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HomeMy WebLinkAbout2026-01-06 Finance Committee Summary MinutesFINANCE COMMITTEE SUMMARY MINUTES Page 1 of 16 Special Meeting January 6, 2026 The Finance Committee of the City of Palo Alto met on this date in the Community Meeting Room and by virtual teleconference at 5:30 p.m. Present In-Person: Burt (Chair), Lythcott-Haims, Reckdahl Absent: None Call to Order Councilmember Burt called the meeting to order. The clerk called the roll. Public Comment None Agenda Items 1. Recommend the City Council Adopt Revisions to the City’s Investment Policy; CEQA Status – Not a Project Administrative Services Department (ASD) Assistant Director Christine Paras said the Code and the City’s Investment Policy required annual review by the City Council. Finance Committee recommendation preceded City Council review. City staff worked in collaboration with Chandler Asset Management to ensure the investment policy was current with laws, market trends and best practices as well as in alignment with Council priorities. The proposed revisions increased the permitted investment types to enhance diversification and return potential, augmented concentration and credit quality limits to better mitigate risk, strengthened the list of prohibited investments to provide stronger protections and improved policy readability by clearly defining investment parameters. The revisions were categorized under policy philosophy and governance, readability and technical updates. The objective was to shift from a hold-to- maturity philosophy and a transactional focus to more active management with a defined minimum liquidity needed to conduct operations. The new policy philosophy allowed tactical sales before maturity, thus providing the ability to flex with the changing market, for example, if a purchase of an investment was done in a very low interest rate market and an opportunity arose where the City could invest in higher return and not a net loss. Governance was established through clarifying management directives with Chandler Asset Management to support the goals of safety, liquidity and return. SUMMARY MINUTES Page 2 of 16 Sp. Finance Committee Meeting Summary Minutes: 1/6/2026 Carlos Oblites, Senior Portfolio Strategist at Chandler Asset Management, added it was desirable for the City to take a loss up front when the following 4 criteria were met: A greater gain would be realized through the reinvestment of a higher yielding security when that action netted a higher return and repositioned the portfolio to the target duration, rotated in sectors that were in favor and improved liquidity and credit quality. Councilmember Reckdahl inquired in what situations was the City not allowed to take a loss. Mr. Oblites from Chandler Asset Management replied the City’s policy did not restrict taking losses for certain circumstances. A sale before maturity that involved a loss may be done to exchange it for something else to move the portfolio forward. Chandler Asset Management tried to avoid taking a loss when the previously stated 4 criteria were not met. Assistant Director Paras continued outlining the philosophy and governance revisions to the investment policy. Reporting was shifted from par value to a market value basis to give readers a reaI-time view of the portfolio’s worth and performance, which was important when making investment decisions. A detailed review of the policy was completed to improve readability. The revised policy included language to clarify prohibited investments, how trades and relationships with financial institutions were governed and aligned the policy with Code to enhance diversification and return potential. In the category of technical updates, concentration and credit quality limits were changed for certain authorized investments. The strategic goal was to change the investment mix. The ASD did not have resources to continually monitor and evaluate credits. Now, the City would leverage Chandler Asset Management’s credit research team to identify stable and improving credits as well as ensure that weak or deteriorating credits were avoided and removed from the portfolio. This added layer of review helped the City take on additional risk. The proposed policy revisions increased limits for banker’s acceptance notes, collateralized bank deposits, negotiable CDs, medium-term notes and supranational organizations. The proposed changes were in line with the California Government Code. The credit rating agencies under the current policy were S&P, Moody’s and Fitch, whereas the revised policy included all Nationally Recognized Statistical Rating Organizations (NRSROs) registered and regulated by the SEC. Council Member Reckdahl asked how many rating organizations there were. Council Member Reckdahl wanted to clarify that the primary purpose for the change was due to the Government Code but also to utilize other rating organizations as a second opinion. Mr. Oblites from Chandler Asset Management stated there were approximately 10 rating agencies but Chandler Asset Management primarily relied on the top 3. Part of the reason for making the policy language change was because the California Government Code used the term Nationally Recognized Statistical Rating Organization or NRSRO. Also, Chandler Asset Management wanted to have flexibility. Businesses could change, merge or fold, so referring to specific rating agencies by name was not optimal. When a security was rated by 1 main rating agency, it could be helpful to get an opinion from minor rating agencies. Generally, Chandler Asset Management did not buy if it was not rated what they wanted by 1 of the 3 rating SUMMARY MINUTES Page 3 of 16 Sp. Finance Committee Meeting Summary Minutes: 1/6/2026 agencies but their internal rating and credit analysis processes looked at research from minor rating agencies. Assistant Director Paras stated the bulk of the changes were in the Authorized Investments section, which was shown on the slides. Council Member Reckdahl asked if all GSEs had full faith and credit. Council Member Reckdahl queried if revenue bonds would be purchased, such as those sold by the Post Office. The policy was changed from 25 percent callable to 20 