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HomeMy WebLinkAbout2015-04-21; City Council; 21939; Annual Report of Investment Portfolio Year Ended June 30, 2014CITY OF CARLSBAD - AGENDA BILL 21.939 AB# MTG. 4/21/15 DEPT. Treasury ANNUAL REPORT OF INVESTMENT PORTFOLIO FOR YEAR ENDED JUNE 30, 2014 DEPT.DIRECTOR CITY ATTY. CITY MGR. RECOMMENDED ACTION: Accept and file report. ITEM EXPLANATION: City policy requires the City Treasurer to render an annual report of the city's investment portfolio. This report is for the fiscal year ended June 30, 2014 (FY13-14). Assets in the investment portfolio totaled $660 million at the end of the fiscal year. The equity portion of the various funds at the amortized value of the total portfolio is summarized below: Fund Equity in Pooled Investments Cash Balance by Fund: General 101,358,582 Special Revenue 46,591,230 Capital Projects 288,598,288 Enterprise 166,006,033 Internal Service 38,244,077 Agency & Trust Funds 19,652,122 Reconciling Adjustments (363,688) Total Treasurer's Investment Portfolio at Amortized Cost 660,086,644 Fund equity balances are restricted for various purposes as listed above. This represents an increase of $21.6 million from the previous fiscal year. Cash and investments comprise an estimated 36 percent of the total assets reported by the city and its agencies. For the last month of the fiscal year, the portfolio had a return of 1.06 percent. For the entire fiscal year, however, the portfolio averaged 1.04 percent. Cash interest income totaled $8.1 million in FY13-14 of which approximately $1.27 million went to the General Fund. For the next fiscal year (FY14-15), it is expected that the average return for the portfolio will approximate 1.08 percent. FISCAL IMPACT: None DEPARTMENT CONTACT: Nancy Sullivan (760) 602-2473 Nancv.Sullivan@carlsbadca.qov FOR CITf CLERKS USE ONLY COUNCIL ACTION: APPROVED CONTINUED TO DATE SPECIFIC • DENIED CONTINUED TO DATE UNKNOWN • CONTINUED • RETURNED TO STAFF • WITHDRAWN • COUNCIL RECEIVED THE • AMENDED • REPORT/PRESENTATION OTHER-SEE MINUTES • Annual Report of Investment Portfolio FYE 6/30/14 April 21, 2015 Page 2 ENVIRONMENTAL IMPACT: Pursuant to Public Resources Code section 21065, this action does not constitute a "project" within the meaning of CEQA in that it has no potential to cause either a direct physical change in the environment, or a reasonably foreseeable Indirect physical change in the environment, and therefore does not require environmental review. EXHIBITS: 1. City Treasurer's Annual Report of Investment Portfolio for the fiscal year ended June 30, 2014. City Treasurer's Annual Report of Investments Fiscal Year Ended 6/30/14 (FY 13-14) Ccity of Carlsbad 3 City Treasurer's Annual Report of Investments For Fiscal Year Ended June 30,2014 TABLE OF CONTENTS Letter of Transmittal Market Review FY 13-14 Portfolio Analysis Preview FY 14-15 Appendices: A: Risk Management and Disclosure B: Portfolio Activity for Year Ended June 30, 2013 Page 1 2 3 7 9 12 1635 Faraday Avenue, Carlsbad, CA 92008 Website: www, carlsbadca. gov Prepared by the Treasury Department 4^^^ CITY OF VXARLSBAD Office of the Treasurer www.carlsbadca.gov March 2015 Honorable Mayor, City Council, Residents of the City of Carlsbad 1200 Carlsbad Village Drive Carlsbad, CA 92008 City Treasurer Letter of Transmittal 2013-2014 Annual Report of Investments I am pleased to present the Annual Report of Investments for the City of Carlsbad for the fiscal year ended June 30, 2014 (FY 13-14). The report is intended to provide reliable information as a basis for reviewing portfolio performance and making management decisions. It also provides an archival reference. The City Treasurer is charged with the design of an effective cash management and investment program for the City of Carlsbad and all of its agencies. Among other activities this includes arranging for banking services; forecasting all cash receipts and expenditures; investing all inactive cash; managing investment risk exposures; and reporting all investment activities. This report summarizes and analyzes the activities of the investment portfolio for the fiscal year. Total portfolio assets, investment portfolio relative to total