Making your charity's cash reserves work harder

Most charities will hold a portion of their reserves in cash to meet shorter-term expenses and capital costs. These may be for distributions to charitable causes or day-to-day operational expenses. This cash should be managed with the same care as an invested portfolio to maximise returns and ensure it meets cash flow needs.

The right weighting in cash is a balancing act. It needs to be sufficiently large to manage any necessary liabilities, but not so large as to compromise returns.

Long-term cash returns have historically been below those of stock markets or fixed-income portfolios, so there may be an opportunity cost to holding cash. The returns available from shorter-term deposits have improved as global interest rates have risen. Nevertheless, cash savings accounts have not always kept pace with central bank rate rises.

Why use a liquidity portfolio?

Liquidity portfolios can be used to generate a stronger return than that available in a cash savings account with a commercial bank. They can also bring diversification and help with risk management. Rather than holding large amounts with a single bank, or smaller amounts spread across multiple banks, liquidity portfolios will have a range of exposures, reducing default risk.

A liquidity portfolio needs to be managed with a keen understanding of an organisation’s short and long-term liabilities. Building a portfolio starts with the broader cashflow context of the organisation’s operations, and the associated liquidity requirements. This helps us understand how much should be held in cash and when that cash needs to be available.

What type of securities would be held in a liquidity portfolio?

Liquidity portfolios will comprise a variety of sterling assets, depending on the risk profile and time horizons. However, the “core” assets for most liquidity portfolios will be short-term government debt, combined with cash funds, usually managed by the large fund groups.

For UK charities, we make extensive use of T-bills. These are UK Government bonds with a maturity of six months or less. Each T-bill is issued at a discount to its maturity value of £100, so the return is made up purely of capital growth back to that maturity value over the term of the bill.

They have some notable advantages over cash deposits with a commercial bank. For example, there is no secondary market for cash deposits, and many require a lock-in period until maturity. Interest rates are often higher than most cash deposits. Equally, the different maturities of a T-bill portfolio allow us to build a portfolio round a charity’s liquidity needs.

While the default risk for the major UK commercial banks is low, it is even lower for the UK Government.

Cash funds provide access to a pool of very short-term money market instruments denominated in GBP. These funds are traded daily, allowing them to be used for short-term liquidity needs and have no entry or exit fees.

How flexible are liquidity portfolios?

Liquidity portfolios are very flexible and can take advantage of shifting market opportunities. Likewise, if a charity’s cash flow needs change, the structure of the portfolio can be adapted accordingly.

Liquidity portfolios can be established as a separate portfolio, segregated from the primary investment portfolio. They are an efficient way for a charity to manage its short-term cash needs and liabilities.

RISK WARNING

Investment does involve risk. The value of investments and the income from them can fall as well as rise and investors may not receive back the original amount invested. Past performance is not a guide to future performance.

DISCLAIMER

By necessity, this briefing can only provide a short overview and it is essential to seek professional advice before applying the contents of this article. This briefing does not constitute advice nor a recommendation relating to the acquisition or disposal of investments. No responsibility can be taken for any loss arising from action taken or refrained from on the basis of this publication. Details correct at time of writing.

Evelyn Partners Investment Management Services Limited and Evelyn Partners Investment Management LLP are authorised and regulated by the Financial Conduct Authority. Services may be provided by other companies in the Evelyn Partners Group.