percent but Councilmember Reckdahl wondered if the target was 20 percent or lower. Councilmember Reckdahl noted that bond prices fluctuated and there was no upside to a callable bond. If the price goes down, you were stuck with the bond and lost money. If the price goes up, the bond was called. Mr. Oblites from Chandler Asset Management explained that federal agencies and government- sponsored enterprises (GSEs) had full faith and credit of the actual agency. Only the Government National Mortgage Association (Ginnie Mae) had full faith and credit of the United States Government. Ginnie Mae issued long-term mortgages. Federal agencies had an implied backing from the federal government. Fannie Mae and Freddie Mac played a pivotal role in the United States housing market and greater economy, thus the federal government had a strong incentive to not allow federal agencies such as those to go under. Chandler Asset Management planned to buy some GSE mortgages primarily packaged by Freddie Mac that had the full backing of the federal agency. The desire was to have GSEs that were large issuers of debt where you were a minority lender in a very large program. Chandler Asset Management generally did not purchase revenue bonds because the post office or small business bureau typically did not have that bulk. Chandler Asset Management wanted to introduce liquidity and widely held issues. Mr. Oblites from Chandler Asset Management did not see any reason to buy callable agencies because the extra yield paid by the issuer generally did not compensate for the investor’s additional risk; therefore, callable agencies would be much lower than 20 percent. A callable agency is a bond where the issuer could call it back before maturity to reissue it. Chandler Asset Management bought when market forces made callable bonds cheap with a high enough yield. In the last 15 years, Mr. Oblites from Chandler Asset Management had seen 2 time periods in the markets when it made sense to buy callable agencies but not up to 20 percent. Councilmember Burt wanted to clarify if “callable and step-up securities from 25 percent to 20 percent of portfolio” on the slide referred to a range or a reduction from 25 percent to 20 percent of the portfolio. Councilmember Burt also sought clarification on the new 30 percent limit in any single GSE. Mr. Oblites from Chandler Asset Management stated the 20 percent limit was only applicable to federal agency callable securities. The California Government Code placed no limit on callable agencies and the City’s current investment policy did not have any limits but it was SUMMARY MINUTES Page 4 of 16 Sp. Finance Committee Meeting Summary Minutes: 1/6/2026 prudent to have a 30 percent limit per issuer. Callable and step-up securities decreased from 25 percent to 20 percent in the red line of the revised investment policy. Councilmember Lythcott-Haims inquired how many more entities did the City now have access to as a result of the decision to allow investments in bonds with an A rating. The Code did not allow buying DDD, which was the bottom of the investment-grade world. The City’s current investment policy allowed AA and AAA corporate debt. The revised policy allowed corporate debt in medium-term notes, A, AA and AAA. Mr. Oblites from Chandler Asset Management said AAA names could be counted in 1 hand, AA was maybe 10 to 15 percent and A was 40 to 60 percent of the investment-grade world. The ability to buy A gave access to many more names in different subsectors such as finance, consumer staples, technology and insurance; however, this introduced additional credit risk to the portfolio. Risk could not be eliminated but Chandler Asset Management used various tools to mitigate risk, including a credit analysis process, risk management process and issuer limits. Credit rating was the initial filter for a list of names to review. Chandler Asset Management only bought names that met certain criteria, were vetted through their credit committee and approved by their chief investment officer. The Code was silent on issuer limits unless it was bought in conjunction with commercial paper unsecured debt. The revised policy had a 5 percent issuer limit; however, Chandler Asset Management generally did not expose a portfolio to more than 2 percent per name. Some of the stronger credits might make up 1 or 1.5 percent of the portfolio and very few were more than 1.5 percent. Councilmember Burt posed the following questions: In the Great Recession, at what point were there defaults or near defaults in different categories? On average, how much greater gain did an A provide versus AA or AAA? What were the benefits of diversification? Of the names that the City might have an investment in, which ones were most exposed to an AI bubble bust? Was it transparent what businesses were investing in real estate related to server farms? Mr. Oblites from Chandler Asset Management said the government stepped in and took over the GSEs and federal agencies because they packaged mortgages that included subprime but they never went under or defaulted during the global financial crisis. Chandler Asset Management did not buy subprime but would buy federal agency-issued mortgages and some of them carried extraordinary protections for investors. Because of the hit to the greater economy during the global financial crisis, some names experienced downgrades in the medium-term note sector. The ones that took the biggest hits were Washington Mutual, AIG, Lehman Brothers, and Bair Sterns. Most reputable firms having a strong credit process were not invested in most of those names. For example, Lehman Brothers stock price dropped quickly, so investors knew. To mitigate risk, Chandler Asset Management used risk management, credit analysis and fundamental analysis of financials including a company’s ability to generate cash and revenue, if there were multiple lines of revenue, its holdings and how a company compared against their peer group. Chandler Asset Management did not buy GE months before they had problems with their turbines. SUMMARY MINUTES Page 5 of 16 Sp. Finance Committee Meeting Summary Minutes: 1/6/2026 Mr. Oblites from Chandler Asset Management noted there was not a lot of credit