city assets, source of portfolio assets, asset allocations, yield achieved, unrealized gains and losses, and cash revenues are presented. To provide perspective to this data a summary of observations are provided about global and domestic markets for the fiscal year ended June 30, 2014. Comparisons are also made with the preceding fiscal years. Finally, a statement is offered regarding the prospects for the fiscal year 2014-2015. Sincerely, Craig Lindholm City Treasurer 1635 Faraday Avenue, Carlsbad, CA 92008-7314 T 760-602-2473 F 760-602-8556 ^ ® CITY TREASURER ANNUAL REPORT OF INVESTMENT PORTFOLIO FOR THE FISCAL YEAR ENDED JUNE 30, 2014 FY13-14 MARKET REVIEW 3.00% 2.75% 2.50% 2.25% 2.00% 1.75% 1.50% 1.25% 1.00% 0.75% 0.50% 0.25% 0.00% Federal Funds Target Rate FY 13-14 2.00% 1.50% 1.00% 0.25% 0.25% 0.25% 0.25% 0.25% 0.25% 0.25% AN Federal funds rate is a key money market rate that correlates with rates of other short term credit arrangements. It is the interest rate that banks charge each other for overnight loans. In fiscal year 13-14, the Federal Reserve maintained the federal funds rate at 0.25 percent. Changes in short-term market interest rates are usually affected by the actions of the Federal Reserve. Six-month and two year market rates remained relatively flat over the course of the fiscal year. The five year market rate increased from 1.40 percent in fiscal year 12-13 to 1.60 percent to end fiscal year 13-14. SHORT-TERM INTEREST RATES Percent 2.50 2.00 1.50 1.00 0.50 0.00 ^ U.S. Treasury Instruments Fiscal Year 2013 - 2014 JUL AUG SEP OCT NOV DEC JAN FEB MAR APR MAY JUN •Five Year • Two Year -6 Month JUL AUG SEP OCT NOV DEC ]AN FEB MAR APR MAY iUN 1.38 1.64 1.38 1.33 1.37 1.74 1.49 1.50 1.75 1.68 1.54 1.63 .31 .40 .32 .31 .28 .38 .33 .32 .45 .41 .38 .46 .07 .05 .03 .08 .10 .09 .05 .07 .06 .04 .05 .06 YIELD CURVE 7/01/13,12/30/13, 6/30/14 Market Rates The yield curve is a graphic presentation of the difference between short-term and longer- term interest rates of U.S. Treasury instruments on a given day. Financial analysts use it to assess the market's expectation of recession or inflation. The normal shape of the yield curve has a moderately upward slope, with short-term rates lower than longer- term rates. If the upward slope steepens, the financial markets believe inflation may occur. An inverted yield curve is when short- term market rates are greater than longer-term market rates. An inverted curve indicates that the financial markets expect a slower economy, if not a recession. At fiscal year end the yield curve showed a relatively moderate upward slope. -^7/1/2013 — 12/31/2013 —6/30/2014 2 Yr 5 Yr 3 Mth 2Yr 5 Yr 10 Yr 0.038 0.311 1.379 2.577 0.068 0.382 1.743 3.029 0.023 0.459 1.631 2.531 10 Yr PORTFOLIO ANALYSIS $700.0 $650.0 $600.0 $550.0 $500.0 $450.0 $400.0 $350.0 $300.0 $250.0 $200.0 $150.0 $100.0 INVESTMENT PORTFOLIO Dollar Amount of Assets (Fiscal Year End) Millions $641.9 $663.3 FY07-08 FY08-09 FY09-10 FY10-11 FY11-12 FY12-13 FY13-14 Total assets in the investment portfolio, based on cost, stood at $663.3 million at the end of the fiscal year; a $21.4 million increase. This increase includes interest earned, loan proceeds, and revenues in excess of expenses. '7 CASH & INVESTMENTS RELATIVE TO TOTAL ASSETS OF CITY AND ITS AGENCIES^= $2,400 $2,200 $2,000 $1,800 $1,600 $1,400 $1,200 $1,000 $600 $400 $200 S Millions $1,712 $1,755 $1,777 J 51,80 3 $1 fl14 $ .827 ,$573 1 .$579 $599 $615 $622 ,$573 1 .$579 $599 $615 $622 ,$573 1 .$579 $599 $615 $622 ,$573 1 .$579 $599 $615 $622 ,$573 1 .$579 $599 $615 $622 ,$573 1 .