HomeMy WebLinkAbout2017-06-13; City Council; ; Annual Report of Investment Portfolio for year ended June 30, 2016Page 24
Annual Report of Investment Portfolio for Year Ended June 30, 2016
Meeting Date: June 13, 2017
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Fiscal Analysis
None
Next Steps
The Annual Report of Investment Portfolio is produced once a year by the City Treasurer.
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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.
Public Notification
This report is made available at least 72 hours prior to the posting of the agenda.
Exhibits
1. Annual Report of Investment Portfolio for Year Ended June 30, 2016
City Treasurer’s
Annual Report of Investments
For Fiscal Year Ended June 30, 2016
TABLE OF CONTENTS
Page
Letter of Transmittal 1
Market Review FY 15-16 2
Portfolio Analysis 3
Review Summary FY 15-16 7
Preview FY 16-17 8
Appendices:
A: Risk Management and Disclosure 9
B: Portfolio Activity for Year Ended June 30, 2016 12
1635 Faraday Avenue, Carlsbad, CA 92008
Website: www.carlsbadca.gov
Prepared by the Treasury Department
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Treasury Department
April 10, 2017
Honorable Mayor, City Council,
Residents of the City of Carlsbad
1200 Carlsbad Village Drive Carlsbad, CA 92008
City Treasurer Letter of Transmittal
2015-2016 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, 2016 (FY 15-16). 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, 2016.
Comparisons are also made with the preceding fiscal years. Finally, a statement is
offered regarding the prospects for the fiscal year 2016-2017.
Sincerely,
Craig J. Lindholm
City Treasurer
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CITY TREASURER
ANNUAL REPORT OF INVESTMENT PORTFOLIO
FOR THE FISCAL YEAR ENDED JUNE 30, 2016
FY15-16 MARKET REVIEW
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 15-16, the Federal Reserve increased the federal funds rate from 0.25 percent
to 0.50 percent in December 2015.
Changes in short-term market
interest rates are usually affected
by the actions of the Federal Reserve.
The five year and two year market
rates decreased from 1.65 percent
and 0.65 percent in fiscal year 14-15 to 1.00 percent and 0.58 percent respectively in fiscal year 15-16.
The six-month market rate
increased slightly from 0.11
percent in fiscal year 14-15 to 0.35
percent to end fiscal year 15-16.
Federal Funds Target Rate
FY 15-16
2.00%
1.50%
1.00%
0.25%0.25%0.25%0.50%0.50%
0.00%
0.25%
0.50%
0.75%
1.00%
1.25%
1.50%
1.75%
2.00%
2.25%
2.50%
2.75%
3.00%
0.25%0.25%0.25%0.25%0.25%
SHORT-TERM INTEREST RATES
U.S. Treasury Instruments
Fiscal Year 2015 -2016
0.00
0.50
1.00
1.50
2.00
2.50
JUL AUG SEP OCT NOV DEC JAN FEB MAR APR MAY JUN
Five Year
Two Year
6 Month
Percent
JUL AUG SEP OCT NOV DEC JAN FEB MAR APR MAY JUN
1.53 1.55 1.36 1.52 1.65 1.76 1.33 1.21 1.21 1.30 1.37 1.00
.66 .74 .63 .73 .93 1. 05 .78 .78 .72 .78 .88 .58
.15 .23 .07 .23 .42 .48 .43 .47 .38 .38 .45 .35
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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.
PORTFOLIO ANALYSIS
Total assets in the investment portfolio, based
on cost, stood at $719.5
million at the end of the
fiscal year; a $18.9 million increase. This increase includes interest earned,
loan proceeds, and revenues
in excess of expenses.
