Drivers of Portfolio Performance

penredheadManagement

Nov 18, 2013 (3 years and 10 months ago)

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Presented by:

Barbara Boswell

Finance Director

City of Lancaster

David Witthohn, CFA, CIPM

Director

Cutwater Asset Management


Drivers of Portfolio Performance

California Society of Municipal Finance Officers (CSMFO)

February 21, 2013

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2

2

Cash Flow
Forecasting

Last saved: Thursday, July 19, 2012 at 7:29 PM

2

Do you really need most of your funds within the next 24
hours?

71.0%
10.0%
8.0%
8.0%
3.0%
0.0%
0.0%
0%
10%
20%
30%
40%
50%
60%
70%
80%
0 - 3 months
3 - 6 months
6 - 12 months
1 - 2 years
2 - 3 years
3 - 4 years
4 - 5 years
Maturity Distribution


to final

3

Target Duration: Risk/Return Tradeoff


Normally, the yield curve provides higher returns for longer maturities, but
these incremental increases are much smaller for securities that are more
than 10 years to maturity.


Source: Bloomberg

4

What is a Cash Flow Forecast?


Projection of anticipated receipts


Projection of anticipated disbursements


Estimate of investable cash balances


Liquid funds


Core funds

5

Why Prepare a Cash Flow Forecast?


Improves investment earnings


Ensures liquidity for disbursements


Identifies short
-
term cash deficits


Warns of impending budget problems

6

Major Impediments to Forecasting


Tendency to think in budget years


Difficulty distinguishing between fund balance and cash
balance


Inadequate time and/or staff


Unpredictability of revenues and expenditures


Lack of information and communication


Lack of adequate technology

7

Types of Cash Forecasts

Annual Forecasts


Estimates monthly cash position


Determines cash available for investments


Provides a useful monthly overview for investment decision
-
making


Prepared for this fiscal year and next one
-

to two
-
fiscal years

8

Types of Cash Forecasts

Project
-
based Forecasts


Provides monthly data on status of capital projects


Helps fine tune monthly and weekly forecasts


May require input from contractors or in
-
house project managers


9

Tools for Cash Flow Forecasting


Historical data from general ledger


Historical data from bank statements


Current year budget


Capital project spending projections


Other major departments’ budgets


Schedule of investment maturities and coupon payments

10

Identify Revenues and Expenditures

Major revenue types


Property tax


Sales and use tax


User fees


Federal and state assistance


Grants


Bond proceeds


Other

Major expenditure types


Payroll (net)


Withholding and benefits


Debt service


Capital expenditures


Materials and supplies


Overhead (e.g., utilities)


Other


11

Forecasting Receipts


Identify 4
-
5 categories for major sources of revenue


Compile historical data of actual monthly receipts


Identify significant changes


Identify non
-
recurring items from prior years and for
coming year


Develop analysis of monthly receipts as a percent of
annual


Adjust historical distribution for known differences

12

Projected Monthly Receipts
Jan
Feb
Mar
Apr
May
Jun
Total
Property Tax
$2,775
$975
$0
$895
$2,855
$0
$15,000
Sales Tax
$718
$293
$319
$212
$771
$351
$2,661

Water
$209
$209
$209
$209
$209
$209
$2,508

State
$2,017
$0
$0
$2,017
$0
$0
$8,068
Other
$45
$45
$45
$45
$45
$45
$540
Total
$5,764
$1,522
$573
$3,378
$3,880
$605
$28,777
Receipts Forecast

13

Forecasting Disbursements


Establish reasonable number of categories


Compile historical data of actual monthly disbursements


Identify significant changes


Identify non
-
recurring items from prior years and for
coming year


Develop analysis of recurring monthly disbursements as a
percent of annual


Include debt service payments

14

Projected Monthly Disbursements
Jan
Feb
Mar
Apr
May
Jun
Total
Payroll
$1,130
$1,103
$1,103
$1,103
$1,144
$1,144
$13,614
Payables
$65
$65
$65
$65
$65
$65
$780