$579 $599 $615 $622 $649 y ,$573 1 1 1 1 1 $649 y ,$573 1 1 1 1 1 $649 y ,$573 1 1 1 1 1 $649 FY08-09 FY09-10 FYlO-11 FYll-12 FY12-13 FY13-14 I Cash/Investments • Total Assets •Source: Comprehensive Annual Financial Report. The city publishes a Comprehensive Annual Financial Report (CAFR) at the end of each fiscal year. Among other information, the CAFR presents a balance sheet showing the total assets owned by the city and all its agencies. At the end of FY 13-14, cash and investments managed by the City Treasurer represent 36 percent of all assets reported by the city and its agencies. SOURCE OF POOL ASSETS (Dollar Amounts in IVIillions) 6/3 0/1 3 6/30/1 4 General $94. $54.0 .Agency S.L Inl^mal Special & Other $43.0 Enterprise $1 General $101.0 55 Capital 5 57 5 292.0 Agency & Interi^ Enterprise $166.0 Special & Other $ 46.5 Capital $289.0 Total Investments - $638 Million Total Investments - $660 IVIillion The portfolio is an internal investment pool that invests the available cash from various funds of all city agencies, including the city and the water district. The top three sources of portfolio assets calculated at amortized costs are the Capital Projects Fund 44 percent, the Enterprise Fund 25 percent, and the General Fund 15 percent. Together, these three funds account for 84 percent of total portfolio assets. ASSET ALLOCATION (Dollar Amounts in Millions) 6/30/13 6/30/14 CORPORATE LAIF/CASH $126.4 Investments are made in financial instruments authorized by the city's Investment Policy and the California State Government Code. With the exception of bank deposits and deposits in the California State Local Agency Investment Fund (LAIF), all investments are in fixed-income instruments with known maturity dates. On June 30, 2014, 53.5 percent of portfolio assets were invested in federal agencies, 24.5 percent in corporate notes, 0.7 percent in US Treasuries, 2.2 percent certificates of deposit and 19.1 percent in LAIF and cash. The allocation of assets to federal agencies and treasuries increased while the allocation to CD's, LAIF and cash and corporate notes decreased from the previous year. Within the asset category of federal treasuries and agencies, investments in Treasuries, Federal Home Loan Bank, the Federal Home Loan Mortgage Corporation*, the Federal National Mortgage Association*, the Federal Farm Credit Bank, and Federal Agricultural Mortgage Corporation constituted .75, 20, 9, 14, 9 and 2 percent of the total portfolio, respectively. Federal agencies are creations of the U. S. Congress and include agencies and government-sponsored enterprises. LAIF/CASH $156.1 CD $17.3 . US TREASURY $2.1 FEDERAL AGENCY $296.8 CORPORATE $162.5 FEDERAL AGENCY $354.9 Total $641,918,632 Total $663,340,405 PORTFOLIO YIELDS With 6 Month T-Bill Yields FY08-09 FY09-10 FY10-11 FY11-12 FY12-13 FY13-14 -^Portfolio -*-T-Bill FY08-09 FY09-10 FYlO-11 FYll-12 FY12-13 FY13-14 i.ll 2.52 2.06 1.65 1.14 L04 .75 .20 .16 .09 .11 .06 The average return of the portfolio decreased to 1.04 percent from 1.14 percent the year before. The portfolio yield is heavily influenced by changes in short- term market interest rates since 21 percent of total investments were required to mature within one year. The average interest rate for six- month U.S. Treasury Bills decreased to 0.06 percent from 0.11 percent the previous year. 9 This graph shows the percent change in value of the portfolio over the last several years. Investments gain and lose market value subsequent to purchase because of changes in market interest rates. When market interest rates decrease, investments made previously at higher rates will gain value. The reverse is true when market interest rates increase. Accountants refer to these changes in value as unrealized gains and unrealized losses (commonly referred to as paper gains and paper losses). The gain/loss is not recognized until the investment is sold. Changes in value due to changes in market interest rates are normal and are expected. Historical Unrealized Gains/Losses as Percent of Amortized Cost July 2005-June 2014 -1.50% -2.00% -2.50% With a buy and hold policy, an objective of the city's Investment Policy is to achieve an average market rate of return over the economic cycle. The success in achieving this objective can be approximated with having unrealized gains and losses that are relatively equal over time. Tracking and measuring unrealized gains and losses could also reveal any presence of high-risk investments in the portfolio. The changes in asset values shown in the graph indicate that portfolio investments are within the acceptable interest rate risk identified in the city's Investment Policy. The total portfolio had a slight unrealized gain of 0.20 percent on June 30, 2014. If interest rates remain stable, unrealized gains and losses will remain near the zero percent. However, this downward trend will continue if rates increase or when current investments with higher interest rates are called and reinvested at today's significantly lower market rates. 