s important to note that while market volatility can create uncertainly, the downs (and ups) will occur from time to time. The strategy of diversifying an asset base is by far the best way of safeguarding any investment; achieved through exposing the investment to the full spectrum of global market movements.

7. The New Zealand economy has benefited by being in position of being able to return to somewhat normal, but the outlook is a challenging one. Globally, Governments which could afford to support their economies have been using tools such as quantitative easing to boost liquidity and reduce interest rates. However, there is still the perception that the global economy will shrink by 4.9%, impacting the advanced economies the most.

8. A closed New Zealand border for the foreseeable future will mean a smaller economy here. Because of our size, New Zealand will always be quite reliant on imports and foreign markets. 10% of the New Zealand economy pre Covid-19 could be attributed to travel and tourism; 40% coming from international visitors. This reliance may reduce for a time and that could boost sectors, such as import-competing manufacturing. It’s worth keeping in mind that the economy will not return to how it was, it will find a new equilibrium and set new trends and pivot from here.

9. As we are right now, the ‘bounce back’ has effectively come from enhanced income supporting policies, lower interest rates, redirected travel savings and an involuntary saving bump from lockdown. This is not expected to last. Private consumption is expected to lessen in line with the expected rise in unemployment, and any fixed mortgages needing to be ‘rolled over’ for any benefit to discretionary income, and the Major Banks will hurt from the ‘missed’ new lending cycle. The ANZ central forecast sees GDP returning to pre-crisis levels in mid-2022.

Cash and Cash Equivalents

10. As at June 30, HBRC had one Term Deposit ($2.5m) returning 1.65% and held $3.6m in its Cheque Accounts.

11. HBRC monthly cash liquidity position.

Cash Position	Jan 20	Feb 20	Mar 20	Apr 20	May 20	Jun 20
Millions (NZD)	Actual	Actual	Actual	Actual	Actual	Actual
Mean	6.8	7.2	5.2	6.5	3.3	4.1
High Point	21.7	22.2	9.4	15.8	6.2	6.3
Low Point	2.6	4.8	2.8	2.6	1.4	1.4
Available facility*	5.0	5.0	5.0	5.0	5.0	5.0
* facility available to HBRC is the BKBM + 1.1% margin. As at June 30, this would cost 1.4% to call on.

12. Returns from assets classes such as Cash and Cash Equivalents will be unfavorable, when compared to Pre Covid-19 levels as mainly due to lower economic growth and controlled inflation.

Debt Funding

13. Council acquired $6.3m of funds through the LGFA tender on 8 July 2020, with repayments due in 2024 and 2025.

Managed Funds

14. The Total capital invested as at 30 June 2020 was $156.6m, this represents a true return of $2.6m (1.68%) return on the original investment after adjusting for inflation & fees.

15. Both Long Term Investment Fund (LTIF) and Future Investment Fund (FIF) have improved positions since the last reported positions in May 2020 and Q3 (March 2020).

16. CPI Protected Capital Amounts and Fund Totals:

Fund	Total Capital Contributed30/6/19	CPI Protected Capital 30/6/19	Total Capital Contributed	CPI Protected Capital 30/6/20	Value 31 Dec 19	Value 31 March 20	Value 30 Jun 20
	$	$	$	$	$	$	$
LTIF	40,000,000	40,280,240	46,577,569	47,608,886	50,651,390	46,305,061	49,921,914
FIF (HBRC Held)	-	-	60,563,802	61,046,786	44,703,199	58,452,264	61,104,952

Fund	Total Capital Contributed30/6/19	CPI Protected Capital 30/6/19	Total Capital Contributed	CPI Protected Capital 30/6/20	Value 31 Dec 19	Value 31 March 20	Value 30 Jun 20
	$	$	$	$	$	$	$
FIF (HBRIC Held)	-	-	45,019,493	45,378,514	60,013,349	41,711,847	45,588,822
Total	40,000,000	40,280,240	152,160,864	154,034,186	155,367,938	146,469,172	156,615,688

Long Term Investment Fund (LTIF)

17. The LTIF has benefited form being invested over a longer period, when compared to the FIF, which was invested during Q2 of the FY20 Year.