Capital Projects
$32
$33
$50
$23
$44
$47
$456

Debt Service
$23
$0
$0
$46
$0
$0
$86
Other
$25
$25
$25
$25
$25
$25
$540
Total
$1,275
$1,226
$1,243
$1,262
$1,278
$1,281
$15,476
Disbursement Forecast

15

Creating a Cash Flow Forecast


Beginning balance of cash and investments


Monthly revenue projections


Monthly expenditure projections


Projected net change


Projected cumulative balance of cash and investments

16

Jan
Feb
Mar
Apr
May
Jun
Beginning
Balance
$3,200





Projected






Receipts
$5,764
$1,522
$573
$3,378
$3,880
$605







Projected

Disbursements
$1,275
$1,226
$1,243
$1,262
$1,278
$1,281
Net Receipts
(Disbursements)
$4,489
$296
($670)
$2,116
$2,602
($676)
Cumulative
Balance
$7,689
$7,985
$7,315
$9,431
$12,033
$11,357
17

Cash Flow Forecast

Estimate Timing of Investments


Schedule of current investments


List of maturity dates


Schedule of income payments

18

Required Liquidity


Look at the projected net cash flows and hold the amount
required to meet the largest negative month and add a
margin of safety


Establish a required minimum cash balance that you
would prefer to have available.

19

Comprehensive Cash Flow Forecast


Beg. Balance
Jan-13
Feb-13
Mar-13
Apr-13
May-13
Jun-13
Total
Beg. Balance
19,534,000






Property Tax Revenues
519,000
2,766,000
442,000
498,000
496,000
181,000
8,702,000
Other Revenues
1,134,000
1,134,000
1,168,000
1,202,000
1,134,000
1,285,000
11,648,000
Payroll and Payables
(1,386,000)
(1,395,000)
(1,427,000)
(1,354,000)
(1,455,000)
(1,550,000)
(11,829,000)
Capital Projects
(95,000)
(105,000)
(65,000)
(150,000)
(180,000)
(45,000)
(4,235,000)
Debt Service
0
0
0
0
0
(1,430,000)
(3,245,000)
Projected Net Change
172,000
2,400,000
118,000
196,000
(5,000)
(1,559,000)
Portfolio Income & Maturity
0
0
0
250,000
1,525,000
1,023,000

Projected Cash Balance
19,534,000
19,706,000
22,106,000
22,224,000
22,420,000
22,415,000
20,856,000
Required Liquidity
10,000,000
10,000,000
10,000,000
10,000,000
10,000,000
10,000,000
10,000,000
Core Portfolio
9,534,000
9,706,000
12,106,000
12,224,000
12,420,000
12,415,000
10,856,000

20

Review Cash Forecast


Compare actual versus forecast


Identify reasons for variances


Adjust assumptions if warranted


Follow up with department heads on capital project
slippage


Update database for accurate future projection


Retain documentation for future reference

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Portfolio
Management

Last saved: Thursday, July 19, 2012 at 7:29 PM

22

How Did We Get Here?

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Active Management Strategies


There are three primary drivers of performance for high quality short
-
term fixed income portfolios:






Duration management




Sector allocation




Security selection










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Duration Management

Last saved: Thursday, July 19, 2012 at 7:29 PM

25

Cash Flow Analysis


To determine how much money you have to invest in your core portfolio and
for how long, you need to analyze some basic cash flow projections. Here is
an illustration of what that could look like.


