A debate stirred up over inter-authority lending in Wirral has highlighted the need for financial training of councillors.

Conservative councillor Leah Fraser published a blog criticising the Labour-held Merseyside council for using reserves to make loans to other councils. Listing both Wirral’s counterparties and the interest rates on their loans Cllr Fraser dubbed the authority “Wonga Wirral”.

On Twitter several other councillors from the same party responded to the story with critical Tweets and the Wirral Globe published an online opinion poll asking the public whether they thought the council should lend its “council tax payments” to other authorities. The overwhelming majority of respondents said that it was not acceptable.

Cllr Fraser’s blog read: “It seems Wirral’s ‘Wonga’ Council is happy to bring in a bin tax for residents while lending the cash to councils elsewhere. If Wirral Council is so awash with money, why don’t they invest it a bit closer to home, to benefit the people who live here?”

Joe Blott, Strategic Director for Transformation and Resources at Wirral said that the council’s treasury management investment strategy identifies approved financial institutions, as well as other local authorities, who the council negotiates agreements with for the benefit of residents. “Lending to other local authorities is a low-risk way to raise income to support our services,” he said. “Local authorities have a responsibility to manage their finances to optimise performances. This doesn’t just mean sitting on suitably sized reserves, it means making prudent investments.”

Newcastle borrowed £6m from Wirral and its director of resources, Paul Woods, spoke on local radio to try and explain the matter to the public. “At the moment we have borrowed from Wirral and one or two other councils,” he said. “We can get much cheaper interest rates. With the Wirral loan we are borrowing at 0.6% which is significantly cheaper than the cost of borrowing we would get somewhere else.”

Northumberland’s director of finance, Steven Mason, also commented that his council routinely borrows from others: “This represents value for money in comparison to borrowing from other sources,” he said. The Leader of Wirral council pointed out in local press that the council had in fact made over £600,000 from the interest paid on its loans to other authorities.

Steve Bishop, strategic director for South Oxfordshire and Vale of White Horse told Room 151 that education for both the public and members is required. “As a general point about the education of councillors and members this story illustrates how important it is for all members, not just cabinet members,” he said.

“If this councillor purports to be interested in finances it illustrates the need that any judgments about investment or borrowing be made in the context of having read that council’s treasury management strategy and policy*. The chances are that the strategies and policies that have been approved by councillors will give the council the remit and might even direct officers to spread risk across a range of portfolio instruments and might mention the need to invest in other councils out there. So part of the education for councillors has got to be to read what your council sets out to do, because if it wants to lend to other councils you’ll just look stupid criticising it because you’re criticising something that you and other councillors have already approved in the past. Ms Fraser should be reminded that she needs to revisit the councils treasury policy and then decide whether she thinks it’s a daft idea.”

* Wirral’s Treasury Management Strategy lists ‘Term deposits with other UK local authorities’ in its approved specified and non-specified investments. P.50 & 51

The Local Authority Mortgage Scheme (LAMS) in Wales has been suspended after a decision from the Welsh Audit Office.

LAMS is a UK-wide scheme – there are 82 versions of it in England and several waiting to launch in Scotland. The scheme aims to help people get onto the property ladder through councils acting as guarantors for first time buyers.

Welsh authorities Cardiff, Ceredigion, Conwy, Rhondda Cynon Taf, Pembrokeshire and Powys are at various stages with LAMS (some of the schemes have been fully taken up and closed). However the Wales Audit Office (WAO) has stated that for accounting purposes, the money that councils set aside as indemnities for partner mortgage lenders should be classed as investment, not as capital expenditure. A report from Powys County Council from May states that the WAO first provided its view circa June 2012. The Welsh Local Government Association (WLGA) advised Welsh authorities of the WAO’s view in July 2012, continues the report.

The originators of LAMS, Sector, entered into discussions with the WAO and the WLGA and obtained counsel opinion confirming that amounts placed with lenders be classed as capital expenditure.

However the WAO is standing by its opinion. Its statement to Room151 reads: “The WAO has considered the appropriate accounting treatment for the cash backed schemes which has included obtaining external legal advice. In our view, proper accounting practice would require authorities to account for the deposit as an investment. We have advised auditors in Wales of this view and they will discuss the accounting treatment of LAMS arrangements in Wales with local authorities as part of the audit of the 2012-13 financial statements.”

Sector is now talking with the Welsh government about the matter but has suspended LAMS in Wales. Ann Owen is S151 at Powys. “At the moment our scheme is open and we are going with the treatment as investment as opposed to cash,” she explains. “It comes down to a difference in accounting treatment – by the time the WAO advice came out we were at a different stage of our scheme to others; some hadn’t launched so I don’t know whether it will have changed their opinion on things.” Gwyn Jones, finance director at Ceredigion, also confirmed that his authority had changed the accounting treatment.

Cardiff is also now treating the payment of £1m to Lloyds as an investment. Christine Brain, who deals with LAMS at the council, said: “Following discussions with the Welsh Audit Office the council has amended its planned initial treatment of a £1m cash advance to Lloyds Banking Group as part of the Local Authority Mortgage Scheme to not being directly or indirectly linked to the mortgage indemnity, i.e. not used towards the mortgages it provides. This has meant that within this Statement of Accounts the council treats the payment as an investment for treasury management purposes, rather than as capital expenditure. The provider of the scheme views this approach as not consistent with the legal agreements in place and has withdrawn the scheme in Wales. ”

Cecilie Booth is director at Sector. “LAMS was never intended to create an investment opportunity,” she says. “If it is treated as investment and local authorities are using it as an investment vehicle rather than the provision of mortgage support it is not doing what we set out and sought legal advice and State Aid permission to do.”

“From our point of view, we have taken legal advice and have a State Aid application based on a scheme that is constructed a certain way. When local authorities do something different it puts everybody at risk and that is our position. We won’t be able to re-open the scheme in Wales if we found it puts local authorities there at risk of a challenge because they are not operating the scheme the way it was intended to be operated.”

The closure of the scheme would leave Wales with very little ammunition for helping first time buyers, as Help to Buy does not operate there. As one council noted in a report on the subject: “Increasing the supply of affordable housing is a priority at a national and local level and as such the LAMS has been an important tool in assisting residents into home ownership.”

There are going to be some new banks appearing on our high streets over the next few years as a result of various planned de-mergers.  As part of its penalty for receiving state aid in 2008, Lloyds TSB has already announced that it will be splitting into two new brands this autumn – called Lloyds and TSB.  RBS has a stack of branches to sell for the same reason, and may also split into “good” and “bad” banks, while all our biggest banks will have to separate retail and investment activities before 2019.  Maybe some of these will take on more imaginative names than Lloyds could come up with.

