Agenda Item No. 9

 

The Vale of Glamorgan Council

 

Cabinet Meeting 16th July 2018

 

Report of the Leader

 

Treasury Management Closing Report 2017/18

 

Purpose of the Report

  1. To present to Cabinet the annual review report on Treasury Management 2017/18.

Recommendations

  1. That Cabinet consider the annual report on Treasury Management 2017/18
  2. That the report be referred to Council for approval.

Reasons for the Recommendations

  1.  To review the Treasury Management activity by the Council for 2017/2018
  2. To review the Treasury Management activity by the Council for 2017/2018

Background

  1. In March 2012 the Council adopted the 2011 edition of the CIPFA Treasury Management in the Public Services: Code of Practice, which requires the Council to approve a treasury management strategy before the start of each financial year, a mid year report, and an annual report after the end of each financial year. 
  2. This annual treasury report has been prepared as required and covers:
  • the economy / interest rates in 2017/18;
  • the strategy for  2017/18;
  • the borrowing outturn for 2017/18;
  • investment outturn for 2017/18;
  • compliance with treasury limits and Prudential Indicators;

The Economy and Regulatory Changes 2017/18

  1. The following information has been prepared by the Authority's Treasury Management advisors. It sets out the changing conditions under which Treasury Management operations were carried out.

Economic Update

  1. 2017-18 was characterised by the push-pull from expectations of tapering of Quantitative Easing (QE) and the potential for increased policy rates in the US and Europe and from geopolitical tensions, which also had an impact.
  2. The UK economy showed signs of slowing with latest estimates showing GDP, helped by an improving global economy, grew by 1.8% in calendar 2017, the same level as in 2016.  This was a far better outcome than the majority of forecasts following the EU Referendum in June 2016, but it also reflected the international growth momentum generated by the increasingly buoyant US economy and the re-emergence of the Eurozone economies.
  3. The inflationary impact of rising import prices, a consequence of the fall in sterling associated with the EU referendum result, resulted in year-on-year CPI rising to 3.1% in November before falling back to 2.7% in February 2018. Consumers felt the squeeze as real average earnings growth, i.e. after inflation, turned negative before slowly recovering.  The labour market showed resilience as the unemployment rate fell back to 4.3% in January 2018.  The inherent weakness in UK business investment was not helped by political uncertainty following the surprise General Election in June and by the lack of clarity on Brexit, the UK and the EU only reaching an agreement in March 2018 on a transition which will now be span Q2 2019 to Q4 2020. The Withdrawal Treaty is yet to be ratified by the UK parliament and those of the other 27 EU member states and new international trading arrangements are yet to be negotiated and agreed.
  4. The Bank of England's Monetary Policy Committee (MPC) increased the Bank Rate by 0.25% in November 2017. It was significant in that it was the first rate rise in ten years, although in essence the MPC reversed its August 2016 cut following the referendum result. The February Inflation Report indicated the MPC was keen to return inflation to the 2% target over a more conventional (18-24 month) horizon with 'gradual' and 'limited' policy tightening. Although in March two MPC members voted to increase policy rates immediately and the MPC itself stopped short of committing itself to the timing of the next increase in rates, the minutes of the meeting suggested that an increase in May 2018 was highly likely.
  5. In contrast, economic activity in the Eurozone gained momentum and although the European Central Bank removed reference to an 'easing bias' in its market communications and had yet to confirm its QE intention when asset purchases end in September 2018, the central bank appeared some way off normalising interest rates.  The US economy grew steadily and, with its policy objectives of price stability and maximising employment remaining on track, the Federal Reserve Open Market Committee (FOMC) increased interest rates in December 2017 by 0.25% and again in March, raising the policy rate target range to 1.50% - 1.75%. The Fed is expected to deliver two more increases in 2018 and a further two in 2019.  However, the imposition of tariffs on a broadening range of goods initiated by the US, which has led to retaliation by China, could escalate into a deep-rooted trade war having broader economic consequences including inflation rising rapidly, warranting more interest rate hikes. 
  6. Financial markets: The increase in Bank Rate resulted in higher money markets rates: 1-month, 3-month and 12-month LIBID rates averaged 0.32%, 0.39% and 0.69% and at 31st March 2018 were 0.43%, 0.72% and 1.12% respectively.
  7. Gilt yields displayed significant volatility over the twelve-month period with the change in sentiment in the Bank of England's outlook for interest rates. The yield on the 5-year gilts which had fallen to 0.35% in mid-June rose to 1.65% by the end of March. 10-year gilt yields also rose from their lows of 0.93% in June to 1.65% by mid-February before falling back to 1.35% at year-end. 20‑year gilt yields followed an even more erratic path with lows of 1.62% in June, and highs of 2.03% in February, only to plummet back down to 1.70% by the end of the financial year.
  8. The FTSE 100 had a strong finish to calendar 2017, reaching yet another record high of 7688, before plummeting below 7000 at the beginning of 2018 in the global equity correction and sell-off. 

