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Posts Tagged ‘liquidity’

FinalTreasuryManagmentAs the owner and /or CEO of your HR Consultancy firm, cash flow management is a constant topic of discussions with the finance and accounts team.

What do with the excess cash in hand? Where should it be deployed so that it works a little bit more and grows whilst being highly liquid and safe? How does one ensure that enough reserves are maintained to fund working capital expenses during the low business cycles?

What makes cashflow management critical is that it helps the firm maintain the business flow and also balance better returns for idle money. This in turn goes a long way in ensuring operational functioning and continuity. The question is how is this achieved?

First things first, when you talk about treasury management, you are indirectly referring to constant flow of money in very short time periods. And as most boutique/SME’s face volatile business turnovers, money can be required on priority basis at any point. Hence the priority in Treasury Management primarily lies in ensuring liquidity and safety of capital invested rather than high returns.

Secondly, while significant growth in short term investments should not be expected; it should not necessarily be considered that there are no better options other than the company current account. While Fixed Deposits and Recurring Deposits have been traditional avenues for company owners to park extra monies, they remain inefficient from a taxation perspective. Tax Deducted at Source (TDS) is a definite thorn as tax incidence is occurring even though there are no capital gains received in hand.  Furthermore, falling interest rate scenarios are making them an even less attractive option.

An alternative that should be considered is liquid/ultra short Term/ short term debt mutual funds. Two aspects they score over traditional avenues is (A) they usually do not have any exit penalties  as compared to bank FDs and (B) they are more tax efficient due to tax deferment, as tax incidence only occurs at the time of realised capital gains at the hands of the investor, and they are eligible for indexation benefits as gains from any debt mutual fund investment held for 3 years or longer are taxed at 20% after indexation, thereby improving post tax returns.

In addition, often companies decide to park certain monies with a longer term view. This could be to prepare for possible expansion/acquisition as envisaged in their business plans. But as the requirement of funds is not in the immediate future, short term investment options might not work out in the best interest. Hence separate planning should be considered for such investment purposes.

Last but not least, understanding past company cashflows and extrapolating the data to approximate future cashflows is essential to determine the kind of investment strategy would be ideal. This analysis, while including business growth projections, should also include current liability repayments and expected abnormal gains in the future.

While managing cashflows will indeed be a constant objective, through efficient planning and proper advisory it need not become a source of constant headaches.

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RBI in its monetary policy review earlier today, decided to keep rates unchanged as expected by most economists and the financial markets. However, he did provide some interesting insights that could impact your personal finances.

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Your investments

Whilst it maintained status quo, it indicated that there could be an upside risk to inflation, as has been evidenced in the last couple of months. A good monsoon, higher oil and commodity prices and consumption demand driven by the 7th pay commision could drive this upside risk to inflation. Whilst it maintained that the policy would continue to be accommodative ie there could be a possibility of rate cuts going forward, this will be driven by data going forward. Thus, adding exposure to fixed income portfolios dependent on the falling interest rates may need to be tempered, and accrual and short term/mediumd term strategies may be more suitable to lock into current yields. On the equity front, whilst consumption driven growth could be positive and an early signs of a recovery are evident , significantly higher oil prices and inflation could start to impact corporate earnngs that are just starting to show early signs of a recovery. Adding exposure to equities will also need to be tempered with slowing global growth data. Thus, a blended portfolio of equities bought with a long term view, and fixed income focussed on accrual strategies is most suited in this environment. The rupee could be negatively impacted by the potential outflows on account of FCNR maturities in September, and the intense debate on whether or not Rajan will get a second term as RBI governor.

Your loans

Since it has only been two months since the Marginal Cost of Lending Rate has adopted by banks, it will take some more time for RBI to be able to evaluate its actual impact on the ground. As per early observations, the transmission on the ground via cut in lending rates by banks has been slower thus far, but increased pressure on banks for tranmission is likely to result in this happening faster going forward.

What did RBI do?

The RBI in its policy review kept rates unchanged with Cash Reserve Ratio at 4%, Repo rate at 6.50% and Reverse repo at 6%.

On the liquidity front RBI had said it would provide some durable liquidity in the last policy review which was held in April and it did as promised. RBI will continue to provide liquidity as required in the system. RBI had also mentioned last time that there is an intention to move from a liquidity deficit to a liquidity neutrality position. RBI has not attached any time line to it and said it will depend on the market.

The FCNR B deposits that are due to mature in September have been matched with forward positions. RBI will intervene if excess currency fluctuation happens. On the issue of cleaning up of books of banks RBI mentioned that it will not reverse its action and will stick to its original target of March 2017.

What to expect going forward

Further policy action will depend on inflation numbers, oil prices, US Fed actions  and monsoons which are expected to be above average. Also withthe governor’s term with RBI ending in September, there is no clear indication whether he will continue for another term. This is likely to continue to be an area of intense debate till finally settled, which is unlikely immediately.

Watch out for the next policy on 9 August 2016.