Many banks go for names that say “strong” or “safe”, so Permanent, Fortis and United are quite common components, while Citibank and Metro evoke thoughts of skyscrapers.  Co-operative sounds like a helpful bank, while India’s Yes Bank presumably never says no.  On the other hand, some names sound less than impressive in English – Norway’s Sparebank or Japan’s Softbank , for example.   Even South Africa’s Standard Bank sounds plain mediocre.

Numbers play a part of many bank names – First Trust, First Active,  First Investment, First Direct, etc, but unsurprisingly there aren’t many Seconds – the Second Bank of the United States was liquidated in 1841.  There is however a Fifth Third Bank in the US, and even a 77 Bank in Japan.

National identities can be a strong brand, of course, so we have Banks of America, Cyprus, Ireland, New Zealand and Scotland, as well as Belfius, Deutche, Dankse Banks and Credit Suisse.  But don’t try opening accounts with the Banks of Canada, England, France or Spain – they are all central banks concerned with bank supervision and monetary policy instead.  Regional identities can also be important – Scotland’s Clydesdale is known as Yorkshire Bank in God’s Own County, while Nationwide Building Society has retained the Derbyshire and Cheshire brands despite merging with them give years ago. Some regional brands become so entrenched nationally that they become more famous than their namesake towns – think of Bradford & Bingley, Halifax and Woolwich or even Santander, for example.

Some names are just plain odd – so we have an Apple Bank and a Tomato Bank in the US, to complement our own Egg.  And to confirm its place as the home of silly names, America also has banks called Redneck, Tightwad and Moody.

Of course, if your brand is strong enough, you can apply it to anything.  Virgin might have started out as a record label where youth and inexperience can be appealing, but they’ve successfully applied it to businesses where an older and wiser sounding name might have been appropriate, such as Trains, Airlines and now Money.

Royal Bank of Scotland looks likely to rekindle its past history if, as expected, it re-launches the Williams and Glyn’s brand for the branches it must sell by order of the European Commission.  If it also has to pick a name for a bad bank, it could look to its own recent history.  The ABN Amro name has unfortunately already been re-used in the Netherlands, but given the location of most of its worst performing assets, it could just call it Ulster Bank.

David Green is Client Director at Arlingclose Limited. This is the writer’s personal opinion and does not constitute investment advice.

European Commission proposals issued on Money Market Funds this week have been badly received by markets, with commentators saying that they go too far.

The EC is proposing that all MMFs based in Europe either value their assets daily (i.e. move to Virtual Net Asset Value, or VNAV pricing) or build up capital buffers of 3% of assets under management to guard against losses.

The Commission believes that Constant Net Asset Value (CNAV)  funds are more susceptible to runs during market turmoil. Announcing the proposals EU internal market commissioner Michel Barnier said: “The funds are not as stable [as bank deposits] and when there is tension this can imperil the financial sector, especially banks.” However the Commission’s proposals do not go as far as those suggested by the European Systemic Risk Board, which called for all money market funds to change to Virtual Net Asset Value (VNAV) pricing. Barnier called a ban on Constant Net Asset Value funds “brutal” and said it would damage the European economy.

However the Institutional Money Market Funds Association called the proposals a “de facto abolition” of CNAV funds saying that holding a 3% liquidity buffer would prove “uneconomical” for asset managers.

Susan Hindle Barone, Secretary General of the association said: “We reject the assertion that there is a greater degree of systemic risk inherent in constant NAV money market funds. The European Commission has not demonstrated that CNAV funds are more susceptible to run-risk than VNAV funds and the discrimination between these two accounting techniques is unjustified.”

Another proposal in the report could be of further concern to council finance officers. The Commission recommends that MMFs be banned from asking for and paying for credit ratings. AAA-rated money market funds are widely used by local government, with the rating providing much comfort.

Andrew Larkin, senior client director at Arlingclose, thinks that funds could move to VNAV. Many have been publishing ‘shadow’ VNAVs for some time and movement has been in the two-to-three thousandths of a basis point range, he explains. “Investors would get scared if asset values started jumping about,” said Larkin. “You’d ask, can something be used as a liquidity product if the NAV is moving on a daily basis, but we are pointing out to clients that the shadow net asset values are remaining stable and greater regulation can make products more stable in the long term.”

Although the Commission could vote as early as the first quarter of next year on the proposals, funds could have up to three years to make the changes.

A consumer banking website has been looking into whether councils should be trying to recoup potential losses from the Libor-fixing scandal.

The website Move Your Money, which usually challenges the public to switch away from the big four banks, recently put together a local authorities’ toolkit to encourage councils to invest in social value, but in the process found that authorities “didn’t really have a handle on how Libor fixing had affected their investments,” according to a spokesman.

The European Union this week passed a law allowing fines of 15% of turnover to be levied on firms found guilty of Libor fixing and a second part of the law, to make financial crimes punishable by jail sentences, is expected in the coming weeks. But while councils in the US, including the municipality of Baltimore, bought swaps affected by rigged Libor rates, UK local government has largely steered clear of derivatives since the late 80s.

FOI requests submitted by Move Your Money to a number of councils found that authorities did not think they had been exposed to losses. Moray Council said that it had no Libor-linked investments and pointed out: “If Libor was successfully manipulated to be lower than it would otherwise have been, then the council may have received less income than it would have done otherwise, but…will also have paid less interest on its Lobo (loan) which at £33.4m in total, outweighs the amount the council had invested at any stage during the period in question.”

Westminster responded succinctly: “There has been no impact of Libor manipulation upon council managed investments, savings, pension funds, interest rate swaps, derivatives and other interest hedging products pegged to the Libor rate.”

Lancashire’s head of public market investments Trevor Castledine told Room 151 that any exercise to look into potential losses would be expensive. “Most of the stuff we’ve invested in would have been fixed rate,” he said. “Historically the pension fund had low exposure to floating rate; we’d have been in gilts or investment grade credit. As people set Libor it could make a change to the valuation at the margin but the process of calculating that would be so arduous for so little back that it wouldn’t be worth it.

“It is very complex,” Castledine continued. “So if you were looking at litigation you’d have to take a view on the risk/reward of looking into it. Just the cost of staffing an initial investigation would be more than a lot of councils could take on.”

The treasury consultants agree with Castledine’s view. Arlingclose director David Green reckons that councils don’t see it as a big issue. Councils don’t tend to make Libor-linked investments or loans, and figuring out who to go after for redress (“the investment counterparty, the Libor panel banks, the BBA which owns Libor, Thompson Reuters who compile Libor”) is complicated. Sector director Cecilie Booth said that she wasn’t aware of any councils who think they had incurred a loss.

A class-action lawsuit in the US against 16 banks accused of Libor-rigging saw a large part of the claim dismissed in March when a judge ruled that the banks had not acted anti-competitively, manipulated commodities or breached racketeering and state law rules.