YIELD CURVE
7/01/15, 12/30/15, 6/30/15
0
0.5
1
1.5
2
2.5
3 Mth 2 Yr 5 Yr 10 Yr
7/1/2015
12/31/2015
6/30/2016
3 Mth 2 Yr 5 Yr 10 Yr
0.008 0.645 1.649 2.354
0.165 1.050 1.761 2.270
0.261 0.584 1.000 1.471
Market Rates
INVESTMENT PORTFOLIO
Dollar Amount of Assets (Fiscal Year End)
$570.2 $574.6 $601.4 $628.6 $641.9 $663.3
$700.6 $719.5
$100.0
$150.0
$200.0
$250.0
$300.0
$350.0
$400.0
$450.0
$500.0
$550.0
$600.0
$650.0
$700.0
$750.0
$800.0
FY08-09 FY09-10 FY10-11 FY11-12 FY12-13 FY13-14 FY14-15 FY15-16
Millions
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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 15-16, cash and investments managed
by the City Treasurer
represent 37 percent of all
assets reported by the city and its agencies.
SOURCE OF POOL ASSETS
(Dollar Amounts in Millions)
$122.0 $44.0
$297.0$59.0
6/30/15
Total Investments -$698 Million
$134 $44
$294
$181
$64
6/30/16
Total Investments -$717 Million
$176.0
General Special & Other
Capital
Enterprise
Agency & Internal
General Special & Other
Capital
Enterprise
Agency & Internal
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 41 percent, the Enterprise Fund 25
percent, and the General Fund 19 percent. Together, these three funds account for 85 percent of total portfolio assets.
CASH & INVESTMENTS RELATIVE TO
TOTAL ASSETS OF CITY AND ITS AGENCIES*
$579 $599 $615 $622 $649 $686 $699
$0
$200
$400
$600
$800
$1,000
$1,200
$1,400
$1,600
$1,800
$2,000
$2,200
$2,400
FY09-10 FY10-11 FY11-12 FY12-13 FY13-14 FY14-15 FY15-16
Cash/Investments Total Assets
$1,806 $1,814 $1,868
*Source: Comprehensive Annual Financial Report.
$$1,909
$1,755
$ Millions
$1,827$1,777
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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, 2016, 45.4 percent of portfolio assets were invested in
federal agencies, 23.4 percent in
corporate notes, 9.9 percent in US
Treasuries, 2.1 percent certificates of deposit and 19.2 percent in LAIF and cash. During the past fiscal year
the allocation of portfolio assets to
treasuries, LAIF, cash, corporates,
and CD’s increased while allocation to federal agencies 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, Federal
Agricultural Mortgage Corporation and Financing Corporation constituted 10, 13, 9, 10,10, 2 and
1 percent of the total portfolio, respectively. Federal agencies are creations of the U. S. Congress
and include agencies and government-sponsored enterprises.
The average return of the portfolio
increased to 1.16 percent from 1.09
percent the year before. The portfolio yield is heavily influenced by changes in short-term market
interest rates since 22 percent of
total investments were required to
mature within one year. The average interest rate for six-month U.S. Treasury Bills increased to 0.34
percent from 0.07 percent the
previous year.
PORTFOLIO YIELDS
With 6 Month T-Bill Yields
0
0.5
1
1.5
2
2.5
FY10-11 FY11-12 FY12-13 FY13-14 FY14-15 FY15-16
Portfolio
T-Bill
Percent
FY10-11 FY11-12 FY12-13 FY13-14 FY14-15 FY15-16
2.06 1.65 1.14 1.04 1.09 1.16
.16 .09 .11 .06 .07 .34
ASSET ALLOCATION
(Dollar Amounts in Millions)
$368.0
LAIF/CASH
FEDERAL
AGENCY
CORPORATE
LAIF/CASH
CORPORATE
FEDERALAGENCY
Total $719,458,782Total $700,626,367
$326.7
$138.1
$168.3
$129.2
$158.8
$71.1
USTREASURY
CD
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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 to be expected.
-1.00%
-0.50%
0.00%
0.50%
1.00%
1.50%
2.00%
2.50%
3.00%Unreal G/L %
Historical Unrealized Gains/Losses
as Percent of Amortized Cost
July 2008 – June 2016
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 0.69 percent on June 30, 2016. If interest rates remain stable, unrealized gains and losses will remain near 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.
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Cash income from portfolio
investments represents an
annual stream of revenues from
the Treasury. This annual stream totaled $8.7 million, an increase of $0.8 million from
the previous fiscal year. Of the
total cash interest revenues
earned by the portfolio, approximately $1.8 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.