10 Cash income from portfolio investments represents an annual stream of revenues from the Treasury. This annual stream totaled $8.1 million, a decrease of $1.5 million from the previous fiscal year. Of the total cash interest revenues earned by the portfolio, approximately $1.27 million was credited to the General Fund. Cash income is a function of assets in the portfolio, the market interest rates at the time of the investments, and the interest payment schedules of the portfolio holdings. ANNUITY STREAM FROM TREASURY (Cash Interest Revenue) , , For Fiscal Years Indicated Millidiis FY07-08 FY08-09 FY09-10 FYIO-U FYll-12 FY12-13 FY13-14 FY 14-15 PREVIEW National and international economic forces and events have a direct influence on the United States equity and fixed income markets. Global Economy The global economy continues to search for any sign of growth. Weak demand from developed markets has slowed China's exports. In response to this weakened export demand, a variety of strategies have been implemented in an effort to stimulate domestic consumption. So far, the results of these efforts are mixed. The European Central Bank (ECB) has proposed a program of quantitative easing, modeled after similar strategies implemented by our Federal Reserve. The ECB announced that as of mid-2014 the EuroZone inflation rate was 0.30 percent with an annualized rate of 0.90 percent. Genuine concern is building as to whether deflation may be forming, making growth even more elusive. Germany continues to produce over 50 percent of the total EuroZone GDP. Japan is feeling the effects of a consumption tax increase implemented April 1. Real disposable income is down 6 percent over this past year and prices are rising due to depreciation in the Japanese yen. GDP is projected to be down 1.6 percent this year after hitting a historical high six years ago. In summary, global economic conditions remain fragile. // U.S. Economy The first round of Quantitative Easing was initiated in 2008 and continues today. The primary effect of this extraordinary commitment to both issue and repurchase $85 billion monthly of US debt instruments has been to suppress interest rates to historical low levels. In mid-2014, the Federal Reserve stated it was likely to wind down this program by October. It is widely acknowledged that this multiyear monetary policy has supported a substantial increase in stock market valuations. The current bull market started over five years ago. Corporate balance sheets are strong with historical levels of cash on hand. Individuals and corporations have benefited from the historical low interest rates. Significant deleveraging has occurred through refinancing and consolidation of existing debt. Corporations have not announced expansion or other strategies that would deploy some of the accumulated capital. Uncertainty is one reason that is often referenced by corporations for holding back. Capacity utilization figures suggests further growth can be supported in most areas of the economy. As individuals and families focus on debt reduction, it positions them for improving consumer sentiment. At some point, we can expect to see a return of the consumer and consumption in many areas of the economy. One extraordinary area of growth is that of new automobile sales. After a prolonged period of low interest rates and with the average age of automobiles on the road greater than 10 years, sales have rebounded. End of year sales projections call for approximately 17million new cars and trucks to be sold. Contributing to this growth is the very accommodating interest rate environment to finance or lease these new vehicles. Overall, job growth remains subpar when contrasted against previous recoveries. The unemployment figure stood at 6.1 percent in the month of June. US Gross Domestic Product (GDP) is projected to come in at just under 2 percent by end of year, much of this back-loaded into the second half of the year. Inflation is showing no sign of becoming a problem within the broader