Manchester City Council will receive the second part of a special dividend from Manchester Airport in two weeks time. The authority has already been paid £11m of the dividend, which relates to the airport’s purchase of Stanstead Airport earlier this year. Another £7m will be paid in October.

And the council is drawing up plans to spend the entire amount on a “cleaner and greener” city. Richard Paver, city treasurer, said that the investment aimed to improve the environment without generating ongoing costs. Some work will be done on changing behaviour. For example new litter bins will be installed, but a programme will also run to encourage people to use them, said Paver.

“The economic benefit is in making the city a nicer place,” he explained. “We’re the second most visited city outside London (we were swamped last night with a Manchester United game and someone stopped me asking where he’d be able to find a hotel tonight and the answer is don’t bother looking) – so there is economic benefit in changing the whole environment of the city to make it cleaner and greener so that even more people will come and visit it.”

Manchester’s investment in the airport is long-held. “It became an aerodrome after the war so I imagine the council became involved in the 50s or something like that,” said Paver. The clean and green programme will be Manchester-wide, he added. “There isn’t just a city centre focus to this though, in the last few years with the cuts we’ve had to make we haven’t managed to maintain the environment to the standard we would have wanted to, so it is about a step change, it needs to be a self-sustaining greener and cleaner city.”

Nine other local authorities form the shareholders of Manchester Airports Group. One of them, Wigan, has seen some pressure to sell its stake to bolster services, but the council has pointed out that the investment generates a £1m per annum return. Other UK airports including Luton and Newcastle, are owned by their local authorities: in Newcastle’s case seven local authorities hold 51% of the airport.

Expertise and a reluctance to invest in long-duration securities are preventing local authorities from accessing yield from corporate bonds, found one of the panels at Room151′s Local Authority Treasurers’ Investment Forum last week.

While some councils invest in government bonds over the short term, corporate bonds remain out of the picture for most, with a number of issues preventing investment.

Vishal Sharma, treasury manager at Westminster City Council, outlined their use of UK government bonds: “We buy very short duration stuff like tail-end gilts,” he explained. “It would cause all sorts of issues for our accountants if we went to further durations.”

Some councils had “done very nicely over the last two years,” said Surrey’s strategic manager for pensions and treasury, Phil Triggs, taking positions on gilts, putting risk on the table and doing well out of it. “Surrey is not that way inclined,” he said. “We see this as a short term operation, looking no longer than twelve months ahead in terms of investment periods.”

Payden & Rygel principal Robin Creswell asked why corporate bonds remain off the radar for some local authorities. “Today you can buy three, four, five year corporate bonds yielding 2.5-3% and more, 10 year gilts yielding 3%. In local authority world those are useful numbers, albeit with interest rate risk,” he commented.

“What is holding everyone back? The potential risk of loss on a bond or investment portfolio? Potential volatility? Or how to account for bonds that go up and down in value that we have to hold to maturity or that we might sell in the intervening period?”

Westminster’s Sharma said that a ten year duration was simply too long for his authority to consider. “It is understanding the risks, having the framework in place, there are factors in terms of the interest rate risk which would concern the council and the accounting problem is an issue.”

Expertise is also a factor, he added. “There may be a time when local authorities have the right expertise to do this and go to ten year buckets but members wouldn’t be comfortable with it at the moment.”

Triggs said that his council was able to invest in pooled funds or corporate bonds, “but given where we have been in terms of record highs in gilt markets it is not an area that we have ventured into. In a more normal situation it would be a distinct possibility.”

TfL treasurer Simon Kilonback said that to overcome the expertise problem councils should group together, the Tri-borough and Greater London Authority have the concept of clubbing together for shared services, he pointed out. “Rather than pooling investments perhaps councils could pool talent and staff?”

Sharma noted that industry bodies were keen to push bonds. “With Cifpa and Sector, all the advisers, corporate bonds are a hot topic. There is clamour for education and training in this area. When that comes and the understanding comes perhaps the expertise will come with it.”

HSBC Asset Management’s Jonathan Curry said that councils could turn to their asset managers for expertise. And Creswell noted that the image of a fund manager “making guesses with bonds that didn’t turn out right” was from a different time. “It is possible to sit down with a district and look at cash-flows and quite carefully match up a portfolio of investments that very closely meet their needs and then you can describe to the potential investor what risks they are actually taking. Then you form a judgment as to whether you trust that information or not. It behooves us as an industry to put that information in your domain and begin to build your confidence in the information that is available.”

But with interest rates likely to go up, Ealing’s group manager for treasury and investments, Bridget Uku pointed out that bond values could be eroded. “I just don’t think that this is the time for treasury managers to be looking at bonds,” she said.

UK local authorities have been allowed to invest in corporate bonds since last February’s changes to the capital finance system. Before that time their classification as capital spend rendered the asset class complicated to invest in.

Investing in government and corporate bonds is rising up the local authority treasury management agenda again, but I’ve recently heard several people cite “difficult accounting” as a drawback.  I know that being an accountant myself I might think it’s easier than others do, but I’d like to show you that the rules are not at all difficult and shouldn’t be a barrier to local authorities investing in this asset class.

After all, with five year gilts paying 1.50% but base rate likely to be 0.50% for most of that time, if not all, they appear to offer rather good value for a credit risk free investment.  For minimal extra risk over the same five year period you can get 2.00% from the European Investment Bank.  Authorities without the financial or human resources to hold and manage bonds directly can still gain the benefits of this asset class by using pooled bond funds.

Local authorities are required to prepare theirs accounts using International Financial Reporting Standards, as adapted by the CIPFA/LASAAC Code of Practice on Local Authority Accounting in the UK.  The investment accounting rules in the 2013/14 edition of the Code are based on International Accounting Standard 39, which classes bonds and pooled funds as “available for sale” (AFS) financial assets.  The significance of this classification is that while most of the gains and losses are taken to the income & expenditure (I&E) account, gains and losses arising from fluctuations in market value are shown in the AFS reserve instead.

Let’s take a real example and see how it works.  You can buy £1,000,000 of the five year UK government bond, the 2018 1.25% gilt, for just £988,000 today.  Assuming your purchase costs are negligible, you would show this as a £988,000 investment just like a fixed term deposit of the same amount.  Interest is credited to the I&E account at the bond’s effective interest rate (EIR) of 1.51% – this rate takes account of both the £12,500 annual interest and the £12,000 capital gain that you are going to receive in 2018.  You can calculate this EIR very accurately and very easily in a spreadsheet using the “rate” function, but you can do it roughly in your head too.  The £12,000 capital gain spread over 5 years is £2,400 a year; adding that to the £12,500 annual interest gives £14,900 a year of income; dividing that by the initial investment of £988,000 gives 1.51%.  If you go to enough significant digits there’s a slight difference in the two answers due to the effects of compound interest, but at these interest rates it’s quite immaterial.