spread between AA and A. Between A, AA and AAA, you pick up additional yield from 5 to 15 basis points higher (15 basis points was 0.15 percent), providing additional payoff and diversification. Currently, the City was limited to a few names and unable to diversify the medium-term corporate notes in the portfolio. Chandler Asset Management wanted names from different subsectors in the City’s portfolio because their responses to a movement in the greater economy were less correlated. NVidia was most exposed to an AI bubble bust. Some tech names Chandler Asset Management bought were Meta, Amazon.com, Apple and Alphabet (Google) but did not purchase NVidia. Chandler Asset Management bought Prologis, a logistics corporation that moved merchandise. Chandler Asset Management invested in a REIT that issued bonds to acquire and manage warehouse space. Chandler Asset Management had an approved list of private placements and purchased AAA rated bonds from U.S. Bank, New York Life, MetLife, Guardian, and Chubb. Information was very accessible and there was transparency on the fundamentals that drove the value of the bond, the way the issuer generated cash and their ability to pay you back. Chandler Asset Management’s credit process included meeting with the finance teams of every issuer on their approved list to understand how they thought about the markets, their future prospects, how they explain various aspects of their balance sheet and income statement and where the company was headed. As of September, Councilmember Reckdahl noted Palo Alto owned the corporate bonds of Alphabet, Microsoft, Apple, Johnson & Johnson, Northwestern Mutual Life Insurance and a couple universities. Councilmember Lythcott-Haims pointed out there had been many bubbles over the decades. To avoid getting caught in an unfortunate position if and when an AI bubble occurred, Councilmember Lythcott-Haims wanted Chandler Asset Management to be aware this was a concern and thought it might be helpful to periodically check back in on this issue on an ongoing basis. Mr. Oblites from Chandler Asset Management would keep in mind the Committee’s interest in the AI field. Mr. Oblites was the Co-Chair for Chandler Asset Management’s Multi-Asset Class Committee and that committee was keenly focused on the outlook, the next bubble, AI, geopolitical risk, currency risk and what was happening with oil and commodities. That information was shared with all of Chandler Asset Management’s committees and their Risk Management Committee addressed those things. Councilmember Reckdahl asked the following questions: Were A-rated investments limited to short-term notes and AA for intermediate-term bonds? Did Chandler Asset Management sell immediately if an A went down to DDD? Would Chandler Asset Management call the City if there was a ratings watch? Mr. Oblites from Chandler Asset Management was comfortable buying an A credit on their list of approved issuers out to the maximum limit of 5 years. Going beyond 5 years for medium- term corporate notes was not allowed. By law, you could only go beyond 5 years for federal SUMMARY MINUTES Page 6 of 16 Sp. Finance Committee Meeting Summary Minutes: 1/6/2026 agencies, municipal securities and treasuries. Chandler Asset Management did not sell immediately when an A went down to DDD. Sometimes the rating change did not make sense. According to Section 53601, California Government Code only applied at the time of purchase. There was no requirement to sell a downgraded security. A bond lost value when it downgraded beneath eligible credit quality. Not always but Mr. Oblites from Chandler Asset Management generally observed an immediate overreaction by investors and then the levels came back, so it was not always economically advisable to get rid of the bond. It did not happen very often but if there was a downgrade beneath A in any of the City’s issuers, Mr. Oblites from Chandler Asset Management would call to notify the City’s team and ensure staff was comfortable with the advised plan. Staff might opt to wait a certain amount of time before getting out of the bond, request getting rid of the bond immediately, or ask what would trigger Chandler Asset Management to start moving out of the bond. Chandler Asset Management would not notify City staff of a ratings watch, although it would factor heavily in the analysis of that issuer and their credit team may place a hold on it or start selling it gradually. The discussion moved to Authorized Investments, Slide 5. Councilmember Reckdahl asked for more information on collateralized bank deposits and if it was the same as a repo. Councilmember Reckdahl questioned why the portfolio had a limit for CDs if they could be spread out among different places to be under FDIC. Mr. Oblites from Chandler Asset Management explained that California Government Code treated the City’s bank deposit as part of the City’s investment program. By law, the bank where the City had its banking account was required to collateralize the City’s deposits, meaning the bank was required to hold collateral in some form, typically treasuries and agencies. Bank deposits in the United States carried FDIC insurance up to $250,000. Credit unions carried NCUA insurance up to $250,000. The CFO or Finance Director, whoever was the City’s treasurer, could waive collateral for the portion covered by FDIC insurance but the bank was legally required to collateralize anything over $250,000. On a weekly basis, banks had to submit to the State Controller’s Office or the State Finance Office in Sacramento the collateral held for any local government money. Certificates of deposits were illiquid time deposits that accrued interest until it matured and you get your money back but there was a penalty if you broke it early. The negotiable certificates of deposits (brokered CDs) in the City’s policy were popular and traded in a secondary market. A brokered CD servicer gets CDs from banks all over the country and aggregated them. Under banking rules, brokered CDs were considered a deposit and had FDIC insurance for the first $250,000. Negotiable certificates of deposits were illiquid. The City would pay a penalty if it locked a $250,000 tranche for 5 years and had to