$-
$20
$40
$60
$80
$100
$120
$140
Millions $

Cash Flow Illustration

Liquid Funds
Core Funds
Historical
Cash

Flows

Projected Cash Flows

26

Traditional Portfolio Structure


Utilizes traditional money market sectors




Manages liquidity and credit risks




Enables timely reinvestment of cash flows




Captures best duration risk
-
adjusted returns with the
“reserve” portion of the portfolio



Allocates to government and high quality sectors,
ensuring liquidity if needed



Insulates portfolio return from interest rate volatility,
enhancing portfolio performance

Liquidity
Portion of
Portfolio


1 to 3 Year
Portion of
Portfolio

30%

70%

27

1.81%

2.11%

2.24%

2.75%

3.36%

4.38%

0

0

4

6

11

14

0
2
4
6
8
10
12
14
16
18
20
0.00%
0.50%
1.00%
1.50%
2.00%
2.50%
3.00%
3.50%
4.00%
4.50%
5.00%
3-month Treasury Bill
6-month Treasury Bill
1-Year Treasury
1-3 Year Treasury
Index
1-5 Year Treasury
Index
3-5 Year Treasury
Index
Return
Number of Negative Quarters
Analyzing the Risk/Return Tradeoff

Source: Bloomberg

Return vs. Number of Negative Quarters

January 1, 2003 to December 31, 2012

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Reduces Volatility of Returns

Source: Bloomberg

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Duration Management
-

Looking
Forward

Last saved: Thursday, July 19, 2012 at 7:29 PM

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0.00%
1.00%
2.00%
3.00%
4.00%
5.00%
6.00%
Dec-05
Dec-06
Dec-07
Dec-08
Dec-09
Dec-10
Dec-11
Dec-12
7
-
Year Average


2.17

Lengthen Duration

Shorten Duration

Duration Management

Source: Bloomberg

31

Yield Curve
-

top of the interest rate cycle


The curve is inverted, enticing investors to stay short.

Source: Bloomberg

Lengthen Maturity

-
40 Basis Points

32

Yield Curve
-

bottom of the interest rate cycle


The curve is steeply sloped, enticing investors to extend maturities, lower
quality or take on extension risk.

Source: Bloomberg

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Sector
Allocation

Last saved: Thursday, July 19, 2012 at 7:29 PM

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Sector Allocation
-

Treasury, Agency & Corporate

Source: Bloomberg

35

Sector Allocation


Treasury, Agency & Corporate

Source: Bloomberg

36

Sector Allocation
-

Treasury to Agency Spreads

Source: Bloomberg

37

Sector Allocation


Corporate
MTN

Source: Bloomberg

38

Disclaimer:

All securities shown in this presentation are shown for the purpose of
instruction only
and
are not recommendations to buy or sell a specific security. Cutwater Asset Management acts solely as an
investment advisor and not as a broker dealer.

Sector Allocation


Corporate
MTN

Source: Bloomberg

39

Commercial Paper


“the other corporate”

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Security Selection


Security Structure

Last saved: Thursday, July 19, 2012 at 7:29 PM

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0.00%
1.00%
2.00%
3.00%
4.00%
5.00%
6.00%
Dec-05
Dec-06
Dec-07
Dec-08
Dec-09
Dec-10
Dec-11
Dec-12
7
-
Year
Average


2.17%

Buy Callables

Buy Non
-
callables

Security Selection
-

Structure

Source: Bloomberg

42

Security Selection
-

Structure


The structure of a callable security greatly affects both the bond’s
duration and performance. Extension risk is a big issue with callable
securities.

Source: Bloomberg

235
days

1,695
days

43

How Many Callables is Too Many?