So if the investment income is £14,900 a year, then by 31^st March 2014 you will have earned roughly half of this sum, £7,450, but in cash terms you will only have received £6,250 (being half of £1 million x 1.25% – as gilts pay interest every six months).  So at year end, just like for other investments, you will need to accrue the income you haven’t received in cash yet, £1,200, crediting I&E and debiting (increasing) the investment on the balance sheet to £989,200.

However, it’s likely that market interest rate expectations and investor appetite for gilts will be a bit different at the end of March than they are today.  So for example, the market price of your bond might have fallen to £98.62 per £100 face value, leaving you with a £3,000 unrealised loss.  The key point here is that this is a paper loss and not a revenue cost; you will reflect this by debiting the AFS reserve and crediting the investment balance, taking it to £986,200.  In fact, the £3,000 will never hit the revenue account, because you are guaranteed to receive the £12,500 annual interest and the £1,000,000 principal back on maturity, irrespective of how the market value changes in the meantime.

Accounting for pooled bond funds is even easier.  Funds are also AFS, but they do not have an EIR and so your investment income is simply equal to the amount distributed to you by the fund.  The only accrual you would need to make is if a dividend is declared before 31^st March but paid to you afterwards.  Any changes in the price of the fund’s units representing capital gains or losses are taken to the AFS reserve as they are with bonds held directly.

This can cause a problem if you have an accumulating share class where all the income is rolled-up in the fund, so you never receive any dividends.  This means you would never account for any investment income until you sold your units.  IAS 39 allows investors to get round this by designating these as “fair value through profit and loss” (FVTPL).  However, the CIPFA/LASAAC Code does not permit local authorities to take advantage of this entirely sensible option, leaving them either ignoring the Code or withdrawing all their investments every year end.

Now, IAS 39 is due to be withdrawn and replaced with IFRS 9 soon, with adoption of the new standard currently scheduled for 2015/16, having already been put back two years.  Some aspects of IFRS 9 are still out for consultation though, so it is possible that implementation will be delayed again.  The main change proposed in the accounting for bonds is a simplification – if bonds are expected to be held to maturity then they will not be measured at market value, and so you will no longer show unrealised gains and losses in the AFS reserve.  Fair values will still need to be calculated and disclosed in the notes to the accounts, but just like fixed term deposits and long-term borrowing, they will not affect the I&E account or the balance sheet.

The proposed accounting for pooled funds in IFRS 9 is the opposite of IAS 39 – the default position is that they will be FVTPL, with all gains and losses going straight to I&E, but with an option to irrevocably designate them as “fair value through other comprehensive income”, which is effectively the same as the AFS category.  We will be lobbying CIPFA/LASAAC to allow local authorities to make use of this designation when the time comes.  It would be rather odd if a new accounting standard that allows you to account the same way as before is used by CIPFA to enforce a change that adds volatility to the revenue account.

So hopefully you’ll agree with me that bond accounting isn’t too difficult, even if there is a bit more involved than accounting for fixed term deposits.  I certainly wouldn’t want the need for a simple spreadsheet calculation and the posting of one or two extra journals a year to stop you making sound treasury management decisions.

David Green is Client Director at Arlingclose Limited. This is the writer’s personal opinion and does not constitute investment advice.

Robin Creswell is Managing Principal at Payden & Rygel Global Ltd

Speaking at the Local Authority Treasurers Investment Forum provided an opportunity to poll attendees on their ownership of money market funds.  Of around 120 delegates attending, some 95% confirmed they were invested in money market funds, of the remaining 5% just 2% had no intention of adding these funds to their TMS.  An informal sampling later suggested that whilst approximately 30% now permit variable net asset value (VNAV) funds in their TMS, close to 100% of money market fund investments were held in constant net asset value funds (CNAV) which form a key plank of treasury strategy.

It came as a surprise to many to hear of the latest draft legislation from Brussels released in September which proposes new regulations which may in effect bring to an end CNAV funds or potentially make them much more costly.  The measure weighing most heavily on the sector is a proposal that fund managers or the sponsors of money market funds set aside capital within their company balance sheets amounting to 3% of the value of the money market funds they manage. To be clear, this is not a liquidity buffer held inside the fund comprised of investor assets but cash the sponsor must find, to be held in a non interest bearing account to provide for a potential shortfall in the net asset value.

Banks would either have to find additional new capital or divert it from other potentially more remunerative areas of their business.  Money market funds are notoriously low margin or no margin vehicles which are often provided to complete a suite of client services.  If the cost of holding reserve capital cannot be passed on to the funds, banks and fund managers will most likely close their funds of float the NAV and some have already done so.  Fund managers without substantial capital or parent backing would have no means of providing the required capital and would have to either close or sell their funds.

Estimates of the cost to fund shareholders of the new measure vary between 15 and 20 basis points annually depending on the sponsor’s cost of capital, with lower rated banks paying more.  The highest quality sterling money market funds today yield some 10 basis points or less, net of fees.  An addition load of 15 or 20 basis points would ensure these funds produced a negative return of 5 to 15 basis points annually.

Money managers have already begun to adapt to the changing environment even before news of the potential capital requirement was raised.  In the early part of the year US dollar and Euro managers began approaching investors in their funds to approve special resolutions first to float their NAVs and then to re-impose full fees which had been reduced or suspended as interest rates fell in the vain hope of maintaining the viability of the funds for investors until interest rates moved higher.  In fact with the medium to longer term outlook for interest rates suggesting a lower for longer interest rate environment, a number of US dollar and Euro funds are no longer viable and have either closed or moved to variable net asset value.

THE POLICY MOTIVATION AND WHY IT WON’T GO AWAY

Governments and policy makers are determined that tax payers should not underwrite the shadow banking sector, as they describe it, any longer.  However in order to make aspiration a reality and to avoid the public outcry of not supporting the sector, governments need to create effective tools to deliver the policy. This legislation is that tool and the policy very effectively delegates more of the risk and more of the underwriting to managers, promoters and investors.  The message now may be - If you want CNAV, here it is, here are the new rules and there’s a cost. If you don’t want CNAV here’s the alternative, but don’t expect the government, the taxpayer or the sponsor to have any moral or legal obligation to support your fund in the future.  It’s important this message sinks in; governments are not going to stand behind these funds in future and sponsors will have little or no motivation to do so either.

MONEY MARKET FUNDS IN CONTEXT

It is estimated £1 trillion is in invested in UK and continental European money market funds, a part of this is corporate cash, the largest investors, where in the UK alone cash held on company balance sheets is now estimated to be sufficient to pay all the dividends of the FTSE 100 companies for the next three years.  However these large numbers represent just 15% of the European funds industry and perhaps as little as 5% of industry revenues, some think these funds are a net drag on company profits.  So there may not be much appetite to defend the status quo, despite initial protests, especially if in the great board game of Brussels the cost of a “win” here amounts to a “loss” somewhere else.

