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HomeMy WebLinkAbout2000-12-31 City Council (11)City of Palo Alto C ty Manager’s Report TO: -HONORABLE CITY COUNCIL FROM:CITY MANAGER DEPARTMENT: ADMINISTRATIVE SERVICES DATE:JANUARY 31, 2000 CMR: 122:00 SUBJECT:CITY OF PALO ALTO’S INVESTMENT ACTIVITY REPORT FOR THE SECOND QUARTER, FISCAL YEAR 1999-00 This is an information report and no Council action is required. BACKGROUND The purpose of this report is to inform Council of the status of the City’s investment portfolio as of the end of the second quarter of the Fiscal Year 1999-00. The City’s investment policy requires that staff report to Council on the City’s portfolio composition compared to Council- adopted policy, portfolio performance, and other key investment and cash flow information. DISCUSSION Investment Portfolio as of December 31~ 1999 The City’s investment portfolio is detailed in Attachment B. It is grouped by investment type and includes the category of investment, date of maturity, current market, value, the book and face (par) value, and the weighted average maturity of each type of investment and of the entire portfolio, as of December 31, 1999. The face value of the City’s portfolio is $284.0 million. The portfolio consists of $13.4 million in liquid accounts and $270.5 million in U. S. government agency securities. The $270.5 million includes $150.4 million in investments maturing in less than two years, comprising 55.6 percent of the City’s investment in notes and securities. The current market value of the portfolio is 98.9 percent of the book value. During the second quarter, bond yields steadily increased from the first quarter. Because the City’s practice is to hold securities until they mature, changes in market price do not affect what the City earns in real CMR: 122:00 Page 1 of 5 dollars. The average life to maturity of the investment portfolio is 1.73 years. The market valuation is provided by Union Bank of California, which is the City’s safekeeping agent. The portfolio shows an increase of $2.0 million from September 30, 1999 to December 31, 19991 Over the past several years, the portfolio has grown significantly. This growth primarily resulted from augmentation of the Calaveras Reserve. Since the target for this reserve has been achieved and electric rates were decreased by 11 percent on July 1, 1999, the City will not experience the growth rates seen in recent prior years. Investments Made During the Second Quarter During the second quarter, $18.4 million of government agency securities with an average yield of 6.0 percent matured. During the same period, government securities totaling $26.8 million with an average yield of 6.5 percent were purchased. The City’s short-term money market and pool accounts decreased by $9.4 million compared to the first quarter. Due to a favorable market yields, the City made additional investments in long-term agency issues. With one recent interest rate increase by the Federal Reserve Open Market Committee (FOMC) and hints of additional increases due to rising concerns about inflation, the environment for fixed income investments is positive. Staff will be active in investing available cash in the third quarter. Availability of Funds for the Next Six Months Unlike many small and medium sized cities that sometimes have to borrow funds for 30 to 90 days, the normal flow of revenues from the City’s utility billingsl sales and property taxes, transient occupancy taxes and general user fees is sufficient to provide funds for ongoing expenditures. Projections indicate receipts will be $109.7 million and expenditures will be $10%0 million over the next six months, indicating an overall growth of the portfolio of about $2.7 million. At end of December 1999, $12.9 million was also available in funds which can be withdrawn on a daily basis from the City’s LAIF and Fidelity money market fund investments. In addition, securities totaling $38 million will mature between January 1, 2000 and June 30, 2000. On the basis of the above projections, staff is confident that the City will have more than sufficient funds to meet expenditure requirements for the next six months. Compliance with City Investment Policy_ During the second quarter of 1999-00, staff complied with all aspects of the investment policy. Attachment C lists the restrictions in the City’s investment policy, compared with the portfolio’s actual compliance. CMR: 122:00 Page 2 of 5 Investment Yields Interest income on an accrual basis for the second quarter of 1999-00 was $4.5 million. This, combined with first quarter earnings, equals 53.1 percent of the 1999-00 interest income budget of $15.4 million. As of December 31, the yield to maturity of the City’s portfolio was 5.91 percent. This compares to a yield of 5.84 percent in the first quarter of 1999-00. The portfolio’s yield is increasing after several