economy. Energy discovery and production continues to benefit our economy. Incomprehensible only 10 years ago, we are on track to free ourselves of imported oil to fuel our economy. Previously importing approximately 60 percent of our energy requirements, we have the potential to become the world's largest exporter of oil natural gas and refined products. Housing valuations continue to show improvement year-over-year. Greatest strength has been evidenced in multi-family construction. Young individuals and families are looking for apartments to establish their households. Existing home sales have shown some improvement. Inventory is very constrained for new housing construction but data is suggesting a modest increase as demonstrated by construction permits issued. At the end of FY 13-14, LAIF investments had a yield of 0.23 percent, and all other investments had a yield of 1.06 percent. Revenues on all investments will decrease due to the low interest rate environment. On June 30, 2014 the yield of the total portfolio averaged 1.04 percent. Total assets in the investment portfolio stood at $663 million at the end of FY 13-14. 8 APPENDICES TO ANNUAL REPORT OF INVESTMENT PORTFOLIO APPENDIX A: RISK MANAGEMENT AND DISCLOSURE All investments are exposed to risk of some type. The objective of risk management is to identify the risks involved and establish acceptable levels of risks that are consistent with the city's investment objectives. Risk management includes managing, measuring, monitoring, and reporting the various risks to which portfolio investments are exposed. Portfolio investments are exposed to the following types of risks: A. Credit risk a. Custodial credit risk a) Investments b) Deposits b. Default credit risk c. Concentration credit risk B. Interest rate risk C. Event Risk As of June 30, 2014, the portfolio had the following investments and cash in its internal investment pool. Market Value Investment Maturities Market Value Gain (Loss) U. S. agencies July 2014 -June 2019 $359,087,000 $ (197,000) Corporate Notes Sept 2014-•Nov 2018 161,068,000 1,236,000 Certif. of Deposit Aug 2014-Apr 2018 14,579,000 12,000 LAIF 122,473,000 37,000 Sweep accounts 3,474,000 — Cash accounts 493000 — Total $661,174,000 $1,088,000 /3 Disc/osures Custodial Credit Risk (Investments). The city uses a third party custody and safekeeping service for its investment securities. The Mitsubishi UFJ Financial Group Union Bank, N.A. (MUFGUB) is under contract to provide these custodial services. Custodial credit risk is the risk that the city will not be able to recover the value of its investments in the event of a UBC failure. All city investments held in custody and safekeeping by MUFGUB are held in the name of the city and are segregated from securities owned by the bank. This is the lowest level of custodial credit risk exposure. Custodial Credit Risk (Deposits). The city maintains cash accounts at Wells Fargo Bank (WFB) and MUFGUB. At the conclusion of each business day, balances in these accounts are "swept" into overnight investments. These overnight investments are pooled and collateralized with either U.S. government securities or U.S. agency securities. The California Code authorizes this type of investment. A small amount of cash is not swept from the WFB checking accounts to cover checks that may be presented for payment. Amounts up to $250,000 are FDIC insured. Default Credit Risk. Default credit risk is the risk that the issuer of the security does not pay either the interest or the principal when due. The debts of most U.S. agencies are not backed by the full faith and credit of the federal government; however, because the agencies are U.S. Government-sponsored, they carry AA credit ratings. The default credit risk of these investments is minimal. Unless otherwise exempted, California state code limits investments to the top three credit ratings (AAA, AA, and A). It is the city's policy, however, to limit investments to the top two credit ratings (AAA and AA). As of June 30, 2014, three investments in corporate notes had a credit rating below the AA limit. These investments were made when the credit ratings were either AAA or AA. California state code and