Maintaining Liquidity in Corporate Cash Accounts

Abstract

Separate accounts may offer greater return and reduced credit risk compared to prime money market funds. By examining current and future liquidity needs and the potential for significant deviations from cash flow projections, corporate treasurers may construct portfolios with direct investments in high-quality credits that provide current, future and emergency liquidity – and still may achieve higher returns than money market funds.

Introduction

Events of the past three years have shriveled yields for deposit and money market products, while at the same time increasing investors’ risk of both principal loss and interruption in liquidity. Corporate treasurers who traditionally have maintained all of their cash in bank deposits or overnight products may be forced to examine other options to maintain a competitive (or merely positive) return without incurring inappropriate credit risk. A major hurdle in this process is satisfying the need for daily liquidity given businesses’ varying degrees of clarity with respect to future cash needs. Fortunately, with a carefully planned maturity structure and organized strata of liquid investment vehicles, separately managed account portfolios (SMAs) can offer a high degree of liquidity that may satisfy most treasurers’ requirements.

Types of Liquidity

For some corporate treasurers, liquidity is a term reserved for bank deposits or money market fund shares, and they consider other investment vehicles to be illiquid by comparison. Such a definition is needlessly limiting. Furthermore, as we saw in 2008, this definition is not uniformly true for all banks or money market funds. Three years removed from the peak of the crisis, the pace of bank failures continues, with 84 so far this year, while money market fund reform efforts remain unresolved. For any corporate cash instrument, from bank deposits to mutual funds to direct investments, a close examination is required to understand liquidity characteristics.
Leaving analysis of banks and money market funds for other discussions, let’s consider them liquid for our purposes here. In addition to the organic liquidity that may be accessed by withdrawals from a bank account or redemptions from money market investments, future organic liquidity may be maintained in securities with scheduled maturities that correspond to forecasted liquidity needs, whether overnight or months down the road. Unfortunately, perfect predictions of future cash needs are rare in many businesses, so a simple ladder of maturities to correspond with forecasted spending plans may not resolve many treasurers’ liquidity requirements.
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