Report Date:
12/31/07
Wtd. Avg.
Wtd. Avg.
Weighted
Issuer /
Maturity
Call
Acquisition
% of
Days to
Days to
YTM
Maturity
Maturity
Average
Security
Coupon
Date
Date
Cost
Portfolio
Final
Call
(Purchase Y)
to Final
Call
Yield
FHLB
3.100%
01/08/08
1,000,000.00
8
3.100%
0.86
0.86
0.334%
FHLMC
4.890%
02/01/08
429,959.00
32
5.000%
1.48
1.48
0.232%
FHLB-Called
4.570%
04/29/08
01/29/08
359,507.00
120
29
5.000%
4.65
1.12
0.194%
FHLB
5.000%
06/27/08
125,000.00
179
5.000%
2.41
2.41
0.067%
FNMA
3.250%
08/15/08
371,528.00
228
3.000%
9.13
9.13
0.120%
FHLB-Called
4.600%
08/22/08
02/05/08
374,415.00
235
4.850%
9.49
9.49
0.196%
FHLB
4.010%
09/17/08
03/17/08
347,995.00
261
4.860%
9.79
9.79
0.182%
FHLB
4.570%
10/17/08
349,839.00
291
4.630%
10.98
10.98
0.175%
FHLB
4.100%
11/26/08
02/26/08
348,218.00
331
4.700%
12.43
12.43
0.176%
FNMA
4.550%
12/01/08
06/01/08
431,669.00
336
153
4.900%
15.64
7.12
0.228%
FHLB-Called
5.000%
01/02/09
01/02/08
430,461.00
368
2
4.880%
17.08
0.09
0.227%
FNMA-Called
4.100%
02/13/09
02/04/08
399,827.00
410
35
4.850%
17.68
1.51
0.209%
FHLB
4.000%
02/23/09
02/04/08
357,265.00
420
35
4.700%
16.18
1.35
0.181%
FHLB-Called
4.660%
04/13/09
01/16/08
369,290.00
469
16
4.810%
18.68
0.64
0.192%
FFCB-Called
4.300%
06/09/09
01/25/08
303,205.00
526
25
4.730%
17.20
0.82
0.155%
FHLB-Called
4.550%
07/14/09
01/28/08
209,365.00
561
28
4.760%
12.67
0.63
0.107%
FHLB-Called
4.520%
08/26/09
01/28/08
119,538.00
604
28
4.770%
7.79
0.36
0.061%
FHLMC-Called
4.500%
08/10/09
01/10/08
349,962.00
588
10
5.150%
22.19
0.38
0.194%
FHLMC-Called
4.500%
08/10/09
01/10/08
159,982.00
588
10
5.150%
10.14
0.17
0.089%
FHLB
4.280%
09/08/09
03/08/08
198,486.00
617
68
4.760%
13.21
1.46
0.102%
FNMA-Called
4.500%
09/30/09
01/22/08
443,103.00
639
22
4.760%
30.53
1.05
0.227%
FHLMC-Called
4.130%
10/09/09
01/30/08
291,661.00
648
30
4.800%
20.38
0.94
0.151%
FFCB-Called
4.500%
11/13/09
02/01/08
1,404,513.00
683
32
4.320%
103.44
4.85
0.654%
FFCB-Called
4.300%
11/18/09
02/01/08
98,985.00
688
32
4.880%
7.34
0.34
0.052%
Totals
9,273,773.00
$

391.37
79.41
4.507%
44

06/30/10

Final

Effective

Weighted

Issuer /

Maturity

Call Date

Acquisition

% of

Days to

Days to

YTM

Wtd. Avg.

Wtd. Avg.

Average

Security

Coupon

Date

(if any)

Cost

Portfolio

Final

Call

(Purchase Y)