France, Luxembourg and Ireland comprise 95% of the market which also gives this an interesting dynamic; Ireland appears keen to maintain the status but it may be that the French sponsors are in favour of the new rules. In France there is already a predominance of VNAV funds (50% or more) and sponsors of these funds felt obliged to prop up and subsidise fund values during the liquidity squeeze to preserve their reputations and their businesses.  Fund subsidies were costly, some £5 billion was used to prop up funds and this legislation is being seen by some as an opportunity to rid them of any obligation to stand behind their funds in future.

THE CRUCIAL ROLE OF MONEY MARKET FUNDS

Legislation will need to take account of the crucial role money market funds play in the capital markets and may prove a mitigating role in the legislative process.

25% of short term debt issued by EU Governments is purchased by these funds as is 28% of short term debt issued by banks.  Key users of the funds for this purpose are Germany, Britain and France.  Governments and banks depend in part on these funds as a low cost flexible source of funding and it is not clear what would replace this source were it disrupted. Capital markets cannot afford a wholesale move out of CNAV funds and for the smooth running of these markets to continue acceptable regulations will need to be found.

A TIMETABLE FOR CHANGE

In September 2012, The EU undertook general consultation on the topic with industry participants.  Earlier this year, March 2013 an “Impact Assessment” was undertaken which concluded that there was a need for an “adequate” buffer to back up a funds “promise” to redeem investors at a constant price.  In September the European Commission published the “New Rules for Money Market Funds Proposed” document, containing details of the proposed 3% buffer.  Looking forward to March 2014 the Commission must have EU member states and the EU Parliament give approval to legislation before the spring elections and ahead of the parliamentary recess.  If this timetable is adhered to implementation will take place in 2015 or early 2016

Potentially the most likely outcome is a choice between costly CNAV funds and less costly VNAV funds. As the legislation firms up it will become clear what those costs will be.  For some the absolute of a CNAV fund will outweigh all other considerations.  But in an income constrained, revenue limited world, for most, the smart option, as we see it, will be to make a break-even analysis between the costs and the benefits relative to specific needs.  The message today must be, prepare for VNAV (it will be a close cousin of its neighbor CNAV) and be ready to evaluate between the two.  Prepare also for advising your members who will need to understand what is coming, and prepare to adapt TMSs, accounting policies and systems.

Matthew Bance is UK strategist for UBS Global Asset Management. He works on UK funds, including the Multi-Asset Income fund, for which UBS launched a local authority share class in June. The fund seeks to provide income of Libor+3% and has gathered several LGPS fund clients since coming to the market.

Room 151: What is this multi-asset fund aiming to do, and for who?

Matt Bance: In the UK in general we have three key funds and a large book of institutional business. We get involved in the design of bespoke segregated accounts and have some big UK balance accounts for UK local authorities and pension funds.

Multi-asset is trying to focus on the outcome of the fund, specifically to try and deliver cash plus 3% income. We invest across different asset classes, so actively allocate toward asset classes that will help us achieve our income target or help control the volatility of the fund.

What is important from our point of view is you can target very high levels of income if you want, but doing that would involve taking on a degree more investment risk. We’re trying to achieve the income but do it in a manner that won’t erode the value of the capital, and trying to keep the volatility of the fund relatively low.

Room 151: What is your asset allocation?

MB: We’re fairly flexible in what we can invest in but we do have guidelines. We’re not allowed to hold more than 40% in non-interest bearing securities so have to hold at least 60% in fixed income or cash. The fund is structured as a bond fund so what that means for non-taxpayers like treasury managers for local authorities and the like is that they will continue to receive gross interest, as if they were investing in a money market fund or something like that.

Also it provides an element of comfort to those investors who are going into this sort of fund who don’t have experience of some of the different asset classes.

At the moment we have 22% in equities, 4% in real estate, around 8% in alternative income sources (which includes infrastructure and insurance-linked securities). In fixed income we have 10% in corporate bonds, 29% in high yield, 7% in mortgage-backed, 12% in index-linked, then the balance is in cash.

Room 151: Do treasurers, who tend to like slow and steady in terms of income, worry when they see that sort of breakdown? With high yield and real estate it looks a bit more exciting than it initially sounds.

MB: Yes, I think for treasury managers we’re very clear that this is only suitable for someone who is willing to invest across an investment cycle. When we have spoken to clients and prospects people say they do have money that they don’t intend to use for a number of years. And many have a target return to achieve with the pot of money that they have and the traditional instruments that they have been using haven’t got them anywhere close to that.

We have discovered that some clients were going into different asset classes, treasurers were going into property funds, equity income funds, but there was a degree of unease on their part because it was a venture into the unknown, and they were forced into making asset allocation decisions themselves: when to go into a market; what to go into; when to exit. The appeal of this fund is that they outsource those decisions to us.

Room 151: How do they feel about nearly a third of the fund being in high yield and nearly a fifth in equities?

MB: We opened the share class aimed at this market back in June and since then we have onboarded three or four clients and had conversations with a number of others. For the most part they understand it because we see ourselves as much less risky than an equity income fund, for example, and in our conversations we found that they’d allocated to equity income funds, or property funds, where there is less liquidity.

The market does seem to be very polarised. Some managers wouldn’t feel comfortable with these kind of funds, but when they are able to take a view over an investment cycle, in the order of three years, they have been very relaxed about doing so, and this is a small part of their overall pot.

Room 151: The minimum investment is £1m, are people investing around that mark?

MB: Yes, around the minimum. The view that some have taken is that this is a comparatively small fund and given that this is fairly new for some they are comfortable putting some money in, seeing how it goes and almost pound-cost averaging over their stage of investments.

The fund has achieved a capital return since the share class was set up in part because markets have done well. In terms of the principal focus of what we are trying to do, which is the income part, they receive their first full quarterly interest payment and it is on track to be 3.8%: in line with our targets.

The fund has been going for four years and has been in line with its targets over that period as well. Clients, I think, have been pleased with the experience as well.

Room 151: How would you explain the risk profile of the fund to an elected member?

MB: In the long term we expect a risk profile of around 5-8% volatility. That’s about equivalent to corporate bonds or around a third of equities. I would say that there might be a temptation for some who have moved into corporate bonds over the last years where it has been an extremely favourable environment.

We’re able to manage the duration within our fund. At the moment it is around 2.6 years. Corporate bonds in the UK index in particular tend to be heavy in duration, maybe eight years or so. If an environment of rising rates is feared, corporate bonds are going to suffer significantly in that environment, but we are able to position the fund more conservatively in terms of the duration exposure it has.

We have some shorter-dated bonds in there but if you contrast corporate bonds to high yield bonds it is interesting to see that corporate bonds have significantly more duration, although they are perceived as less risky in terms of likelihood of default. So in the event that yields do go up corporate bonds would fare worse than high yield because high yield bonds have higher coupons and typically shorter maturity of assets.