the city's Investment Policy allow the City Treasurer to determine the course of action to correct exceptions to the policy. It is the intent of the City Treasurer to hold these investments in the portfolio until maturity unless events indicate a sale should be made. The default credit risk for corporate notes with a credit rating of single A is higher than U.S. Treasuries, federal agencies or LAIF, but is considered by the City Treasurer to be within acceptable limits for purposes of holding to maturity. The Local Agency Investment Fund (LAIF) is an investment pool managed by the California State Treasurer. Its investments are short-term and follow the investment requirements of the state. As of June 30,2014, the average maturity of the LAIF investments was 232 days. The State Treasurer is not required to contract for a credit rating to be assessed for LAIF. California state code section 16429.3 excludes LAIF deposits from being transferred, loaned, impounded or seized by any state agency or official. 10 Concentration Credit Risk. Concentration credit risk is the heightened risk of potential loss when investments are concentrated in one issuer. The California state code does not identify a specific percentage that indicates when concentration risk is present for any one issuer. The state code does, however, require that total investments in medium-term corporate notes of all issuers not exceed 30 percent of the portfolio. As of June 30, 2014, approximately 24.5 percent of the city's total portfolio investments were in medium-term corporate notes. For concentration of investments in any one issuer, the city's Investment Policy requires that no more than 5 percent of investments in corporate notes be in any one issuer. There is no similar requirement in either the state code or the city's Investment Policy for U.S. agencies. As of June 30, 2014, no investments in any one corporate issuer exceeded 5 percent of total portfolio investments. Interest Rate Risk. Interest rate risk is the risk that investments will lose market value because of increases in market interest rates. A rise in market interest rates will cause the market value of investments made earlier at lower interest rates to lose value. The reverse will cause a gain in market value. As of June 30, 2014, the portfolio had a 0.412 percent gain in market value. The city's Investment Policy has adopted two means of limiting its exposure to market value losses caused by rising market interest rates: (1) Limiting total portfolio investments to a maximum modified duration of 2.2, and (2) requiring maturing investments within one year be equal to an amount that is not less than 2/3 of the current operating budget ($211,172,000). As of June 30, 2014, the modified duration of the portfolio was 2.08, within the required maximum of 2.2. Investments maturing within one year were $193,311,000, exceeding the required minimum of $140,781,000. The city's exposure to interest rate risk is within acceptable limits. Event Risk. Event risks include the chance that something unexpected will impede the ability of an issuer of a security to meet its obligations. These types of risks are usually short in duration, but can impair the city's ability to communicate with or use banking services. Such an event could cause a delay in collecting securities which have matured. Security risks are also within this category. 11 APPENDIX B: PORTFOLIO ACTIVITIES FOR FISCAL YEAR ENDED JUNE 30, 2014 The city's portfolio balance increased 3.3 percent from $641.9 million to $663.3 million based on cost in fiscal year 2013-14. The increase of $21.4 million does little to show the volume of cash that flows in and out of the portfolio in the course of one fiscal year. The following table illustrates that the City Treasurer managed over two billion dollars of cash inflows and cash outflows which prompted investment decisions during fiscal year 2013-14. Cash Flows: Bond Maturities $ 56,430,000 Bond Calls 52,150,000 LAIF Withdrawals 181,643,000 Sweep Withdrawals 835,964,000 Interest Income 8,106,000 Bond Purchases 161,922,000 LAIF Investments 155,266,000 Sweep Investments 861,280,000 Cash Investments (net) (155.000) Total $2.312.606.000 12