weak quarters. This compares to LAIF’s average yield for the quarter of 5.43 percent and an estimated average yield on the two-year Treasury bond during the second quarter of around 6.0 percent, customarily, the City’s portfolio yield exceeds the two-year Treasury yields. The dramatic increase in interest rates in the past two months, however, has temporarily caused the City’s portfolio yield to lag behin-d two-year Treasury securities. Yield Trends The FOMC has raised rates twice in the last two quarters and it appears likely rates will be raised again. On August 24, the FOMC raised the Federal funds rate (the rate financial institutions pay to borrow money from the Federal Reserve Bank) from 5.0 percent to 5.25 percent. On November 16, the Federal funds rate was raised another quarter point from 5.25 percent to 5.50 percent. This resulted in a sharp rise in the bond yields. Although there is a possibility of a 0.50 percent increase in February, the most likely scenario is for two quarter percent increases, the first at the February 1-2 FOMC meeting and another by the March 21 meeting. These potential increases will result in higher-than-anticipated yields on the City’s portfolio. Staff intends to take advantage of the current yield environment to enhance interest earnings. While the rate hikes bode well for fixed income portfolios, they are primarily intended to curb rapid economic growth and emerging signs of inflation such as rising wages. Higher rates will cause a slowing of the economy and may have a dampening effect on other City revenue sources. Funds Held by the City or Managed Under Contract Attachment A is a consolidated report of all City investment funds, including those not held directly in the investment portfolio. These include cash in the City’s regular bank account with Bank of America; bond proceeds, which the City itself manages in a separate investment account; bond reserves; and debt service payments being held by the City’s fiscal agents. The most recent data on funds held by the fiscal agent is as of December 31, 1999. CMR: 122:00 Page 3 of 5 Investment Advisor Review of City’s Investment Portfolio As part of the 1997-98 audit of the City’s finances, the City’s external auditors, Maze and Associates, recommended that the City engage an investment advisor to perform an annual review of the City’s investment portfolio. Specifically, Maze and Associates requested the review to determine credit quality; whether securities contained any "embedded" features that posed high risk for the City; compliance with the City’s investment policy and with appropriate state law and code; and whether, under state code, the City could invest in securities that matured in greater than five years. The City retained Chandler Liquid Asset Management Inc. (CAM), a highly respected investment advisor firm in California, to conduct a review of the City’s portfolio ending June 30, 1999. CAM’s findings consist of two parts: the first addresses issues raised by the external auditors and the second provides recommendations on the City’s investment strategy. CAM found City investments "safe and highly liquid" and that "the credit quality of the City’s portfolio is very high." In evaluating each security in the portfolio, the advisor "found that there was no security that contained hidden or embedded features that might pose any undue risk to the City." Moreover, CAM determined that the City’s portfolio complies "both with the City’s investment policy and with State law regarding local agency investing." The advisor verified, through its interpretation of state code and the investment practices of other cities that, with Council permission, staff could invest funds for periods beyond five years. In short, the first part of CAM’s report gives the City high grades for following the first two of the three main tenets and priorities of investing public funds: the safety and liquidity of the portfolio. In the second part of CAM’s review, the advisor recommends changes to the City’s investment strategy to enhance the third and lowest priority of investing public funds, yield. The City’s current strategy is to "buy and hold" its investments until they mature. This conservative practice guarantees the full return of principal invested and minimizes management of the portfolio. The "buy and hold" strategy does, however, tend to produce slightly lower yields than alternative strategies. CAM’s recommended strategy has two components. The first is to select and maintain a "benchmark" portfolio that identifies the City’s yield objectives. The second component, designed to enhance yield, is to purchase Corporate Medium Term (CMT) notes and to include them in the "benchmark" portfolio (these notes are not allowable investments under the City’s current investment policy, but are permitted under State law). Implementing these recommendations would