Surely not, I hear you cry.  If the devolved government actually prevented local authorities from using one of the most secure and liquid investments available, then it would cause an outcry, wouldn’t it?  Well, you’re right, there isn’t actually any regulation banning the use of money market funds in Wales but if you look a little closer, then arguably, they might as well have.

Money market funds (MMFs) are widely used for short-term investment by all sorts of public and private sector organisations, including hundreds of local authorities.  They are designed to put security first, then liquidity and finally yield, which means that they exactly meet the objectives of the official “Guidance on Local Government Investments” and the CIPFA Code of Practice. The high security arises because they are diversified pools of short-term investments in highly rated banks, providing investors with access to many additional counterparties; this is reflected in their AAA fund credit ratings and their average constituent credit ratings of AA- or A+.  They are highly liquid because investors are able to withdraw their funds on the same or next day.  Yields are currently around 0.35% to 0.50%, not great, but a decent reflection of the funds’ low risk nature.

However, because an investment in a MMF is achieved by purchasing shares in the fund, they come within the scope of the Capital Finance Regulations in England, Wales and Northern Ireland. These regulations class the purchase of shares as capital expenditure, and the selling of shares as generating a capital receipt.  The English regulations explicitly exclude shares in MMFs from these rules, while Northern Irish regulations do this indirectly.  But there is no such exemption in Wales.

This acts as a major disincentive for local authorities in Wales to use MMFs, because they must either set aside capital receipts or other reserves to finance the “expenditure”, or charge their revenue account with Minimum Revenue Provision.  Alternatively, they may be tempted just to ignore the regulations, hoping that if they pull all the money out by year-end then the auditor won’t notice.

So, local authorities in Wales are being forced to manage their investments with one hand tied behind their back.  In today’s heightened credit risk environment, surely Wales should be allowed access to the same secure, highly diversified and liquid funds as the rest of the UK.  I don’t think this is a deliberate policy decision of the Welsh Government, just a regulatory oversight.  After all, there was an exemption for MMFs in Wales from 2002-2004, but it wasn’t repeated when the old approved investments regime was abolished.  With the tenth anniversary of the Prudential era nearly upon us, it would be a good time for Welsh Ministers to amend their regulations along the lines of the rest of the UK.

David Green is Client Director at Arlingclose Limited. This is the writer’s personal opinion and does not constitute investment advice.

Councils need to shake off an overly risk-averse mindset they have adopted since the Icelandic banking collapse, according to leading local authority treasury figures.
A debate at a finance conference organised by the Local Government Association this week heard that council approaches to investment are overly influenced by losses incurred during the credit crunch.
A number of speakers identified ways in which councils could maximise their returns, after being asked whether the mantra of putting security and liquidity before yield was becoming too restrictive.
Chris West, director of finance and legal services at Coventry City Council, said: “As we all know, there was a knee-jerk risk-aversion attitude adopted post-Iceland and we need to come out of that.
“Investment is a very risky environment anyway. We a need to have prudent, thought out, view of what we can do.”
He suggested that councils should consider lending to local businesses at commercial rates if they were struggling to get lending from banks, in order to get higher rates of return.
Duncan Whitfield, president of the Society of London Treasurers and strategic director of finance and corporate services at the London Borough of Southwark, said that such a model was already working well in Birmingham, where the council owns a venture capital firm called Finance Birmingham.
He said: “Finance Birimginham works well. It is not risking huge amounts of money, it recycles itself and it helps local businesses.”
He added that his council had also bought the freehold of its headquarters building in order to save revenue costs, but also as an investment.
Peter Stuart, vice president of the Society of District Council Treasurers and head of finance, ICT and HR at Mid Sussex Council said that councils should also consider loosening existing investment rules.
He said: “Some councils don’t invest with building societies because they are not credit rated. I don’t understand that myself. Local government professionals need to be a little bit less risk averse.”

Four things happened in a single week in December to set the scene for the future credit risk of lending to banks and building societies in the UK and Europe.

Firstly, after months of waiting, the failed Co-operative Bank was finally rescued on Monday 16^th December and placed on a slightly firmer footing, enabling it to continue trading beyond the regulator’s New Year’s Eve deadline.  Unusually for recent UK rescues, this didn’t come as a taxpayer funded bailout from the government, nor as a reluctant takeover from a competitor. The Co-op was only rescued through the generosity of its junior bondholders agreeing to lose around half the value of their investments.  George Osborne’s comments earlier in the month were particularly telling: “our first priority is to save this incredibly important bank … but in a way that does not depend on a taxpayer bailout, which we want to move away from in this country.”

So what does the Co-op story tell us about the chance of a government bailout at any other UK bank?  Well if George wouldn’t put taxpayers’ money into a customer-owned ethical bank, it seems unlikely he’ll feel differently about one owned by rich individuals and overseas investors.  But what about Royal Bank of Scotland – since the government already owns 80%, would it have fewer qualms about bailing its own bank out?  Well until Tuesday 17^th December, RBS was paying the Treasury a regular insurance premium for a contingent capital facility, effectively the promise of another £8 billion bailout if it was ever needed.  Now that facility has stopped, there won’t be another chunk of taxpayer money going RBS’s way – after all, you can’t stop paying the premiums then ask the insurer to cough up anyway.

The EU has been grappling with the problem of “too big to fail” banks since the 2008 crisis, and at its 20^th December summit, it agreed the details of the Bank Resolution and Recovery Directive that had been proposed by the commission in September. This will ensure that there is a bail-in of investors in a failing bank before there can be a government bailout. Many classes of investor – including individuals, small businesses, other banks and suppliers – will be exempt from taking losses. So if there are insufficient junior bondholders, then wholesale depositors including local authorities and large companies will be bailed in for the shortfall.

The scheduled start date for the bail-in regime in the EU is January 2016. But we are ahead of the game in the UK. When it was pretty clear what the European mechanism would be, HM Treasury amended the Banking Reform Act late in its Parliamentary progress to include an identical bail-in provision for this country. This became law on 18^th December, signifying the official end of the bailout era in the UK.  We have now joined Denmark, Netherlands and Cyprus as countries where the government or regulators can force bail-ins to happen, rather than asking investors to vote to take losses themselves.

So, if a UK bank or building society gets into trouble now, there will be a much quicker resolution than the Co-op managed last year.  Around the same time that the bank’s losses become public knowledge, the regulator will announce the size of the losses that will be incurred by various classes of investors in the bank, quite possibly including local authority depositors and account holders.  So on the downside, I expect defaults will be slightly more common – the 17 year gap between BCCI and Iceland might be rather shorter next time.  But on the plus side, you won’t have to wait years and years to get your money back – you should still have access to 60-80% of your cash on the maturity date.  Welcome to the brave new world!