18. The Fund is fully compliant to the SIPO’s stipulated strategic asset allocation.

19. Below is financial year returns:

FY20		Return			%
Return	Jarden	Mercer	Total	Jarden	Mercer	Total
Gross of Fees	860,114	703,263	1,563,377	3.7%	3.0%	3.4%
Net of Fees	719,659	698,622	1,418,281	3.1%	3.0%	3.1%
CPI						1.5%
Real net return				1.6%	1.5%	1.6%

20. From inception the LTIF has returned a CPI Protected Return of 4.9% (4.5% Jarden / 5.2% Mercer).

Future Investment Fund (FIF)

21. Funds invested with Mercer are fully SIPO compliant. Jarden expects to be fully compliant by Q1 2021. This is in line with previous reports of Jarden’s approach of a staggered approach of investing.

22. On 30 June, HBRC instructed Jarden to transfer the NZD denominated assets from HBRIC to HBRC, totaling a $16.6m Transfer. Jarden’s approach to manage the SIPO requirements will be to review the FIF on a consolidated level. This transfer represents the Sale & Purchase Agreement between HBRC and HBRIC Ltd, as recommended and agreed on at the 24 June 2020 Regional Council Meeting.

23. Combined HBRC and HBRIC Returns:

FY20	Return			% (Annualised)
Return	Jarden	Mercer	Total	Jarden	Mercer	Total
Gross of Fees	862,026	414,957	1,276,983	2.1%	1.0%	1.5%
Net of Fees	698,261	412,218	1,110,479	1.7%	1.0%	1.3%
CPI						0.8%
Real net return				0.9%	0.2%	0.5%

24. From inception the FIF has returned a CPI Protected Return of 0.3% (0.5% Jarden / 0.0% Mercer).

Outlook

25. The lower the starting point for interest rates and the higher the starting point for equity valuations, the lower the return assumptions will be for all asset classes. The below benchmark returns have been provided by Jarden (29 May 2020) and may help facilitate in modeling future returns for each asset class:

Cash	2.7% pa
New Zealand debt securities	3.6% pa
Global debt securities (unhedged)	2.5% pa
Global debt securities (hedged)	3.6% pa
New Zealand equities	6.3% pa
New Zealand property	7.0% pa
Australian equities	6.9% pa
Global equities	6.0% pa
Alternatives	5.9% pa

Note: These predictions do not form recommendations.

26. With the current 50/50 Growth/Income spilt in stipulated strategic asset allocation, this expects a return of 4.9% (less than the Targeted 5%). To achieve 5%, the split would need to be 45/55 in favor of Growth.

27. Given the economic climate and the fiscal position of the organisation, Council could consider operating outside of the treasury policy and not look to protect the capital base of the manage funds by adjusting for inflation. This would allow for more funds to be available for withdrawal to finance the origination’s shortfall in investment income.

28. To enable this to happen for the FIF, Council would need to consult on the change as the Significance and Engagement Policy has listed the proceeds of the sale of Napier Port as inflation adjusted capital base.

29. This could be considered by Council for the LTIF as this fund is not listed in the Significance and Engagement policy.

30. Council would need to consider the longer-term impacts of having a reduced capital base versus the short-term impact of a reduction in the shortfall and officers would recommend an analysis of the impacts if Council would like to consider this as an option.

Next Steps

31. The Annual Treasury Reporting requirements will be delivered as part of Annual Report, due to timing of the year end process and the revaluations of the other investment assets. The report will be included as part of the report for the Finance, Audit and Risk Committee during the recommendation for the adoption of the Annual Report which will be scheduled in October following the finalisation of the Audit Plan.

Decision Making Process

32. Staff have assessed the requirements of the Local Government Act 2002 in relation to this item and have concluded that:

32.1. as this report is for information only, the decision-making provisions do not apply

32.2. any decision of the sub-committee (in relation to this item) is in accordance with the Terms of Reference and decision-making delegations adopted by Hawke’s Bay Regional Council 25 March 2020, specifically the Finance, Audit and Risk Sub-committee shall have responsibility and authority to:

32.2.1. Monitor the performance of Council’s investment portfolio.

Recommendation

That the Finance, Audit and Risk Sub-committee receives and notes the “Treasury Report to 30 June 2020”.

Authored by:

Geoff Howes

Treasury & Funding Accountant

Bronda Smith

Chief Financial Officer

Approved by:

Jessica Ellerm

Group Manager Corporate Services

Attachment/s