Credit background

  1. In the first quarter of the financial year, UK bank credit default swaps (CDS) reached three-year lows on the announcement that the Funding for Lending Scheme, which gave banks access to cheaper funding, was being extended to 2018. For the rest of the year, CDS prices remained broadly flat.
  2. The rules for UK banks' ring-fencing were finalised by the Prudential Regulation Authority and banks began the complex implementation process ahead of the statutory deadline of 1st January 2019.  As there was some uncertainty surrounding which banking entities the Authority will be dealing with once ring-fencing was implemented and what the balance sheets of the ring-fenced and non ring-fenced entities would actually look like, in May 2017 Arlingclose advised adjusting downwards the maturity limit for unsecured investments to a maximum of 6 months.  The rating agencies had slightly varying views on the creditworthiness of the restructured entities.
  3. Barclays was the first to complete its ring-fence restructure over the 2018 Easter weekend. Wholesale deposits including local authority deposits will henceforth be accepted by Barclays Bank plc (branded Barclays International), which is the non ring-fenced bank.
  4. Money Market Fund regulation: The new EU regulations for Money Market Funds (MMFs) were finally approved and published in July and existing funds will have to be compliant by no later than 21st January 2019.  The key features include Low Volatility Net Asset Value (LVNAV) Money Market Funds which will be permitted to maintain a constant dealing NAV, providing they meet strict new criteria and minimum liquidity requirements.  MMFs will not be prohibited from having an external fund rating (as had been suggested in draft regulations).  Arlingclose expects most of the short-term MMFs it recommends to convert to the LVNAV structure and awaits confirmation from each fund.
  5. The most significant change to credit ratings during 2017/18 was the downgrade by Moody's to the UK sovereign rating in September from Aa1 to Aa2 which resulted in subsequent downgrades to sub-sovereign entities including local authorities.
  6. Changes to credit ratings included Moody's downgrade of Standard Chartered Bank's long-term rating to A1 from Aa3 and the placing of UK banks' long-term ratings on review to reflect the impending ring-fencing of retail activity from investment banking. Barclays, HSBC and RBS were on review for downgrade, whilst Lloyds Bank, Bank of Scotland and National Westminster Bank were placed on review for upgrade. 
  7. Standard & Poor's (S&P) revised upwards the outlook of various UK banks and building societies to positive or stable and simultaneously affirmed their long and short-term ratings, reflecting the institutions' resilience, progress in meeting regulatory capital requirements and being better positioned to deal with uncertainties and potential turbulence in the run-up to the UK's exit from the EU in March 2019. The agency upgraded Barclays Bank's long-term rating to A from A- after the bank announced its plans for its entities post ring-fencing. 
  8. Fitch revised the outlook on Nationwide Building Society to negative and later downgraded the institution's long-term ratings due to its reducing buffer of junior debt. S&P revised the society's outlook from positive to stable.
  9. S&P downgraded Transport for London to AA- from AA following a deterioration in its financial position.

Other developments

  1. In February, Arlingclose advised against lending to Northamptonshire County Council (NCC). NCC issued a section 114 notice in the light of severe financial challenge and the risk that it would not be in a position to deliver a balanced budget.
  2. In March, following Arlingclose's advice, the Authority removed RBS plc and National Westminster Bank from its counterparty list. This did not reflect any change to the creditworthiness of either bank, but a tightening in Arlingclose's recommended minimum credit rating criteria to A- from BBB+ for FY 2018-19. The current long-term ratings of RBS and NatWest do not meet this minimum criterion, although if following ring-fencing NatWest is upgraded, the bank would be reinstated on the Authority's lending list.