David Green is Client Director at Arlingclose Limited. This is the writer’s personal opinion and does not constitute investment advice.

A group of councils have today taken part in an auction aimed at immediately recouping most of the money they are owed by defunct Icelandic bank Landsbanki.
The auction, organised by the Local Government Association and law firm Bevan Brittan, saw private sector distressed debt buyers bid for the remaining claims of the participating councils against the bank.
Landsbanki collapsed in 2008, owing £413 million to UK councils, and it is understood that around half of that amount is still waiting to be paid back.
A spokesman for the LGA said: ” The majority of councils which had money tied up in Landsbanki participated in the auction.” We expect to make a further announcement on Tuesday once the money has been paid into council bank accounts.”
Councils were approached by the LGA last year to gauge interest in any potential auction which would give them the opportunity to weigh up the risks of waiting for the full amount against converting the paper into cash at a capital loss.
A report by officers at the London Borough of Haringey said: “By selling its claim, the council will receive a known amount of cash in replacement for future unknown cash flows and accounting entries.”
A number of factors make it risky for the councils to keep hold of the debt, including the fact that repayment relies on the sale of assets formerly owned by the bank.
In addition, due to controls imposed by the Icelandic government in the wake of the 2008 crash, recovered money would have to be repaid in Krona, and thus subject to exchange rate fluctuations. Councils would have to have held onto the Krona until such time as capital controls were relaxed to turn it into Sterling.
On the other side of the coin, commercial investors will expect to make a profit, so councils are understood to have been willing to accept less than the full amount outstanding.
Surrey County Councillor Stuart Selleck, who is also director at broking firm Tradition, said: “This will draw a line under the Icelandic banking issue for many of them. If they get back 95 per cent of their money then I am sure they will be very happy.”
In 2012, the LGA, working with Kent County Council’s s151, Nick Vickers, secured priority debtor status for UK councils, and the following year received the first payment of £100 million followed by further instalments.
One of the other Icelandic banks involved in the crisis, Glitnir, repaid the £186 million it owed to more than 50 councils in 2012.

Council treasurers face tough investment decisions following this week’s inflation statement by Bank of England governor Mark Carney, according to a leading fund manager.
Carney effectively dropped his policy of linking future interest rate rises with unemployment levels, following a sharper-than-expected drop in the latter figure.
In the wake of the announcement, Steven Bell, director, global macro at F&C Asset Management told Room151 that councils could expect the official interest rate to rise as early as the end of this year.
Bell said: “The world has changed. The story of the past few years has been that rates are going to go lower than you think and stay there longer than you think.”
“There was really one strategy for treasurers, which was to tie their money up for a long period.
“While returns have been relatively low, investment decisions have been fairly easy. These decisions are going to get a lot harder.”
John Hawksworth, chief economist at PwC told Room151: “The assumption that rates would remain for a couple of years has been safe. It is no longer a reasonable assumption.” However, he said that the expectation that rates are likely to rise relatively soon has been around for some time.
Bell said that in coming months councils would have to balance their desire for safety with the possibility that they could be trapped into long-term investments at low rates only to see interest rates rise.
He said: “In the next six months it will be very easy to get caught out. The governor has to make a very finely balanced decision about when to increase rates. Too early and inflation could rise. Too late and the recovery could stall.”
Last summer, Carney unveiled the “forward guidance” policy, which would see the bank reviewing interest rate levels if unemployment fell below 7 per cent.
At the time, the UK was in danger of a so-called triple dip recession, with the bank expecting the threshold to be reached in 2016. However, the economy has recovered strongly since, with the bank expecting the next set of unemployment figures to show unemployment fell to 7 per cent in January.
This week Carney announced that instead of unemployment figures, a much wider range of indicators would be used to judge when interest rates should rise.
In addition, Carney emphasised that any future rises would be small ones. Hawksworth said: “The announcement gives some basis for planning. The interest rate is not going to quickly return to pre-crisis levels.”
But he warned that it was worth councils planning for different scenarios where rates might change again or could remaining on hold further to any negative shocks from the Eurozone.
Bell said that the introduction of new indicators, although they would be more transparent, was essentially “a return to normal business” for the Bank of England.
And he was critical about the introduction of forward guidance in the first place.
He said: “After its introduction, lots of resources were poured into examining the unemployment statistics and people discovered its flaws.
“The statistics are a rolling three month average, so lag behind the real economy. It is as if your car’s speedometer told you your speed from five seconds ago.”
Hawksworth agreed, saying that “in many ways, the unemployment was an unfortunate metric to choose”.
However, Bell said, despite its lack of effectiveness in the long-term, forward guidance had helped perform its short-term task of steering the economy away from a triple dip recession.

Councils taking part in last week’s auction of Landsbanki claims recouped £140 million, according to the Local Government Association.
As exclusively revealed by Room151, the majority of councils still owed money by the failed Icelandic Bank took part on Thursday in an auction of their claims to distressed debt buyers.
The LGA said that the result of the auction meant that, overall, local authorities are expected to recoup more than 90p for every £1 put into LBI, Glitnir, Heritable and Kaupthing Singer & Friedlander before the financial crisis.
LGA chairman Sir Merrick Cockell said: “This settlement has enabled a number of councils to fast-track their recovery of money from LBI and avoid any risk of further loss.
“We can justifiably say that the tenacious efforts of local government working together to get this money back have paid off.”
Claims were sold to Deutsche Bank in its capacity as an auction agent. The LGA has decided not to reveal the number or details of successful bidders and individual settlements to local authorities.
Councils had £414 million deposited with LBI at the time of the crash. Prior to the auction, around £225 million had been recovered, which means that £365 million has now been recouped.
Of £1.05 billion deposited in the four failed Icelandic banks at the time of the collapse in 2008, local authorities are now expected to get just over £1 billion back, the LGA said.
The LGA and its legal representatives Bevan Brittan will now work with authorities who did not participate in the auction to settle their claims.
The timing and amount of further installment payments is unknown, and the sterling value of what is received will be affected by exchange rate fluctuations.
According to the LGA, the legal and administrative costs of last week’s auction for councils totalled under 0.4 per cent of the net proceeds received.
One council which took part in the sale, Nuneaton & Bedworth Borough Council, said that it has now recovered 93.2 per cent of the amount it originally deposited with Landsbanki.
In a statement it said: “The transaction removes all uncertainty surrounding the timing of potential future recovery, particularly given that the administration of the insolvent estate of LBI is likely to continue for several years and the fact that future recovery payments may be made in a number of currencies which is less advantageous to NBBC.”
It said it would now use the money received to support its services.