get out of it for repositioning to get a better yield or because money was needed. Chandler Asset Management wanted liquidity for the City to access cash if there was an emergency, not just yield. Assistant Director Paras recalled there were about 7 or 8 pages of CDs on the last investment activity report. The revised policy allowed the City to consolidate CDs above the $250,000 FDIC insured amount into single issuers rated A-1 or better. SUMMARY MINUTES Page 7 of 16 Sp. Finance Committee Meeting Summary Minutes: 1/6/2026 Mr. Oblites from Chandler Asset Management clarified that A-1 was a short-term rating. The Code was silent on a maximum maturity for CDs, municipal securities, treasuries, and agencies. The revised investment policy stated that any amount beyond FDIC insurance needed to have either a short-term rating for shorter maturities or a long-term rating for longer maturities. Councilmember Reckdahl pointed out that issuers shopped for rating agencies and paid the rating agency, so he wondered if it was safer to have 2 rating agencies instead of a single rating agency and if it was addressed by Dodd-Frank. Councilmember Reckdahl asked if it was legal for the City to buy Palo Alto municipal bonds. Mr. Oblites said NRSROs took note after the global financial crisis because they got in trouble for a lot of those mortgage ratings, so Chandler Asset Management was not concerned now. Most issuers got 2 ratings from S&P, Moody’s or Fitch; however, most municipal bonds carried 1 rating. Some had split ratings. Goldman Sachs was A rated by a major rating agency and the other was a BBB; therefore, it was not a name that Chandler Asset Management would put in the City’s portfolio because the City was very sensitive about credit. The City’s revised investment policy mirrored the law. California Government Code required 1 NRSRO. Mr. Oblites from Chandler Asset Management did not think Dodd Frank touched the rating agencies but Sarbanes-Oxley did. The City was allowed to buy Palo Alto municipal bonds but had to be very careful and work with the City’s municipal advisor because that action could be considered a pre-refunding and have tax implications. The City could buy Palo Alto municipal bonds on a secondary market and this was addressed in the City’s policy language. With the policy change in compliance limits from par value to market value, Councilmember Reckdahl inquired how often the portfolio’s compliance was determined because the market value had to be calculated to see if the portfolio became uncompliant. Councilmember Reckdahl wanted to know how difficult it was to find the market value for bonds and if Chandler Asset Management had to call a broker for a quote when buying corporate or municipal bonds. Mr. Oblites said the City’s current pre-trade compliance policy was reviewed by Chandler Asset Management’s compliance team and written as a set of rules into the Bloomberg AIM compliance module after review by the portfolio manager and Mr. Oblites. Chandler Asset Management did all their trading on the Bloomberg system. Pre-trade when the portfolio manager purchased a bond, the Bloomberg AIM compliance module checked if the trade met the rule requirements; if not, the trade was automatically kicked out. If the portfolio manager tried to override a kicked-out trade, a notification was sent to the Chandler Asset Management Chief Investment Officer and Chief Compliance Officer. Bloomberg AIM generated a VMGR (Violation Manager) to warn of compliance violations. There was a daily electronic review of the portfolio. City staff would receive a monthly report on the compliance status along with the City’s month-end statements. Mr. Oblites from Chandler Asset Management would come quarterly to review a report with City staff on the status of the portfolio. SUMMARY MINUTES Page 8 of 16 Sp. Finance Committee Meeting Summary Minutes: 1/6/2026 Lauren Lai, Chief Financial Officer and Administrative Services Department Director, mentioned the compliance confirmation was included in the quarterly investment report submitted to the Council. Mr. Oblites from Chandler Asset Management emphasized this was a safety and liquidity portfolio. The average duration of this portfolio was 2½ years, which meant it would take a dramatic 100 basis point shift in the capital markets in rates across the board to cause a 2½ percent move in the portfolio market value. The last time that happened was during the pandemic when rates went from 1 to 0. Mr. Oblites from Chandler Asset Management reiterated that compliance under the law was at time of purchase. It was not a compliance violation if the market value changed such that the percentages went beyond what was allowed by the City’s investment policy, although Chandler Asset Management’s compliance team would notify somebody internally and it might be flagged and have a note put next to it saying it complied at time of purchase. Mr. Oblites from Chandler Asset Management said there were no more phone calls to brokers for quotes and to buy bonds, everything was done electronically. Chandler Asset Management saw the brokerage inventory. Bonds had different prices depending on where they were bought and Chandler Asset Management would look to purchase at the lowest price. The market value of securities purchased in the bond markets was whatever somebody was willing to sell it for, so most institutions used a third-party pricing source to value it in the portfolio. Market values may differ very minimally from the vendor that provided a pricing source to Chandler Asset Management and U.S. Bank, the City’s prior pricing source. The Governmental Accounting Standards Board pronouncement GASB No. 72 required City staff to classify the market values observed for every asset in its portfolio in 3 categories (immediately observable, observable based on similar securities, and not observable) at fiscal yearend when financial statements were issued in the audit. Mr. Oblites from Chandler Asset Management said the desire was to make decisions based on the true economic value of the portfolio and you could not do that with par value. Market value was a better representation of the City’s economic position by reflecting the true value of the