 Image credit: www.canstockphoto.com

 

 

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As the Indian Rupee continued to face downward pressure against the US dollar, the Reserve Bank of India, late on Monday, took the classical textbook response to a falling currency by indirectly raising interest rates, following in the footsteps of other emerging markets, including Brazil and Indonesia.

The bond markets were surprised and saw a big sell off on Tuesday as a result. But should they really have been? RBI, over multiple conversations for many months now, has been talking to bond market participants and explaining that whilst falling inflation is good news and gives them some leverage to bring down interest rates to boost slowing growth, there is also a significant focus that they have on the external environment considering the high current account deficits that India runs and the possible tapering of Quantitative Easing by the Fed, which needs to be kept in mind as well. Unfortunately, most bond market participants were not listening, or listening to only what they wanted and liked to listen to.

Essentially, the RBI has been trying multiple things to stabilize the depreciating rupee with limited success thus far. A falling rupee is not good news for India due to the inflation risks that it poses, and high current account deficit as well as India’s dependency on foreign capital flows. Thus, as a part of its rupee management process, the RBI brought in three steps to reduce liquidity, and thereby speculative activity on the rupee:

  1. Increased interest rates on Marginal Standing Facility ( MSF) by 2% to 10.25% – This is the penalty rate at which banks can borrow over repo rate.
  2. Announced sale of Rs 12000 crores of G Secs under Open Market Operations (OMO) – ie it will sell securities to market and mop up liquidity
  3. Capped liquidity under Liquidity Adjustment Factor ( LAF) at 1% of Net Demand and Time Liabilities ( NTDL). This means bank borrowings above Rs 75000 crores will be at 10.25%.

The good news is that these steps have brought in, through a manner that they can be changed overnight, just like they were introduced, unlike a classical interest rate hike that can take much longer to reverse. Thus, RBI could pull these steps back very easily, if the rupee stabilizes.

Whilst the bond markets adjust to this, there is likely to be a negative impact on a mark to market basis that investors will see on their bond portfolios, whether held through short term bonds or long term bonds or even liquid/liquid plus funds.

We believe that as bond markets digest this news over the next few days and weeks, there is an opportunity for long term investors to buy into this weakness from a medium to long term perspective. Short term bond funds, fixed maturity plans and dynamic bond funds are good options for investors to look at in this environment, considering their tax efficiency if held over one year.

The next time your spouse nags you about something continuously, please listen. You don’t want her to tell you – I told you so!

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WITH INDIAN equity markets being volatile over the last one month, and banks raising interest rates very sharply over the last few weeks, it is very tempting to move out of uncertainty in equity markets to the stability of the familiar bank deposit. The fill it, shut it, forget it syndrome could make investors move back to the comfort of bank deposits, especially with interest rates on the upswing and the high level of predictability of maturity amount that bank deposits offer.

However, we believe that this shift from equity to fixed income should not be driven purely by the rise in interest rates, especially in an environment wherein inflationary pressures continue to be significant both due to domestic and inter-national events.

Empirical evidence indicates that high inflation tends to accompany high growth, so don’t be surprised by inflation rates that tend to be higher than historical averages.

Your fixed income portfolio which has traditionally tended to give you a negative real rate of return after accounting for inflation, therefore needs to be combined with assets that tend to give you a positive real rate of return like equities and real estate. The overall decision on equity and fixed income mix needs to be driven by multiple variables like time to realisation of financial goals, overall asset allocation plan, current underweight/ overweight position for equity/fixed income amongst other items. Your financial planner should be in a position to advise you about this.

Once you have arrived at the appropriate mix of fixed income and equities, we believe that the current environment seems to have an anomaly wherein short term rates and long term rates have converged. In fact, in some cases short term rates are higher than longer term rates. We believe that this anomaly may not be a long term phenomenon and has been caused by a liquidity crunch that should start to ease over the next couple of quarters. Keeping this situation in mind, we believe that it would be a good idea to consider locking into products that are of a shorter term nature for a larger portion of your fixed income exposure, rather than longer term products. You could consider the use of:

■ Short Term Income Funds — Most individual investors tend to consider mutual funds only for their equity exposure. For investors who are willing to digest short term volatility and mark to market impacts on their fixed income port-folios, it could be a good option for investors to consider short term income funds from mutual funds as they are currently running attractive accruals on their portfolios.

Please have a look at the portfolio carefully before you put monies into these funds so that you are comfortable with the ratings and risk profile of the underlying portfolio.

  • Fixed Maturity Plans (FMPs) — These offerings from mutual funds would typically be available for periods of three months, six months and one year. Considering the tax arbitrage that they offer, especially for investors in the highest tax bracket, these could be excellent options to consider in the current tight liquidity environment.
  • Bank deposits — For investors with unpredictable cash flows and liquidity that may be required at any time, it may be prudent to consider bank deposits even though they would probably offer at least 1 per cent lower than comparable FMPs, due to the liquidity that they offer.
  • Corporate deposits — Shorter term options in this category could be considered, as they may offer marginally better rates than a bank deposit.
  • However, since these are unsecured, the quality of the corporate is critical.

This article was written by Vishal Dhawan, CFPCM and appeared in the Deccan Chronicle  on 11th  December 2010 .

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