Maturity

Maturity

Yield

FNMA POOL

5.000%

11/01/10




$ 1,438,167.80

2.68%

124



0.308%

3.33

3.33

0.008%

FNMA
POOL

4.000%

12/01/10




$ 1,326,607.49

2.48%

154

0.164%

3.81

3.81

0.004%

FNMA POOL

4.500%

01/01/11




$
1,630,747.40

2.30%

185

0.412%

4.25

4.25

0.009%

FNMA POOL

4.000%

06/01/11




$ 2,077,436.49

3.88%

336

0.667%

13.02

13.02

0.026%

FNMA

2.000%

08/12/13

08/12/10


$ 997,500.00

1.86%

1139

43

2.074%

21.20

0.80

0.039%

FHLB

1.000%

05/26/15

11/26/10


$ 1,000,000.00

1.87%

1791

149

1.000%

33.42

2.78

0.019%

FNMA

2.000%

12/30/15

12/30/10


$ 1,000,000.00

1.87%

2009

183

2.000%

37.48

3.41

0.037%

FNMA

4.100%

07/01/16

07/01/10


$ 1,012,434.23

1.89%

2193

1

3.889%

41.43

0.02

0.073%

FNMA

2.530%

05/04/17

08/04/10


$ 1,000,000.00

1.87%

2500

35

2.530%

46.65

0.65

0.047%

FHLMC

3.100%

05/19/17




$ 1,000,000.00

1.87%

2515



3.100%

46.93

46.93

0.058%

FNMA

2.000%

11/27/17




$ 1,000,000.00

1.87%

2707



2.000%

50.51

50.51

0.037%

FNMA

2.000%

12/18/17

09/18/10


$ 747,000.00

1.39%

2728

80

2.000%

38.02

1.12

0.028%

FNMA

3.000%

01/29/18

07/29/10


$ 1,000,000.00

1.87%

2770

29

3.000%

51.68

0.54

0.056%

FNMA

3.000%

02/12/18

08/12/10


$ 1,000,000.00

1.87%

2784

43

3.000%

51.95

0.80

0.056%

FHLB

2.500%

12/23/19

09/23/10


$ 1,000,000.00

1.87%

3463

85

2.500%

64.61

1.59

0.047%

FNMA

2.000%

02/24/20

02/24/11


$ 1,000,000.00

1.87%

3526

239

2.000%

65.79

4.46

0.037%

FNMA

3.000%

05/19/20

11/19/10


$ 1,000,000.00

1.87%

3611

142

3.000%

67.38

2.65

0.056%

FNMA

2.000%

06/16/20

06/16/11


$ 1,000,000.00

1.87%

3639

351

2.000%

67.90

6.55

0.037%

FHLMC POOL

6.000%

09/01/21




$ 1,313,080.36

2.45%

4081

4.945%

99.98

99.98

0.121%

FHLMC

4.000%

02/25/22

08/25/10


$ 1,000,000.00

1.87%

4258

56

4.000%

79.45

1.04

0.075%

FNMA

4.000%

05/28/24

08/28/10


$ 965,000.00

1.80%

5081

59

4.320%

91.49

1.06

0.078%

FNMA

5.125%

08/19/24




$ 478,514.06

0.89%

5164

4.848%

46.11

46.11

0.043%

FNMA

3.000%

09/30/24

09/30/10


$ 1,000,000.00

1.87%

5206

92

3.000%

97.14

1.72

0.056%

FHLMC

3.000%

02/02/25

08/12/10


$ 1,000,000.00

1.87%

5331

43

3.000%

99.47

0.80

0.056%

CD



12/28/10




$ 14,000,000.00

26.12%

181

2.650%

47.28

47.28

0.692%

Money Market



07/01/10




$ 13,594,074.82

25.36%

1

0.210%

0.25

0.25

0.053%

Totals


$ 53,594,961.99

100.00%

1271.94

346.90

1.850%

How Many Callables is Too Many?

45

Security Selection
-

Structure


Mortgage backed securities may provide a performance opportunity for a
small portion of the portfolio.

Source: Bloomberg

46

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Security Selection


Credit
Analysis

Last saved: Thursday, July 19, 2012 at 7:29 PM

47

Credit Exposure


Are you a sitting duck?

48

Practical Example


credit analysis

Lehman Brothers
MTN

7 7/8% of August 2010

9/12/08


A rated

9/15/08


CCC
-

rated

9/16/08


D rated

3/1/08


A+ rated

6/2/08


A rated

March 17
th

2008

“JPMorgan scoops up troubled Bear”
CNN

“Many will say that standalone investment banks’
days are numbered”

49

Lehman Brothers Stock

Practical Example


credit analysis

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Risk Return
Tradeoff

Last saved: Thursday, July 19, 2012 at 7:29 PM

51

Drivers of Portfolio Performance


1.
This is not your father’s yield curve


2.
Three main drivers of performance


3.
Duration is key


4.
Look to new asset classes


5.
Credit analysis is mandatory


6.
Risk is just as important as return


7.
The next major move is up

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