assets. Councilmember Reckdahl felt that City staff and Chandler Asset Management did a good job overall. On Packet Page 13, Councilmember Reckdahl agreed with the change from yield to return and getting rid of buying and holding. The maximum maturity was 10 years in General Investment Guideline 1 on Packet Page 14. Councilmember Reckdahl wondered if the City would be buying 10-year bonds and if there were compliance requirements on duration. Councilmember Lythcott-Haims asked for an explanation on the difference between yield and return. Mr. Oblites from Chandler Asset Management answered that yield was the same as an internal rate of return (IRR), which referred to the income generated expressed as a percentage of what you paid for the security and was on an annualized basis to see what you should be earning into the future. Return meant how much a given activity had grown the portfolio over a specific SUMMARY MINUTES Page 9 of 16 Sp. Finance Committee Meeting Summary Minutes: 1/6/2026 period. The 2 factors that drove a return were interest income determined by the yields you pick up and the change in fair value of the portfolio. The total return would be reported to staff and the Council. Chandler Asset Management wanted to mirror the prioritized objectives in California Government Code Section 53600 of safety first, followed by liquidity and then return. Mr. Oblites said the City’s investment strategy was to maintain the bulk of the investments between 1 and 5 years with an average duration of 2½ years; therefore, Chandler Asset Management would not buy 10-year bonds. Sometimes there was value in buying something beyond the 5-year range because those issuers lost a percentage of the market to sell to and sometimes provided a slightly higher yield to attract investors. Every once in a while, Chandler Asset Management may pick something up in the 5½, 5¾ or 6-year range but Mr. Oblites doubted there would be anything beyond 7 years. Before the City engaged Chandler Asset Management, City’s policy allowed for investments longer than 5 years and the City’s portfolio allowed securities where allowed by Code (treasuries, agencies, munis, and negotiable CDs). Mr. Oblites from Chandler Asset Management had not seen a City with a financial operation that could withstand 10-year cash flows. The City of San Mateo and City of Sunnyvale recognized the opportunity and wrote their investment policy to 7 years. There were no compliance requirements on duration. As policymakers, the Council would be involved at the policy level to meet the goals of the investment program, safeguard the money and make sure it was there for the objectives and mission identified by the City. The portfolio may shift day to day, so staff would control it instead of waiting for the next Council meeting or a change to the policy to address it. CFO/Director Lai added that the reason for the option of a 10-year duration was the desire to retain flexibility for staff to be strategic on the City’s portfolio throughout the year. Councilmember Reckdahl agreed with providing more flexibility when you have a trusted asset manager, so having some long-term bonds was acceptable particularly because the portfolio duration target was 2½ years. Regarding General Investment Guideline 3, Councilmember Reckdahl wanted a clear definition in the policy language for “liquid investments”. Mr. Oblites from Chandler Asset Management explained that the City’s preexisting section of the policy had a dollar amount that he thought was $50 million and was updated to “liquid investments” because a steady dollar figure was not reflective of the investment program shrinking or growing through returns, revenue collection and debt issuance. Generally, the investment world considered liquid investments 1 year or shorter. The policy touched on all the City’s investments, not only the investment portfolio that Chandler Asset Management managed on the City’s behalf. City staff directly controlled the City’s investments in the Local Agency Investment Fund (LAIF) and the funds that flowed through the bank. Recently, City staff set up a money market sweep through the bank to earn more yield. Assistant Director Paras mentioned that even though a dollar amount was not defined in General Investment Guideline 3, City staff knew a certain dollar amount needed to be kept SUMMARY MINUTES Page 10 of 16 Sp. Finance Committee Meeting Summary Minutes: 1/6/2026 liquid and continually monitored at an operational level how much to maintain in the City’s banking account, LAIF and the like. Assistant City Manager Kiely Nose echoed the definition of liquid investments was the money sitting in the City’s bank account and LAIF account. Mr. Oblites from Chandler Asset Management requested the policy be updated to include the definition of liquid investments as bank accounts, external money funds, LAIF and investments in the investment portfolio of securities that were 1 year or less. Before this goes to Council, CFO/Director Lai stated the investment policy would be updated with the definition of liquid investments based on this conversation. On Packet Page 15, Councilmember Reckdahl requested the policy include a definition of “reasonable timeframe” in General Investment Guideline 4. Councilmember Reckdahl did not like the phrase “as soon as possible” in General Investment Guideline 5 and wanted it replaced with verbiage that described the intention, such as “Percentage limitations will be restored over time as investments mature in each category.” CFO/Director Lai said the City had a managed portfolio and it was not desirable to react to changes when the market moved a lot, so the reasonable timeframe in General Investment Guideline 4 referred to a disclosure in the quarterly reports. Regarding General Investment Guideline 4, Assistant Director Paras noted the current process was to report it in the quarterly investment activity report. After the pandemic, the value of the portfolio dipped for 8 straight quarters until it recently came above 95 percent. Mr. Oblites from Chandler Asset Management noted General Investment Guideline 4 used legacy language. The ratio of the market value to the book value falling more than 95 percent meant a