Proposed regulations which could hit local authority investments in money market funds (MMFs) could be scuppered by a decision to delay a vote on the matter during a stormy session of a European Parliament committee.
Last month, representatives of the MMF investment industry, along with investors from the private and public sector visited Brussels to campaign against the changes.
And last week, the European Parliament’s economic and monetary affairs committee (ECON) voted 23 to 15 to delay a vote on the issue, after some members complained that the issue had not been discussed properly.
A statement released by ratings agency Fitch following the vote said: “The ECON committee has a rescheduled vote to finalise draft rules on 10 March. With European Parliamentary elections due in May, it is by no means certain that the previous timetable, which envisaged a full European Parliament vote in April, can be met.”
Michael Quicke, chief executive of CCLA, who was part of the lobbying efforts last month, told Room151 this week: “During our discussions in Brussels, our principal interest was to make sure that the committee was fully aware of the landmine they were putting their foot on.
“What has happened is people are coming round to the fact that there is a real issue here. I think we played a small part in that.”
He said that if the committee continued to find it difficult to reach a compromise on the proposals before European elections in May, the issue would have to be reconsidered by the new Parliament, with the potential that it goes back to the drawing board.
CCLA, along with organisations from other European countries, objects to two parts of the EU’s MMF reform proposals.
Firstly, new rules would require all constant net asset value MMFs to retain a 3 per cent buffer, which objectors believe would mean fund managers would withdraw from the instrument.
Additionally, the proposals would ban retail investors from investing in constant net asset value MMFs – under a separate EU regulation, councils will be considered retail investors from 2015.
Fitch has also pointed to a proposal which it says would prevent MMFs investing in ABCP backed by assets other than trade receivables.
It said: “In practice, this would prevent MMFs investing in almost all ABCP conduits.”
MMFs are considered a safer investment option than a bank deposit because the funds investments are diversified.
During the committee session, Belgian MEP Philippe Lamberts, member of the green Ecolo party, accused those trying to block a vote of “delaying tactics”.
He said: “I am not a finance person but i know enough to tell truth from bullshit. As a legislator, surrendering to the bullying of the industry, I won’t take it.”
But fellow committee member Gay Mitchell, of the Irish Fine Gael Party, pointed out that concerns were not only being raised by the finance industry, but also by public bodies including local authorities.
He said: “We have been asked to vote on something that we don’t know the implications of. I am only asking for time so people have time to understand it.”

Scottish council investments are dangerously concentrated in two banks, according to a stark warning by treasury advisor, Arlingclose.
Speaking at the CIPFA Scottish Treasury Management Forum in Dunblane last week, senior staff from the firm told delegates that councils north of the border need to diversify more to protect themselves against potential future banking crises and bail-in risk.
Figures collated by the Forum reveal that out of £1.32 billion deposited by Scottish councils with banks in December 2013, £681 million, or 51 per cent, is placed with Royal Bank of Scotland and Bank of Scotland. This is up from 48 per cent in 2012.
Mark Pickering, director at Arlingclose, told delegates: “It is very important that you seek to diversify more. The current concentration is worrying.”
He warned delegates that moves by the UK Government and European Union would prevent taxpayers’ money being used to bail out failing banks in future.
A European “bail-in directive” due to be introduced in January 2016 will ensure taxpayers will be last in line to bail out struggling banks and that creditors, according to a pre-defined hierarchy, will forfeit some or all of their holdings first.
The UK government’s bail-in amendments to the Financial Services (Banking Reform) Bill will implement arrangements for the UK in line with the European directive.
Pickering said: “If you are thinking RBS is too big to fail, then you need to think again. You are really on your own now.”
Fellow Arlingclose director Mark Horsfield told the conference that councils needed to consider other low-risk investment options, such as gilts and money market funds.
He added that covered bonds will be excluded from the new bail-in rules and that, ”investing in covered bonds is a pretty sure fire way of getting round the risk of bail-in.”
Figures seen by Room151 show that in December 2013, Scottish councils had £446 million invested with Bank of Scotland and £235 million with RBS. Deposits with the next highest, Clydesdale Bank, were just £52 million.
One Scottish treasury manager at the conference told Room 151: “From our own perspective we try to diversify as much as possible. We have limits on the amount we can put in one bank. It was quite surprising to see that some authorities had investments of up to 80 per cent in these two banks.”

The European Parliament has dropped proposals for the reform of money market firms which had raised fears for council investment strategies.
A meeting of the parliament’s economic and monetary affairs committee (ECON) had been due to vote on the reforms this week, but the matter was dropped from the agenda.
The decision to abandon a vote follows a campaign by investment firms, local authorities and charities across Europe, concerned that the proposals would lead to the destruction of constant net asset value MMFs (CNAVs).
The issue of MMF reform could return to the committee following the election of a new parliament in May, but the delay will mean that members will likely be able to take into consideration the verdict of US authorities, which is likely to arrive before June.
Committee member Gay Mitchell, of the Irish Fine Gael Party, told Room151: “There has been very little effort to meet genuine concerns about CNAVs.
“They would not continue if MMF reform in its current format passed and the majority of MEPs feel this is too big a decision to rush and that CNAVs should continue, perhaps with some ” just in case” safeguards.
“Rushed legislation would be bad legislation and the attempt had been to have it on plenary agenda for April. The majority feel we should leave it to the new parliament to give it timely consideration.”
European elections are taking place in May, which are likely to change the membership of the ECON committee.
If the committee decides to revive the issue, it is likely that it will be able to consider the conclusions of the US Securities and Exchange Commission, which is currently also considering MMF reform.
The SEC is looking at two different options. The first would see MMFs divided into retail and institutional funds. Instituitional funds would have variable net asset values, while retail funds would be able to retain a fixed value.
The second proposal would see the adoption of “gates” which would limit withdrawals once weekly liquid assets fall to less than 15 per cent of total investments for a period of time.

Broxbourne Borough Council has unveiled plans to create a new arms-length company to develop housing for market rent in order to provide a new income stream.
Budget proposals approved by the council at the end of February contained a proposal to set up the firm, which will be known as Badger BC Investments.
The council will lend the company £5 million from its capital budget over four years to acquire land to build new homes, charging a rate of 5% interest on the loan.
A statement from the council said that the investment vehicle would “ensure a better rate of return for the public’s money than can be achieved from a bank or other investments.
“This vehicle will provide much needed rental properties for key workers, for example teachers working in local schools.”
Sandra Beck, head of financial services at the council told Room 151 that the council had agreed to provide £2 million for the venture in 2014/15.
This money would provide 14 homes on council-owned land, spread across the borough, which would take 18 months to build.
She said that the loan would provide an annual income of £100,000 in interest charges from the company.
She said that the scheme would then be expanded to either build new homes or purchase existing properties for market rent.
The business plan for the new venture is set to be considered at the April meeting of the council’s cabinet. The news comes two weeks after the London Borough of Newham agreed plans to create a council-owned company to build at least 3,000 new homes over the next 13 years. All of these homes will be available for residents at market rent or below, with the council providing subsidies to ensure that a third of the homes are set at 80 per cent of market rates.