Local Authority Regulatory Changes

  1. Revised CIPFA Codes: CIPFA published revised editions of the Treasury Management and Prudential Codes in December 2017. The required changes from the 2011 Code are being incorporated into Treasury Management Strategies and monitoring reports.
  2. The 2017 Prudential Code introduces the requirement for a Capital Strategy which provides a high-level overview of the long-term context of capital expenditure and investment decisions and their associated risks and rewards along with an overview of how risk is managed for future financial sustainability. Where this strategy is produced and approved by full Council, the determination of the Treasury Management Strategy can be delegated to a committee. The Code also expands on the process and governance issues of capital expenditure and investment decisions.
  3. The Authority expects to prepare a Capital Strategy as part of the 2019/20 budget proposals. 

Treasury Management Strategy 2017/18

  1. The Section 151 Officer continued to adopt a cautious approach with respect to Treasury Management operations. The Council's primary objectives for the management of its investments are to give priority to the security and liquidity of its funds before seeking the best rate of return. This being the case the Authority placed the majority of funds available for investment purposes with other local authorities. These investments attract a slightly more favourable rate of return than investing with the UK government, but still give priority to the security of funds invested.
  2. Funds not placed with other local authorities were placed in the 'Debt Management Account Deposit Facility' (DMADF) as these deposits are guaranteed by the British Government. However, these deposits attract a lower return than those available from placement of funds with either local authorities or commercial banks.
  3. The Council's primary objective for the management of its debt is to ensure its long term affordability. The majority of its loans have therefore been borrowed from the Public Works Loan Board at long term fixed rates of interest. In 2017/18 the Council continued to finance a significant proportion of its capital expenditure from internal resources. The potential reduction of the Councils investments balances at times of elevated credit risk was still considered the most prudent option available to the Authority throughout 2017/18.
  4. Council approved the Treasury Management Strategy for 2017/18 at its meeting on the 1st March 2017, minute no. 861.
  5. The Section 151 Officer advises that all treasury management activity undertaken during the financial year complied with the amended approved strategy, the CIPFA Code of Practice, and the relevant legislative provisions.

Borrowing Outturn 2017/18

  1. During 2017/18 £9,112,000 of additional internal funds was used in the financing of capital expenditure. An average rate of interest was charged to reflect the use of capital resources. The total charges for interest and principal including for prudential borrowing during the year 2017/18 were £7,463,923 and £6,289,207 respectively.
  2. For all borrowing, excluding loans that are advanced under the Local Government Borrowing Initiative, an original estimate of 3.77% had been included in the estimates for 2017/18. The actual rate was 3.9%.
  3. Within the sum shown in paragraph 32, the Authority internally financed prudential borrowing totalling £5,752,000. This new borrowing comprised of 4 new loans.
      • An education Local Government Borrowing Initiative "21st Century School" investment programme loan for £1,500,000 charged at a rate of 4.04%.
      • The Council internally borrowed for a loan to finance the Council's contribution to City Deal in 2017/18 of £2,052,000,
      • a loan to purchase new refuse vehicles of £1,200,000
      • a "Welsh Housing Quality Standard" (WHQS) loan for £1,000,000 all charged at a rate of 3.9%.

The total charge for interest and principal for 2017/18 on prudential borrowing was £3,564,540 and £1,975,597 respectively.

  1. The Council's external debt as at the 31st March 2018 (excluding accrued interest) was £155.365 million (1st April 2017 £157.199 million). This can be summarised as follows:
 

   Opening Balance

1st April 2017

    Received

Repaid

   Closing Balance

31st March 2018

£'000

£'000

£'000

£'000

P.W.L.B.