delta or difference between book value and market value of more than 5 percent, which was the unrealized gain/loss of the portfolio. Market forces moved the market value. The book value shifted every day because of amortizations, premiums and discounts. Most of the policies that Mr. Oblites from Chandler Asset Management had seen did not include a requirement similar to Guideline 4 and he had not seen anything more frequent than quarterly reporting because the volatility was very low. Mr. Oblites thought it was reasonable to notify the City Council quarterly when the portfolio had lost value beyond the 5 percent threshold. Staff agreed to replace “reasonable timeframe” with “quarterly” in General Investment Guideline 4. Mr. Oblites from Chandler Asset Management explained the policy language for concentration limits in General Investment Guideline 5 meant the percentage limitations for a particular category of investment had to be restored. It was not a compliance violation or a violation of the law. Generally, the concentration percentage was restored with the next purchase; SUMMARY MINUTES Page 11 of 16 Sp. Finance Committee Meeting Summary Minutes: 1/6/2026 however, you want to make a trade because it was advantageous to the City rather than forcing a purchase to restore the concentration percentage. Assistant City Manager Nose noted reporting was addressed in the section at the end of the policy. Instead of staff making adjustments specific to individual items, Assistant City Manager Nose recommended aligning it with the reporting requirements so any changes that were made would trigger throughout the policy. Assistant City Manager Nose suggested substituting “as soon as possible” with “as soon as reasonably possible” in General Investment Guideline 5. CFO/Director Lai thought the reason for the phrase “as soon as possible” in General Investment Guideline 5 was a desire to put some urgency into it while making sure it was reasonable because the ASD staff had a duty to cure any noncompliance. CFO/Director Lai believed “reasonable” made sense because different objectives were managed within this policy and keeping it vague provided flexibility. Councilmember Reckdahl agreed with adding “reasonable” in General Investment Guideline 5. Councilmember Reckdahl felt that percentage limitations provided protection against a market crash. Councilmember Reckdahl recalled Orange County went bankrupt due to a rogue trader making some bets. A rogue trader or an employee mistake was a common way that people get in trouble, so Councilmember Reckdahl asked if the City had any protection against those situations or if it needed to be addressed in the policy. Councilmember Reckdahl questioned if 1 person could do a trade without a second set of eyes on that trade, for example, to flag if someone made a typo and bought 100 times more shares than expected. Mr. Oblites from Chandler Asset Management clarified the case that Councilmember Reckdahl referred to was the Orange County Treasurer/Tax Collector, not a rogue trader. Chandler Asset Management had processes or policies and procedures in place to prevent that. As an example, the pre-trade compliance process and post-trade compliance review described earlier would prevent that. The policy was meant to stand alone, whether or not the City used an investment advisor. As the City’s registered investment advisor, Chandler Asset Management would have to make the City whole if a trade was made that violated the policy or the law, which provided some protection. Mr. Oblites from Chandler Asset Management had seen this happen at other firms and, as the registered investment advisor, it came out of their pocket to make the client whole. Assistant City Manager Nose explained that greater liberties were taken in this policy because of the change from doing it in-house to having a registered investment advisor and a more robust organization helping provide this professional service. Councilmember Reckdahl posed the following questions. On Packet Page 17, what were banker’s acceptance notes and do they need rating requirements? On Packet Page 18, did commercial paper have rating requirements? On Packet Page 18, to minimize the counterparty risk of short-term repurchase agreements (REPOs), should the requirements specify the type of REPOs, type of collateral and a certain rating for primary dealers? Should the policy specify that SUMMARY MINUTES Page 12 of 16 Sp. Finance Committee Meeting Summary Minutes: 1/6/2026 treasuries were desired? On Packet Page 19, what was the liquidity of a JPA and did a certain credit rating need to be specified? Regarding medium-term corporate bonds at the bottom of Packet Page 20, Councilmember Reckdahl thought a basket of corporate bonds had a very good risk-return tradeoff overall because the bonds could be diversified over different industries to mitigate risks and it provided a return higher than treasury but there was a headline risk. Did the City want to buy individual corporate bonds when corporate actions, for example, supporting abortion rights or the mistreatment of workers in another country could cause the public to urge the City to divest? Was it was legal for the City to buy ETFs? Choosing corporations that fit certain characteristics such as antipollution carried the danger of being very tech heavy and less diversified. Did corporate bonds have liquidity requirements? Assistant Director Paras called attention to Packet Page 18 where it said in (a) (ii) commercial paper must be in a rating category of A-1 or equivalent but at least 1 NRSRO. A-1 was the highest S&P rating category. Moody’s highest rating was P-1 and Fitch was F-1. Mr. Oblites from Chandler Asset Management explained that a banker’s acceptance note was a trade instrument with a time value, was part of the money markets, was allowed by Code and should be included in the City’s investment policy. A time value associated with money could be arbitraged to make money. A retailer goes to their local bank to take out a letter of credit to purchase merchandise to sell. It had been a long time since Mr. Oblites had seen someone buy a banker’s acceptance note. The Code did not require rating requirements for banker’s acceptance