require much more active management of the City’s portfolio, to include the buying and selling of securities, and would involve more risk than the City currently faces. Purchase of CMT notes would require a change of investment CMR: 122:00 Page 4 of 5 policy and the hiring of an advisor to manage that part of the City’s portfolio. CAM estimates that the City could earn an additional $260,000 to $360,000 (net of fees paid to an advisor) by investing in CMTs. At this point in time, staff believes the City’s primary goals of maintaining the safety and liquidity of the City’s investments warrant maintenance of the current "investment" strategy and policy. Staff does believe, however, that there are opportunities within current City policy to enhance yield. With the investment advisor’s finding that the City is allowed to purchase investments beyond five years, staff will more vigorously pursue these instruments which have higher yields. The recent addition of staff to the Treasury division will allow staff to enhance portfolio yield within existing policy and to make studied recommendations to Council on future investment opportunities. ATTACHMENTS: A) B) C) ~ Consolidated Report of Cash and Investments Investment Portfolio, as of December 31, 1999 Investment Policy Compliance PREPARED BY: Tarun Narayan, Senior Financial Analyst DEPARTMENT HEAD APPROVAL CARL D Services CITY MANAGER APPROVAL: Manager CMR: 122:00 Page 5 of 5 Attachment A Consolidated Report City of Palo Alto Cash and Investments Second Quarter, Fiscal Year 1999-00 (Unaudited) Book Value Market Value City Investment Portfolio (see Attachment B)$283,982,194 $280,685,777 Other Funds Held by the City Cash with Bank of America (includes general, imprest, and other accounts) 1995 Utility Revenue Bond Proceeds Fidelity Fund - Treasury Class I Petty Cash at City Facilities (as of 6/30/99) Total - Other Funds Held By City 3,111,663 1,711,372 7,770 4,830,805 3,111,663 1,711,372 7,770 4,830,805 Funds Under Management of Third Party Trustees ~ (Debt Service Funds and Reserves) US Bank Trust Services Golf Course Certificates of Participation Construction Fund & Lease Payment Fund Civic Center Certificates of Participation Reserve Fund & Lease Payments Fund 1999 Utility Revenue Bonds Construction and Cost of Issuance Funds Califomia Asset Management Program (CAMP) Golf Course Certificates of Participation Reserve Fund Total Under Trustee Management 653,435 816,037 6,181,191 726,704 8,377,366 $ 297,190,364 653,435 809,287 6,181,191 726,7O4 8,370,616 GRAND TOTAL $293,887,198 ~g~oooooooo~oooo~oooo oo 0 0 0000000000000000000000000000~0000000000000000000000000 o o Investment Policy,Compliance As of December, 1999 Attachment C No mo~’e than 10 percent, of the portfolio in collateralized Certificates of Deposit (CDS) of any institution. No more than 30 percent of the portfolio in Banker’s Acceptance Notes. -No more than $5 million with any one institution. Not to exceed 270 days maturity. No more than 15 percent of the portfolio in Commercial Paper. -’Not to exceed 180 days maturity. No more than $3 million in any one institution. The following investments are prohibited: -Reverse Repurchase Agreements - Derivatives as defined in Appendix B of the Investment Policy -Negotiable Certificates of Deposit - Medium Term Corporate Notes 0.00% 0.00% 0.00% None Held No more than 10 percent of the portfolio in Farm Credit Securities.2.8% No more than 20 percent of portfolio incallable or Multi-Step-up government agency securities., , 13.31% Liquidity enough to meet one month’s cash needs.’Sufficient At least $50 million maturing in less than 2 years. No more than 20 percent of the portfolio shall be in investments maturing in more than five years. Market value of the portfolio will exceed 95 percent of the amortized cost basis of the portfolio. Commitments to purchase securities newly introduced on the market shall be made no more than three (3) working days before pricing. All securities shall be delivered to the City’s safekeeping custodian, and held in the name of the City, with the exception of: -Certificates of Deposit -Mutual Funds -LAIF No more than 2 percent of the portfolio in the Guaranteed Portion of Small Business Administration Notes Mutual Funds Shall: - Attain the highest ranking in the highest letter and numerical rating provided by not less than two of the three largest nationally recognized rating services, or - Have an investment advisor registered with the Securities and Exchange Commission with not less than five years. Experience investing in the securities and obligations, and with assets under management in excess of five hundred million dollars, and Liquidity 152.4 million 0.00% 99.0% - The purchase price of shares of beneficial interest purchased shall not included any commission that these companies may charge. No Exceptions 100% Compliance 0.00% Full Compliance