148,999

0

(1,834)

147,165

Market Loans

6,000

0

0

6,000

Concessionary

2,100

0

0

2,100

Temporary Loans

100

0

0

100

Total

157,199

0

    (1,834)

155,365

Joint Committee - Glamorgan Archives

568

0

(33)

535

Total (including Joint Committees)

157,767

0

(1,867)

155,900

  • In addition the Council is required to account for its share of any debt held by Joint Committees that it is party to on its balance sheet and the balance which is associated with the Glamorgan Archives Joint Committee balance is also shown above.
  • Loans borrowed from the Public Works Loan Board (PWLB) are intended to assist local authorities in meeting their longer term borrowing requirements. The Authority did not borrow any new loans from the PWLB during 2017/18, opting to fund from internal resources. The average interest rate on all the Authority's outstanding PWLB debt has moved over the course of the year from 4.7606% to 4.743%.
  • Market loans represent those non-PWLB loans that are repayable at least 1 year or more from the date they are advanced. The debt is a market loan, £2,000,000 of which will mature on the 8th November 2021 and £4,000,000 will mature on the 23rd February 2054. The average interest rate on the Authority's outstanding market loans is 5.322%
  • The Concessionary Loan was advanced to the Authority by the Welsh Assembly Government on the 1st April 2015 for a period of 10 years. The loan will mature on the 31st March 2025 and is interest free.
  • Temporary Loans represent loans that have no fixed maturity date. Current loans have been borrowed from The Vale of Glamorgan Welsh Church Act Fund. Interest is calculated on a monthly basis using the "Average 7 Day Rate". The interest rates payable on the Authority's outstanding temporary loans ranged from 0.26% to 0.48% during 2017/18.

Investment Outturn for 2017/18

  1. Internally Managed Investments - The Authority manages investments in-house and is able to invest with those institutions which meet the minimum credit rating criteria and are included on the approved lending list as laid out in the investment strategy. The Authority currently invests short term for a range of periods from overnight to 364 days, dependent on its cash flows, its interest rate view and the interest rates/ periods on offer.  
  2. Investment movements for 2017/18 (excluding accrued interest) are summarised as follows:-
 

   Opening Balance

1st April 2017

    Invested

    Repaid

   Closing Balance

31st March 2018

 

£'000

£'000

£'000

£'000

Debt Management Account Deposit Facility

  4,250

1,685,100

(1,682,450)

6,900

Local Authorities

65,500

163,100

(168,600)

60,000

Total

69,750

    1,848,200

    (1,851,050)

66,900

  1. The continuing market uncertainties resulted in the majority of available funds still being invested cautiously either in the Debt Management Account Deposit Facility (DMADF) or with local authorities.  The Authority this year favoured deposits with local authorities as these investments attracted a slightly more favourable return without any increase in risk to the principal sums invested.
  2. Debt Management Account Deposit Facility - The Authority continued to place a portion of all surplus funds in the DMADF, which is guaranteed by the British Government. The maturity dates of these investments ranged from overnight to a maximum period of 6 months. The Authority made a return of £20,288 during 2017/18. The interest rate receivable on these investments was reviewed once during the year. A rate of 0.10% was received for the period 1st April 2017 to 2nd November 2017 and 0.25% for the period 3rd November 2017 to 31st March 2018.
  3. Local Authorities - During the year deposits were placed with local authorities. The Authority made a return on these investments of £224,137 at a rate of 0.38%
  4. The overall return on investments for 2017/18 was £244,424 at a rate of 0.33%.
  5. The Section 151 Officer will continue to keep the borrowing / investment strategy under review.

Treasury Limits and Prudential Indicators

  1. The Council is asked to note the Prudential Indicators shown in Appendix A.

Resource Implications (Financial and Employment)

  1. As set out in this report

Sustainability and Climate Change Implications

  1.  There are no sustainability and climate change implications.

Legal Implications (to Include Human Rights Implications)

  1. As set out in this report

Crime and Disorder Implications

  1. There are no crime and disorder implications.

Equal Opportunities Implications (to include Welsh Language issues)

  1. There are no equal opportunity implications.

Corporate/Service Objectives

  1. Provide  sound  financial  and reliable advice in relation to all issues affecting the Council

Policy Framework and Budget

  1. The report  will be forwarded to Council for approval

Consultation (including Ward Member Consultation)

  1. The appropriate Chief Officers have been consulted on this report. This report does not require Ward Member consultation. 

Relevant Scrutiny Committee

  1. Corporate Performance and Resources

Background Papers

None

Contact Officer

Gemma Jones, Principal Accountant

Officers Consulted

All appropriate Chief Officers have been consulted on the contents of this report.

Responsible Officer:

Carys Lord

Section 151 Officer