notes because the investor could take hold of the merchandise if the borrower defaulted. Commercial paper had rating requirements. Mr. Oblites from Chandler Asset Management said the policy described triparty REPOs, which were over-collateralized under California Government Code, meaning the collateral was valued at more than what was loaned. The collateral was placed into an escrow account. If the borrower did not pay you back, the collateral was yours. A repurchase agreement was when a bank needed short-term financing and the collateral was in treasury or agency bonds that the issuer sold to you and the issuer repurchased their securities with interest usually the next day. Generally, a master repurchase agreement was signed with a bank to set up and participate in a REPO program. REPOs were included in the investment policy in case the City grew big enough to where it made sense to have REPOs. Local government investment pools (LGIPs) had repurchase agreements. REPOs were a very important part of the money markets and were short term, most matured overnight. According to Mr. Oblites’ recollection, the Code specified the percentage of treasuries as collateral but the City’s policy could specify it. Assistant City Manager Nose asked Mr. Oblites from Chandler Asset Management to reference the Code section for collateral in the policy revision. CFO/Director Lai agreed with referring to the Code section for collateral in the policy revision to make it easier to maintain when technical updates were performed every year. SUMMARY MINUTES Page 13 of 16 Sp. Finance Committee Meeting Summary Minutes: 1/6/2026 Mr. Oblites from Chandler Asset Management explained the Joint Powers Authority (JPA) vehicle in California had been primarily used to manage pooled risk. Palo Alto belonged to a JPA. A JPA was an investment pool that functioned a lot like a Rule 2a-7 money market mutual fund for local governments. The value of the shares was pegged to $1. In California, there were 4 existing JPAs with the most recent starting about 4 months ago, all AAA rated. To be competitive in California, a JPA had to have very high credit quality and be AAA rated. The Code did not have a credit rating requirement for JPAs. To mirror the Code, Mr. Oblites from Chandler Asset Management recommended not specifying a credit rating requirement for JPAs in the City’s policy. If desired, this would permit AA-rated JPAs that sponsored a longer-term pool. Most JPAs in California followed the GASB 79 framework to provide liquidity for participants. All JPAs in California provided same-day availability up to a certain cutoff time. JPAs were liquid investments, very highly rated and well run. JPA liquidity depended on the pool. When buying a longer-term pool, some may have a 1 or 2 day redemption but the most popular JPAs had a same-day cutoff. Chandler Asset Management ran a JPA called California Fixed Income Trust (CalFIT) that had same-day availability for your entire account up to an 11:00 cutoff currently but was moving to a 12:00 cutoff by the end of this month. Mr. Oblites from Chandler Asset Management said the City could buy ETFs because an ETF was a mutual fund and there was a provision for mutual funds in California; however, ETFs were limited to securities allowed by California Government Code. The problem with ETFs was not having the ability to customize those pools or run a credit analysis because you get whatever the ETF manager bought. It was much more difficult to diversify the portfolio in an index or generate the value you get with individual investments; therefore, Mr. Oblites from Chandler Asset Management recommended buying individual bonds to have diversity in the City’s portfolio and hopefully additional return potential. Mr. Oblites from Chandler Asset Management had seen activists related to fossil fuels and the war in Gaza as well as activists going after a particular bank that was perceived to be lending to an industry that somebody did not like or people who owned index funds that contained a company that they had views against. CFO/Director Lai pointed out a section in the policy that spoke to environmental, social and governance responsibility and addressed the issue of activists. Staff had some flexibility and would use their judgment. Referring to Packet Page 21, Authorized Investment 15, asset-backed securities, tranches made Councilmember Reckdahl nervous. In the Great Recession, tranches did not predict how their mortgages were going to behave. Councilmember Reckdahl inquired if the tranche for auto loans was divided by the credit of the persons taking out the loans and what happened when someone defaulted. Councilmember Reckdahl questioned if Chandler Asset Management thought they could do enough analysis so that there was minimal risk and whether the top tranche was generally chosen for repayments. Mr. Oblites from Chandler Asset Management explained that Authorized Investment 15 on Packet Page 21 applied to private label mortgages and asset-backed securities but did not apply SUMMARY MINUTES Page 14 of 16 Sp. Finance Committee Meeting Summary Minutes: 1/6/2026 to federal agency mortgages. A mortgage-backed security issued by a federal agency was considered a federal agency under California Government Code, not a mortgage-backed security governed by Subparagraph O of California Government Code 53601. Chandler Asset Management only bought federal agency mortgages, not private label mortgages. Asset-backed securities referred to a pool of receivables (a pool of debt) such as a credit card pool or an auto loan pool divided into tranches based on the credit of the persons taking out the loans. The tranches were in line to receive the repayments. As the debtors in the pool repaid their debt, the repayments cascade after a certain threshold to the next tranche in line. The tranches at the top of the line get the repayments first, were much more liquid, had higher FICO scores and paid a little less yield. The tranches at the bottom of the line were less liquid, higher risk and paid a higher yield. Part of the analysis was to understand what tranches to buy and what to avoid, and Mr. Oblites believed Chandler Asset Management could do enough analysis that