Mitigating Risk with a Layered Investment Strategy

The FOMC made two points clear in their September 13 statement as they announced an open-ended security purchase program to keep downward pressure on interest rates:

1. “Strains in global financial markets continue to pose significant downside risks to the economic outlook,” and
2. “Exceptionally low levels for interest rates are likely to be warranted at least through mid-2015.”

Our take away from these points is that greater credit selectivity in the finance sector combined with investment in longer duration securities may be an effective strategy for investors seeking to increase yield and minimize risk. In other words, reducing finance exposure and extending duration may benefit corporate cash investors. It’s easy to understand why these adjustments make sense, but the challenge is in the implementation. Money market funds and bank deposit accounts are instruments widely used by corporate cash investors, but they both may result in a high exposure to the finance sector and limited duration at a time when opposing strategies may provide a better risk/reward profile.

While exposure to prime money market funds and ECRs may have been inherited by investors through their banking relationships, reducing total concentration to the finance sector and extending duration certainly can be accomplished while maintaining these relationships. Portfolio modeling can demonstrate the benefits of duration extension and the impact of reduced concentration in the finance sector. This approach allows treasurers to balance their existing bank exposures with the goal of a broadly diversified cash portfolio. In this month’s research, we look at risk/return modeling and the benefits of layering a separate account strategy over typical prime money market fund holdings and other short-term finance exposures.

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Best Regards,

Ben Campbell
President & CEO