“Business owners or CEOs should constantly be concerned about maximizing returns on their working capital,” he says. “In any rate environment, really, I think it makes sense to make sure that you are maximizing returns and maintaining the liquidity that is needed for those types of plans.”
Smart Business spoke with Kearns about what business owners and CEOs should consider when thinking about institutional investing and liquidity management.
How much cash is needed to get started, and what percentage of working capital is typically invested?
Traditionally, our institutional accounts are $1 million and above. However, we have many accounts that are in the $100,000 range. In terms of percentages of working capital invested, I would say 100 percent.
This would include liquid institutional money market funds as well as other product offerings that may entail a longer-term maturity but would maximize yield.
What kind of return on investment can be expected?
If you look at the yield curve right now, currently on the very liquid short end, 3 percent to 3.5 percent is a reasonable rate of return [as of the end of July 2005].
What does the current marketplace the rate environment look like? On the short end, the yield curve is very steep. In terms of investment plans, we’re not recommending that they go out very far on the yield curve.
Typically, most businesses stay very liquid and may, depending on targeted capital needs, be able to tie up their money for three months, six months, even a year. Many business owners look at 10-year treasuries and don’t think it makes much sense to tie up their capital long term when value can be added and good rates of return can be achieved on the short end of the yield curve.
What does the current rate environment mean for businesses?
It means they need to be that much more proactive in terms of how they develop their investment policies and how they work with their financial institutions. Because again, it’s important to have a relationship in terms of investment management and financial advice that is profitable.
There are efficiencies that can be gained, even on very short-term investments, that can reap great rewards for a business that is diligent and has a very proactive approach to the marketplace, specific to short-term investments.
How do you create a liquidity-management plan?
Certainly, an investment policy, if one doesn’t already exist, should be put together. Typically, that’s something where a business’s board of directors would determine what types of investments are appropriate for that specific business and in that industry.
Once that’s put together, there are a host of issues that are important to consider, including liquidity issues, investment ratings on various investment products and cash that is earmarked for very specific events that may be coming up.
What strategies should be considered when creating the plan?
The strategy would center on what is most appropriate for the specific business or entity. If a business can only commit to very short-term liquid investments, then the strategy would center on maximizing yield through, perhaps, institutional money markets or overnight repurchase agreements.
If a strategy can call for a certain portion of assets to be invested longer-term, [there are] various products that include option-rate preferred securities, commercial paper, corporate securities, federal agency securities, U.S. Treasury securities and variable-rate notes.
What are some of the pros and cons of these strategies?
One of the pros would be that all of these investments are investment-grade with relatively low risk to principal. The higher the rating on the specific investment, typically the lower the yield in terms of a similar investment with a lower investment rating.
The cons are that some of these investments can be illiquid, although they have a specific maturity. That’s where being proactive and working with the officers of a business to determine what is the most appropriate investment plan comes into play.
Stephen Kearns is vice president and regional manager of wealth and institutional management at Comerica Bank. Reach Kearns at (310) 281-2428 or email@example.com. A national leader in business banking, Comerica Bank has 50 branches in key California markets. Comerica Bank is a subsidiary of Comerica Inc. (NYSE: CMA), with $54.7 billion in assets at June 30, 2005.