there was minimal risk. AA was the minimum credit rating per California Code. Chandler Asset Management bought only AAA rated deals, the most liquid tranches with the strongest credits, the top tier that was first in line to receive repayments, and looked for overcollateralization. Everything Chandler Asset Management bought was senior, which was a term specific to the credit rating. Chandler Asset Management did not buy subordinated debt. An example of overcollateralization was $80 million borrowed from a $100 million tranche, so more debtors were in the pool than there was debt outstanding. Another overcollateralization was establishing lines of credit to cover a certain amount of modeled defaults in the pool. Councilmember Reckdahl asked if forward contracts or futures were a prohibited investment. If the yield curve was steep at 3 years, you could buy a 3-year bond and then buy a forward contract to sell it in 1 year. Councilmember Reckdahl requested information about mortgage strips. Mr. Oblites from Chandler Asset Management stated there was no language to address or prohibit forward contracts. It was not unreasonable to get into forward contracts when you buy bond proceeds and forward rate agreements where you basically arbitrage a rate, which was allowed under Code. Chandler Asset Management did not buy forward contracts, forward rate agreements or hedge anything like that because it could throw off their risk management approach and it was not worth it. Investment in interest-only strips was prohibited in accordance with the California Government Code. Although it was allowed, it had been a long time since Mr. Oblites from Chandler Asset Management saw investments in principal-only and interest-only mortgage strips because of the risk. Councilmember Lythcott-Haims encouraged staff to begin the presentation to the City Council with a preamble including the reason for the shift to Chandler Asset Management, why this was the right time, why this move was not done sooner, what was wrong with the way the City had been doing it and what kind of risk the City was in. Councilmember Lythcott-Haims recommended updating the staff report where it said “the City and Chandler” to instead refer to Chandler by its formal name, Chandler Asset Management. To facilitate a greater ease in accepting the transition, Councilmember Lythcott-Haims suggested providing a link to Chandler SUMMARY MINUTES Page 15 of 16 Sp. Finance Committee Meeting Summary Minutes: 1/6/2026 Asset Management for people who want to gain a better understanding of this organization. The City was in a budget deficit environment projected out for many years. The shift to Chandler Asset Management was done in part to protect the City from various risks and to increase its return, so Councilmember Lythcott-Haims requested a conservative projection of how this change might impact the City’s conversations around the projected budget deficit because people were rightly very concerned. Councilmember Burt recalled a ballpark expectation was mentioned during the discussion at the last Finance Committee meeting. Councilmember Lythcott-Haims did not remember if it was 2.7 and now would be 4.1. MOTION: Councilmember Reckdahl moved, seconded by Councilmember Lythcott-Haims, to recommend the City Council approve revisions to the City’s Investment Policy (Attachment B) with the following changes: • In #3 of the General Investment Guidelines section, define “liquid investments.” • Edit #4 of the General Investment Guidelines section to read: “Should the ratio of the market value of the portfolio to the book value of the portfolio fall below 95 percent, the Administrative Services Department will report this fact to the City Council quarterly and evaluate whether there is any risk of holding any of the securities to maturity.” • Edit the final sentence of #5 of the General Investment Guidelines section to read: “As soon as reasonably possible, percentage limitations will be restored as investments mature in each category.” • In #8 of the Authorized Investment section, reference the California Government Code limits and collateralization requirements. MOTION PASSED: 3-0 Item 1 Public Comment - None Future Meetings and Agendas Lauren Lai, Chief Financial Officer and Administrative Services Department Director, said staff was working on the tentative agenda items but typically financial forecasts and utility rates came back in the spring. Councilmember Burt wondered whether the Committee would have ample time for a midyear review, even if the staff report was unable to incorporate any feedback prior to the packets going out. Councilmember Burt noted there was an open Committee request for the number of employed workers by department going back to pre-COVID. SUMMARY MINUTES Page 16 of 16 Sp. Finance Committee Meeting Summary Minutes: 1/6/2026 CFO/Director Lai acknowledged the request for midyear review at this committee level. Staff was still working on the midyear. The team had a couple new budget managers. This afternoon, an ASD staff member and CFO/Director Lai reviewed the number of employed workers by department back to 2019. The ASD staff member was working on the 2026 employees by department. CFO/Director Lai had asked to listen to the Council meeting from September. CFO/Director Lai will review the employee numbers one more time and hoped to include it as an attachment to the long-range financial forecast being sent this week in Council’s packet for the meeting scheduled on January 20. If 2026 was not ready to include in this week’s packet, the attachment would show the number of authorized employees and filled positions by department from 2019 through 2025. Councilmember Reckdahl asked when the last presentation occurred. CFO/Director Lai answered that staff brought it in September but there were some gaps in the data. Councilmember Lythcott-Haims realized the Council reorganization would result in committees getting shuffled. If this was Councilmember Lythcott-Haims’s last Finance meeting, she wanted to say how much she unexpectedly enjoyed it, she learned a lot and she appreciated having had the opportunity to be a part of these conversations. Adjournment: The meeting was adjourned at 7:25 p.m.