One of the biggest challenges in treasury is still cash. As one treasurer said recently to EuroFinance: “What do you do to reduce the impact of negative interest rates? We are very conservative and we don’t take additional risks so we have to take the hit. We did some diversification on investment products and we will now include corporate bonds but I want to hear how to avoid negative interest rates without taking too much risk.”
It’s a typical demand and one that treasurers have long been known for making – risk-free yield, and it’s as unlikely now as it’s always been, especially with the limitations many corporates impose: “We are very conservative, we don't get involved in anything complicated. We do term deposits through our bank relationships, there is nothing else we can do,” says the treasurer of one Swiss company.
While core European rates remained negative, yield enhancement strategies focused on diversification. First, moving into non-EU bonds provided an instant yield pick-up. Second, asset managers encouraged allocating a proportion of cash to credit – corporate bonds, asset-backed commercial paper or even funds specialising in sub-ordinated or high-yield debt while maintaining cash exposure with products such as cash ETFs.
But it may be time for a re-think on cash piles and investment strategies as treasures are forced to confront the re-emergence of an almost forgotten variable: inflation.
Federal Reserve Bank of New York surveys of consumer expectations have shown a steady increase in inflation expectations to 3.0 percent and core inflation itself surprised to the upside in December at 2.2 percent. Annual average CPI is forecast around 2.0% in 2017 versus 1.3% in 2016. This rise began even before the election of Donald Trump as US president. That election, if the new president’s policies unfold as he has announced, will significantly add to inflationary pressures as Nouriel Roubini, Professor of Economics and International Business at the Stern School of Business, New York University, has pointed out:
“[Another] reason for investors to curb their enthusiasm is the spectre of inflation. With the US economy already close to full employment, Trump’s fiscal stimulus will fuel inflation more than it does growth. Inflation will then force even Janet Yellen’s dovish Federal Reserve to hike up interest rates sooner and faster than it otherwise would have done, which will drive up long-term interest rates and the value of the dollar still more.”
The latest figures from China, released on February 13, by China’s National Bureau of Statistics show that PPI jumped by 6.9% from a year earlier, the largest annual increase reported since August 2011. This was well above the 6.3% increase expected, and followed a 5.5% rise in the year to December. Food inflation rose by 2.7% over the year, up from 2.4% in the previous month, while non-food prices jumped by 2.5%, again above the 2.0% level reported previously. This suggests that inflationary pressures are now accelerating throughout the broader Chinese economy.
Meanwhile in the Eurozone, despite the negative tone of most commentary, the economy has now posted 14 consecutive quarters of growth, the unemployment rate has returned into single digits, and economic sentiment has reached its highest level in six years. Eurozone GDP rose by 0.5% in the last three months of 2016, new data shows, meaning that it grew faster last year than America. Even laggard Italy had its best annual economic growth since 2010 despite political turmoil and a banking crisis. This growth has pushed up inflation. CPI is up 1.8% year-on-year and the European Central Bank’s target is 2%.
Rather than worry about low or negative yields, treasurers need to start thinking about cash in an inflationary world.