FY 15-16 REVIEW
National and international economic forces and events have a direct influence on the United States
equity and fixed income markets.
Global Economy
The year in review from July 1, 2015 through June 30, 2016 could be described by one word-Brexit. In an election followed so closely and outcome missed by virtually all political analysts, the citizens of Britain voted yes on a proposal to leave the European Union. This decision to step
away from the globalist trends of political bodies around the world is still being analyzed for it’s
true meaning as debates continue about why this vote went the direction it did.
Some attribute the open borders and mass migration into the European Union as a catalyst. Others suggest a rise in Nationalism. In any event, the Central Bankers in most major economies
have been extremely busy attempting to stimulate their economic growth through large doses of
easy monetary policy. Several countries (Japan & Germany) slipped into negative interest rates
at certain maturity points on their yield curve as a result of these policies.
ANNUITY STREAM FROM TREASURY
(Cash Interest Revenue)
For Fiscal Years Indicated
$9.57 $8.1 $8.7
$18.3
$14.6
$12.4
$7.9
$0.00
$3.00
$6.00
$9.00
$12.00
$15.00
$18.00
$21.00
$24.00
$27.00
FY09-10 FY10-11 FY11-12 FY12-13 FY13-14 FY14-15 FY15-16
Millions
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U.S. Economy
US Gross Domestic Product (GDP) growth has been muted but steady as our recovery from the
great recession continues. From a historical perspective this recovery is one of the weakest on record. Job growth has not yet materialized to provide more disposable income.
FY 16-17 PREVIEW
The environment going forward continues to be challenging as economies around the world look
for ways to stimulate growth. The backdrop of terrorist activities places constraints on economic
growth. We anticipate a continued cautious approach to increasing US interest rates as the Fed monitors data points for any sign of weakness that may warrant a pause. In the meanwhile, the US equity markets have priced in an assumption of meaningful tax reform which may not be
achievable given the toxic political climate in Washington.
At the end of FY 15-16, LAIF investments had a yield of 0.55 percent, and all other investments
had a yield of 1.30 percent. Revenues on investments are projected to remain flat or increase
slightly due to the continuing low interest rate environment.
On June 30, 2016 the yield of the total portfolio averaged 1.16 percent. Total assets in the investment portfolio stood at $719.5 million as measured on a cost basis at the close of FY 15-16.
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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, 2016, 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 2016 – June 2021 $400,486,000 $ 2,658,000
Corporate Notes Aug 2016 – May 2021 167,596,000 1,122,000 Certif. of Deposit Aug 2016 – June 2021 15,516,000 229,000
LAIF 128,133,000 80,000
Sweep accounts 9,353,000 --
Cash accounts 726,000 --
Total $721,810,000 $4,089,000
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Disclosures
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, 2016, two 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, 2016, the average maturity of the LAIF investments was 167 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.
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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, 2016, approximately 23.4 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, 2016, 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, 2016, the portfolio had a 0.39 percent gain in market value based on
cost.
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 $240,385,000. As of June 30, 2016,
the modified duration of the portfolio was 1.801, within the required maximum of 2.2. Investments
maturing within one year were $264,011,000, exceeding the required minimum of $160,258,000. 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.
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APPENDIX B: PORTFOLIO ACTIVITIES FOR FISCAL YEAR ENDED JUNE 30, 2015
The city’s portfolio balance increased 2.7 percent from $700.6 million to $719.5 million based on
cost in fiscal year 2015-16. The increase of $18.9 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 three billion dollars of cash inflows and cash outflows which
prompted investment decisions during fiscal year 2015-16.
Cash Flows: Bond Maturities $ 93,491,000 Bond Calls 196,727,000
LAIF Withdrawals 244,293,000
Sweep Withdrawals 974,907,000
Interest Income 8,679,000 Bond Purchases 301,613,000 LAIF Investments 251,549,000
Sweep Investments 968,714,000
Cash Investments (net) 5,917,000
Total $3,045,890,000
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